Saturday, November 24, 2012

A muddled picture

As the various charts shown below highlight, there has been a complete reversal in direction in many of the major instruments that I follow. The major indices, commodities, and forex pairs I keep track of (but do not trade) as they determine in which direction the bias for my individual stock positions should be.

Trend following systems struggle when the markets are prone to a lack of a clearly defined trend, periods of high volatility or repeated failed breakouts. The markets are currently acting similar to those of this time last year. It should be remembered though that, during January and February 2012, these market conditions totally changed and switched to a stable, trending phase which generated many profitable trends both in the indices as well as individual stocks.

As we have seen, the markets have been strong over the last few sessions, but I would point out that, on a number of these charts, there is still a pattern of lower highs and lower lows in place. Time will tell if this stays intact, or new highs are made in the run up to the end of the year. Some people will be sitting on nice chunky profits after going long late last Friday - trend followers en masse would not be in such a position, as we never try to pick tops or bottoms - we go long on strength and go short on weakness. We are therefore among those who were/are on the other side of the trades which have made profits in the last week.

By the same token, when the market is in a strong trending phase, then the trend followers will be the ones making the profits, and those traders trying to pick the tops or bottoms in the markets will be the ones making the losses.

One thing is for sure though, following periods of non-trending markets, profitable trends will emerge and it is a trend followers' job to capitalise in those periods.

The overall objective therefore (regardless of your trading style or methodology) is to try and minimise your losses during the difficult periods, and maximise your profits during the favourable periods. When an entry signal is given, there is no easy way to identify whether the trade will work or not. Hence, that is why you do not pile 'all in', but utilise only a small percantage of your total equity on that position.

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