To Become A Good Trader, Learn This Essential Skill

• August 13, 2004
• Mark Boucher

Murky Waters
Remain

 

Although it is frustrating, we
continue to recommend a cautious stance toward equities, and allocation to other
asset classes in general.  Despite some breakdowns and some relative
opportunities, we believe the waters remain murky enough that a strong odds
opportunity in the market is not upon us.

 

Global economic forces are
clashing as the global economic recovery decelerates.  Is this the end of the
liquidity induced recovery fostered in 2003, or was that self-sustaining and
this is just a slowdown of the growth level that will continue?  It is difficult
to say at this point.  Clearly the adjustments that occur in a typical recession
were not allowed to run their course in the short-circuited recession of
2000-2002, as the Fed preemptively cut rates and the US central government as
well as most global ones stimulated with massive fiscal policy stimulus.  Will
the kick-started engine run on its own now or not?

 

Confusion and uncertainty reign
supreme and few trends exist in any asset class.  Commodities, bonds, and
currencies corrected 2003’s big moves early this year and have been in a trading
range since.  Global equities are declining under the weight of higher oil
prices and uncertainties, but downside breadth is not hugely impressive.  Oil
prices continue to run up, even while oil equities turn down, and uncertainty in
the Middle East is a huge wild card.  It is obvious to most observers that the
odds are high of attempts at terrorism in the US before the election, but when
and where, and will it be successful?  The Fed seems to think little of the
turndown in global economic growth at this point and is still raising rates —
but his lip service seems to indicate that with enough downside in stocks and
the economy he will change course quickly, putting a floor under equity
declines.  Nonetheless a minor policy error could occur on either side here and
the Fed has indicated that it has no real grasp on where stimulus stops except
for market and economy reaction.  A riot point therefore may be needed to be
reached before equities stop sliding and it may be difficult for a sustained
advance to develop until the Fed indicates it will not tighten further.

 

 

 

Thus the global deceleration is
a very confusing phase for markets.  As the great W.D. Gann stated clearly, to
make money consistently in the markets, “when in doubt, stay out, and don’t get
back in until you’re sure.”  There’s enough doubt and risk that we continue to
advise mostly staying out.

 

Our model portfolio
followed in TradingMarkets.com with specific entry/exit/ops levels from 1999
through May of 2003 was up 41% in 1999, 82% in 2000, 16.5% in 2001, 7.58% in
2002, and we stopped specific recommendations up around 5% in May 2003 (strict
following of our US only methodologies should have had portfolios up 17% for the
year 2003) — all on worst drawdown of under 7%.   This did not include our
foreign stock recommendations that had spectacular performance in 2003. 

^next^

This week in our Top RS/EPS New Highs list published on TradingMarkets.com, we
had readings of 12, 3, 5, 12, and 12 with 7 breakouts of 4+ week ranges, no
valid trades and no close calls.  Upside breadth has backed off yet again, and
downside breadth is now expanding to nearly decent shorting levels.  Position in
valid 4+ week trading range breakouts on stocks meeting our criteria or in close
calls that are in clearly leading industries, in a diversified fashion.  This
week, our bottom RS/EPS New Lows recorded readings of 36, 89, 77, 31, and 57
with 30 breakdowns of 4+ week ranges, no trades and close calls in AMLN and ICCI. 
We’re still not getting a lot of trading signals in valid breakouts, though the
environment is improving slightly on the short side.

For those not familiar with our long/short strategies, we suggest you review my
book

The Hedge Fund Edge, my course “The
Science of Trading,”

my video seminar, where I discuss many
new techniques, and my latest educational product, the

interactive training module. Basically,
we have rigorous criteria for potential long stocks that we call “up-fuel,” as
well as rigorous criteria for potential short stocks that we call “down-fuel.”
Each day we review the list of new highs on our “Top RS and EPS New High List”
published on TradingMarkets.com for breakouts of four-week or longer flags, or
of valid cup-and-handles of more than four weeks. Buy trades are taken only on
valid breakouts of stocks that also meet our up-fuel criteria. Shorts are
similarly taken only in stocks meeting our down-fuel criteria that have valid
breakdowns of four-plus-week flags or cup and handles on the downside. In the
U.S. market, continue to only buy or short stocks in leading or lagging
industries according to our group and sub-group new high and low lists. We
continue to buy new long signals and sell short new short signals until our
portfolio is 100% long and 100% short (less aggressive investors stop at 50%
long and 50% short). In early March of 2000, we took half-profits on nearly all
positions and lightened up considerably as a sea of change in the
new-economy/old-economy theme appeared to be upon us. We’ve been effectively
defensive ever since, and did not get to a fully allocated long exposure even
during the 2003 rally.

Uncertainty is not good for markets or trading.  Yet recognizing when the odds
are not favorable and not risking money during these times is one of the most
critical skills of a good trader.  Sometimes it is hard to be patient, but wise.

Mark Boucher