The Observer Effect

If I were to answer why I started to blog about trading I would begin with where I left off long ago, the desire to write. Through trading I wanted to satiate an appetite that was better left suppressed and hungry, my creativity. I believe being clever and coming up with something novel is a consistent theme in the early stages of trading and instead of pursuing the path to riches, the highway of brilliancy is sped down like the autobahn. I thought for a while I could come up with some unseen nuance to the market that would give me an edge that 10,000 Ph.D.'s monkeys with 10,000 supercomputers had not found. Eventually rationalization set in and I realized this energy was better spent elsewhere and it was time to return to writing.

I thought blogging would be a disciplined process of journaling, something that I could do for enjoyment as well as being a trail of bread crumbs that would lead me to the fruits of my labor: some edible and some rotten. One of the difficulties I've found in penning on paper is the inability to search key words or find key graphs and images that tell a story. I've tried to compensate by using different colored pens and drawings to highlight important sections to return to but I honestly rarely do. In addition to a number of sketch books inked from front to back there are thousands of files on my lap top to peruse as well, but often these documents do not see the light of day. It's too easy to stow these away as if they were a legend of antiquity, only to be opened for ritual or ceremony. By publishing some of my notes and thoughts publicly there would be an audience that at anytime could access them which gave me the sensation of some exposure. I felt that my ideas were no longer under lock and key rattling around my skull but open to rebuttal and feedback.

There were some unintended consequences of all this as well. I began to suffer the observer effect. Besides simply expressing some ideas I started to become those ideas, or felt responsible enough for those ideas that even if I changed my perspective or view a few days later I had an obligation to abide by them regardless. I was becoming self-aware of the process itself and seeking validation in the number of responses or hits for encouragement to continue to post at all and if so, to post what was getting the most views rather than where I was heading as a trader. It was becoming a self-referential cycle that was actually stagnating me somewhat as I was morphing into a composite of my most read pieces, some of which were mostly experimental or merely thought exercises.

What this led to was a decision to stop blogging for a period and take a step back. To stop journaling as much and take another step back. To stop thinking so much and take a further step back until I was a few yards outside myself observing the observer. From this vantage point I started to turn the self-awareness into mindfulness and instead of constantly writing free-flow association of the process of me doing, I merely jotted down a few notes daily of what I observed myself doing and what was most significant to begin changing. Instead of having an essay I simplified into haiku form and posted an index card next to my lap top as a daily reminder of the two to three trading task that were most important for me to instill into habit over a 28 day cycle. Everything else was stripped out and streamlined so that these few task took precedence above all else.

In the end I realize there is little difference between what I observed from what I've been writing down over the past couple of years. The primary distinction is that one is through my eyes and the other the projection upon my eyelids. One vision was trying to tackle everything imaginable and the other is trying to resolve what is manageable. One is who I am in general and the other through cohesion and conciseness. Sometimes moving one step forward requires three steps back.   

Whiplash I Was Taking a Bath

Some valuable lessons were learned this past week. It would have been more agreeable to me had the short signal on TNA worked, but when it failed I was conditioned sufficiently by this market to buy the dip even though in the back of my mind I was suspicious of each and everyone. Suffice to say all the positions I took failed but at least I salvaged some capital by exiting two at break even while taking losses on the remaining. In retrospect it would have been better to remain on the sidelines, but that is no longer here nor there because as traders the market in front of us is the only information available.

What this got me thinking about is how much noise I allow into my process and how much of it is beneficial versus detrimental. This is a fine line when beginning this journey and one I've clearly not come to a conclusion about. Up to a certain point it's a necessity to branch out and absorb as much information and data as possible. This is learning. However, in the constant pursuit of market knowledge, eventually there must be a reliance upon one's own beliefs and signals. It's all too easy to be assuaged by the comments of others or dissuaded of one's own thoughts due to a constant barrage of disseminated information. It's not an easy answer finding out when this is.

Nasty Pitch

The last few days I've felt like I've been in a batters box against my home team facing their elite staff throwing nothing but the nastiest arsenal of sliders, curves, two seamers, splits and brush back pitches. What can you do after getting spun into the dirt from a 2-8 curve than get back up and brush yourself off for the next one to fall into your zone.

It's a useful reminder that the market can do anything at any time and this is one of those times when everything that seemed so clear is now fuzzy and out of focus. Everything I follow screamed correction and just when I was positioning myself to take advantage of this the floor didn't fall in but levitated, negating most of my ETF sell signals today and bringing the Russell and NASDAQ back to the forefront. I felt like this was strike two swinging like a whirling dervish, so the only thing to do is stand up and brush off and look at what is happening now.

With the NASDAQ breaking out of it's range up 1.83% on higher volume and new 52-Week highs while the Russell rebounded 1.8% today and is approaching fresh highs as well, I consider all my bearish signals negated. The strength of today's move is further evident as both of these indexes closed near the high of the the days range, giving nothing back. The only rational thing to do is admit I am mistaken in believing the market is correcting, change my opinion, and look for opportunity on the long side.  

COMP

RUT

I didn't have much difficulty finding stocks I was interested in being in as I have continued to upkeep my watch list. The stocks that I choose today were LCI, PRLB, a low priced lotto RVLT, SAIA, and SMP.  My position size on these was slightly smaller than usual because I don't know if there is another nasty pitch waiting for me tomorrow or not.  I'll observe how these and the general market act over the next few days before committing myself further.  

LCI

PRLB

RVLT

SAIA

SMP

TNA Short Signal

Today the signal I've been studying using a GMMA crossover married with 2-Month momentum signaled a short on the TNA. The principle behind this signal is that the GMMA crossover indicates a change in trend while waning momentum indicates weakness in price. One of the primary reasons I'm looking at using a trend filter is that with the exception of day trading 3x ETFs, the best way to play them is directional.  If there is no direction, trying to trade them in a flat market offers poor risk/reward, but if there is a direction these can offer significant returns when managed properly.  Since July 2011 there have been 6 short signals: 07/28/11, 03/06/12, 04/04/12, 07/24/12, 10/10/12 (10/18/12 is ambiguous since there was a GMMA crossover, but no positive momentum shift), and today.  . 

TNA Short Signal

I keep in mind that TNA is a derivative of the Russell so for comparison this index should most likely be the preferred signal for taking a TNA short, or at least used in conjunction. On the Russell the signals came on 07/14 (false signal), 07/27/11, 11/21/11, 12/14/21, 03/05/12, 04/05/12, 07/24/12, 10/9/12, 10/19/12 (ambiguous due to above issue with TNA), and 04/03. There's a difference of 3 signals between using the Russell and TNA, but a noticeable pattern is that the Russell signal coinciding with or followed the next trading session by a TNA confirmation signal has more reliability.

Russell 2000

Also worth looking at quickly is the TZA which produces few signals and those that it does are not particularly effective or long in duration with the exception of the short signals which makes sense due to the internal structure of this leveraged ETF. 

TZA

Top Performers Q1

With the market in pullback mode and perchance correction mode, I'll be paying attention to a basket of liquid stocks that showed the best relative strength over the first quarter of 2013 for their price reaction with the expectation that those that hold up the best will be the better vehicle selection for the next leg of the drive.

 

ETF Short Pattern Using GMMA and Momentum

One of the goals I've set for myself this year is to improve my edge taking advantage of the short side of the market. One of the difficulties I've found in shorting has been vehicle selection. A second problem is that it is counter-intuitive to what I've been training myself to do, which is to maximize my potential when the market is conducive to being long. Switching my frame of mind on a dime creates internal confusion. So, to accomplish my goal I've opted to simplify the process and use ETFs.

Once I settled on a vehicle selection I started to think in terms of my time frame. On the long side I'm primarily a swing trader with a max time frame of 10 days for a position to prove itself, but on the short side I've been looking at extending my time frame to compensate for the gyrations and counter-trend rallies that occur in declining markets.

To resolve this I started looking at a set-up that marries declining momentum with a signal that a downtrend is underway. For the momentum period I'm using 2 months, and for a signal I'm using a GMMA cross. What I'm looking for as an entry signal is when the momentum turns from positive (as denoted by the green area at the bottom of the chart) to neutral (yellow) or negative (red), coupled with a cross over of the GMMA.

Here are a few recent examples of the pattern.

YINN signaled a short opportunity on 02/06

YINN

EDC signaled a short opportunity on 02/06

EDC

SOXL signaled 04/02

SOXL

ERX signaled 04/03

ERX

A Tale of Two Index

While the SP hit a fresh high today and comes within 6 points of its all time high set in 2007, the Russell continues to lag and has gone 11 sessions without making a new high. In addition, after yesterdays 1%+ drop on the index there was follow through to the downside. Over the duration of the move off of the November lows both of these indexes have moved lock-step overall and have tended to dip below the 10MA during the same minor pullbacks until this week.

Russell

SP

Also of note today two ETFs of printed their highest volume over a years time, FAZ and TZA. I take this with a pinch of caution because both had reverse splits so this may have had some influence upon the days trading. The simplest confirmation of today's volume being significant from my perspective would be rising prices.

FAZ YHV

TZA

Looking at the SPY, the pattern over the past three years has been fairly consistent with a market correction in Q2 and usually starting around April. It remains to be seen if this pattern repeats but it's worth keeping in mind.

SPY