Trading the downside - remaining faithful to the process

The last couple of months have been very positive as profitable downtrends have appeared in a number of stocks, both at home and abroad. Fortunately, I have been able to profit from some of these (while suffering small losses in a few others!), and while some which developed into downtrends have now triggered their exit signals, prices in others have remained in a downtrend.

This has potentially meant I may have been able to profit from the downwards move while those who trade longer-term trends have had to suffer an erosion of open profits, or even suffering losses, from a pullback or retracement within the context of a prevailing longer-term uptrend.

Examples of opportunity loss

Suppose you have a situation where you take an entry signal only for the position to go nowhere, so you end up getting frustrated and close the trade. The next thing you know, the stock takes off in the direction you were attempting to trade, leaving you left on the sidelines. What have you lost? 

Some people would say that, as you haven't lost anything, you should simply move on and concentrate on what is happening in front of you now.

While I agree with the fact that you need to move on, I would  disagree with the point about not having lost anything - there is an opportunity loss incurred. 

Keep your eyes open for stocks bucking the trend

As a breakout trader, I only ever go long on new highs, or go short on new lows. Therefore, while the longer-term trend in the general market is still intact, the recent pullback or consolidation (not only in the major market averages, but more importantly in lots of individual stocks), in theory makes it difficult for me to participate.

One of the reason I am continuing to run through my scans and keeping my watchlists up to date is that you may find individual stocks that are bucking the trend, so to speak. 

My biggest loss in 4 years

So, let's not beat around the bush. This morning I suffered my largest loss on a single trade since the summer of 2013.

As of yesterday's close, the position was +1.13R in profit. Within a few seconds of the market open, I was stopped out for a -1.95R loss.

S*@t happens. Let's look at the chart:

Choosing not to play - how one trader approached the EU referendum

"Systems trading is ultimately discretionary. The manager still has to decide how much to risk to accept, which markets to play, and how aggressively to increase and decrease the trading base as a function of equity change. These decisions are quite important - often more important than trade timing." - Ed Seykota

Two weeks have past since the result of the EU referendum here in the UK was announced.

Longevity is the key to success

For a trend follower, the lack of decent trends over the last couple of years or so in the stock markets was perhaps expected - 2008 on the downside, followed by 2009 and 2010 on the upside were fertile periods to profit from price trends. 2011 was a difficult year for me, whereas 2012 and 2013 offered favourable conditions.

Thoughts on what price action to focus on, timeframes and parameters

I've talked in the past here about how the indices are constructed, and given an argument as to why you may want to avoid following them 'parrot fashion'. It generated some interesting comments from readers, so it is worth a read.

Remember that, if you trade individual stocks, you are trading just that, and not the stock market as a whole. This point may well be anathema to a lot of people who trade using a 'top down theory' of analysis, and that's fine. I am simply putting forward a different point of view or belief.

Time for a rant

It's been a while since I had a rant, but I'm always astonished when I come across some articles like I've read over the last few days relating to the market drop since the turn of the year.

You get the usual comments from people who have lost money - ban short selling, ban hedge funds, the brokers are working in cahoots with the hedge funds, the market's rigged etc...

Looking backwards to go forwards

The last few weeks have been a total washout for me. The volatility in the market (and in individual stocks) meant that I was getting hardly any setups to consider, let alone take - in either direction. As someone who follows price trends, this was a concern. The majority of stocks, as well as the general market averages have been trending downwards, so why was this?

Oprah Winfrey and Weight Watchers

In my last post, I talked about putting on very few positions recently. Those who have checked out the trade list will have seen that one of the few was US stock Weight Watchers International Inc. 

Having been starved of many trading opportunities due to the market volatility, I was hungry to get back into the market. This came up on my scans a while back and when it triggered an entry I duly entered a position in mid-September (see chart below). As it turns out, my stop got hit triggering a modest loss a few days later.

Learning from past mistakes - and the markets

For those who have not traded through such a period in the markets before, you have been all geared up for an important educational experience over the three months or so. We have seen a big jump in volatility, combined with a sharp move to the downside followed by a 'V' shaped reversal in the general markets. Ideally, when experiencing these changes in the market state you want to keep your tuition fees as low as possible.

Why I'm on the sidelines

Readers may be wondering about the lack of trades taken and shown here over the last 2-3 months.

Well, that is because of a number of points, some of which have been mentioned several times on previous posts. These are summarised below:

2015 - any parallels to 1987?

As a trend follower, I'm not in the business of making predictions - I follow where price goes. Elaine Garzarelli I am not. Also, predictions can easily blow up in your face if you are proven wrong. On this post, however, I am simply observing and pointing out a few comparisons between what is happening now and what occurred twenty eight years ago.

So what happened in 1987? 

• The crash followed a recent move down from all-time highs made a couple of months earlier;
• There was an international situation which contributed to the price move - in this case, it was the spat between James Baker and the Germans;
• Price accelerated to the downside throughout the week, culminating in a big drop on the Friday on heavy volume.

Reviewing your trading beliefs and rules

I had an interesting conversation the other day with another trader about their own beliefs in the markets, and how following these can help or even hinder you as a trader.

My own opinion (or belief!) is that whatever rules you have created are an attempt to formulate your own beliefs into a viable trading strategy. Those basic beliefs give you a framework, or an outline of the overall concept about your approach to the markets, and the specific rules you use add the meat to the bone of your basic idea.

I'm sitting tight in these...

Despite the Dow and Nasdaq indices giving short signals a couple of days ago, I did not follow them and start switching my bias to the short side. Why? Because my existing long positions were holding up (refer to this post for more), combined with the uncertainty over the US and its 'Fiscal Cliff'. As a result, 2013 has started for me in positive fashion.

Fiscal cliff and other market unknowns

The buzz words or phrase that everyone is referring to at the moment is 'Fiscal Cliff', and the possible impact it will have on the US economy, as well as the markets.

As it happens, the US indices have performed an abrupt about turn over the last few sessions of the year, and are now on short signals. Perhaps unsurprisingly, the major European indices are showing greater strength, but are also being dragged down in concert.

Acceptance of losses

When people make a profit from their trading activities they like to say "I was right". Yet when the same people lose money, or a position goes against them, they like to say "The market is wrong".

Accepting that you can (and will) make mistakes, or simply be proven wrong when putting money on the line is a critical phase in the development of a trader. Failure to accept you are wrong on a position will end up with small losses growing into bigger losses, and in extreme cases to a significant erosion of your capital, or even blowing up your account.

New testimonial

The beauty of a robust trend following methodology is that it can be applied to any market, in any part of the world. I have spoken to other traders (both new and experienced) in the UK, the US and the Far East, who are now applying it to their own local stock markets, as well as the other main markets around the globe. Tonight I received the following testimonial from a new trader in the Netherlands:

The trading process

The whole 'life' of a trade, and how a trader executes it, can be broken down into the following series of steps:

• Observe the markets, keeping an eye out for potential opportunities;
• Identifying a potential opportunity that matches your entry criteria and risk profile;
• Open the chosen position (including simultaneously placing an appropriate initial stop level to exit the position without significantly damaging your equity);
• Managing the trade throughout its life (converting your initial stop into a trailing stop as the trade progresses);
• Exit the position;
• Review - Evaluate the trade to ensure that all the criteria of your strategy were adhered to.

The long and the short of it - reviewing trading performance

When it comes to reviewing my own trading performance, I try to be as objective as possible, therefore this summary will be in the same vein. When doing this exercise, my main concerns are to ensure that:

• I have obeyed my risk parameters, both in terms of individual trades as well as in terms of my portfolio;
• I have attempted to keep to a bias in my positions that coincide with the direction of the indices;
• The trades on entry satisfied the various criteria I stipulate;
• Stops are placed and updated correctly and observed when price hits them;
• That I have not made any irrational, emotion-driven snap decisions and overridden my system rules in any way.