Michael Covel is the author of the internationally bestselling book Trend Following

Fundamental Follies

September 29, 2004

Michael J. Martinez, an AP Business Writer, offered commentary about today's market movement:

"Stocks extended their gains into a second day Wednesday as investors digested a jump in the second-quarter gross domestic product while keeping a close eye on falling oil prices. The tech-dominated Nasdaq composite index posted an especially robust advance. Investors saw the Commerce Department report, which said the nation's GDP grew 3.3 percent from April to June, as fairly good news, with a few caveats. While the GDP figure was revised upward from a previous estimate of 2.8 percent, it still marked the slowest period of economic growth since the first quarter of 2003. Consumer spending, however, grew at an annual rate of just 1.6 percent in the second quarter, the lowest level in three years. Economists fear uncomfortably high crude prices, which topped $50 per barrel Tuesday, could further hamper consumer spending."

How can any one possibly attribute one day's price movement, which is most likely random, to all of these great sounding fundamental factors? If you are relying on any of these economic variables for your buy and sell signals -- you are in trouble.

Liquidity

September 28, 2004

Speculators are not the bad guys:

"Some people think of speculative traders as gamblers; they earn too much money and provide no economic value. But to avoid crises, markets must have liquidity suppliers who react quickly, who take contrarian positions when doing so seems imprudent, who search out unoccupied habitats and populate those habitats to provide the diversity that is necessary, and who focus on risk taking and risk management."
Richard M. Bookstaber
AIMR/CFA Institute

Risk Happens

September 26, 2004

We can't avoid risk. It doesn't go away. Consider:

"Markets are an evolving ecology. New risks arise all the time."
Andrew Lo
CFA Magazine

The key to 'risk' is to make sure you have a plan to deal with the ups and downs before you start taking those risky behaviors.

Dreyfus Was An Inspiring Chartist

September 23, 2004

Ken Hoover writes in IBD:

"In his day, Jack Dreyfus was head and shoulders above every other mutual fund manager. In the 12 years he ran Dreyfus Fund, it returned 604%. That was 102 percentage points better than the next best fund. The Dow Jones Industrial Average was up 346% in the same period, according to a 1964 Life Magazine article published at roughly the time he stepped down as fund manager. How did he do it? He read charts. "A stock would be middling along for a while, then it would bust out on the upside. That was usually pretty bullish," Dreyfus said. That's when he would buy. Dreyfus will be 91 in August. He still goes to his office overlooking Central Park in New York every day..."

Be careful when you hear the word 'chartist'. There is no universal definition. Some folks think it means looking at a chart and making predictions. Others properly see it as technical trend followers do: another way of describing reacting to 'price' movement.

Peter Navarro Endorsement

September 22, 2004

"The only two tests of a really good trading book are: Will it help you make money? Will it help you cut your losses. Trend Following passes both tests with flying colors. It has a clarity that is compelling. While it discounts what I regard to be the useful role of macro analysis in understanding the origins of trends, it nonetheless reinforces the most important rule in sound trading -- trade with the trend -- in a way that triumphs. Last take: If you are a quote junkie like me, the quotes alone are worth the modest admission price."
Peter Navarro
Professor of Economics and Public Policy
Graduate School of Management
University of California, Irvine
Author of When the Market Moves, Will You Be Ready?

Non-Correlation

September 21, 2004

Millburn Ridgefield Corporation offers on their site this view of correlation:

Including the Millburn Diversified Portfolio in a portfolio of traditional investments, such as U.S. stocks, U.S. bonds and international stocks may bring the substantial benefits of an attractive return, as well as added diversification. This diversification benefit is observable anecdotally in the adjacent table of annual returns (in which Millburn frequently had high returns in years where traditional assets performed poorly), and statistically in the nearly zero correlation of Millburn's returns with those of traditional assets."

Depending on your objective, trend following trading offers additional benefits beyond absolute returns.

Dust

September 18, 2004

"On Enron Web site: 'Most of the things we do have never been done before.' The most dramatic of those "things" involved turning a $90 per share blue-chip company into a 25 cent per share pile of dust."
Steve Zwick
Futures Magazine

Self-Evaluation

September 15, 2004

Brett Steenbarger recently released a great checklist for traders: PDF.

Expectation

September 14, 2004

"...although it's important to have an effective trading methodology, it is equally important to develop a methodology to determine how much capital to risk. A trader that risks too much increases their chance that they will not survive long enough to realize the long run benefits of a valid trading strategy. Risking too little creates the possibility that a trading methodology may not realize its' full potential. Therefore, while a positive expectation may be a minimal requirement to trade successfully, the way in which you are able to exploit that positive expectation will largely determine your success as a trader."
Dave Stendahl

Reasonable v. Unreasonable

September 13, 2004

"Reasonable people adapt themselves to the world. Unreasonable people attempt to adapt the world to themselves. All progress, therefore, depends on unreasonable people."
George Bernard Shaw

Guilty of Success

September 12, 2004

Do you ever hear the whiners out there? Those people that love to complain and never accept responsibility? Glenn Woiceshyn reminds us all of their motivations:

"Most people today, including most businessmen, accept the tenet that greed as such is evil. This obliterates the life-and-death moral distinction between those who create their wealth and those who loot it, and is rooted in the ethics underlying socialism -- altruism and egalitarianism. Altruism tells man he must sacrifice himself to others, which leads to the egalitarian dictum that wealth should be forcibly equalized regardless of effort and ability. As Ayn Rand argued, egalitarianism is a perversion of justice and a vicious assault on ability, and is motivated by something even more evil than envy, "hatred of the good for being good. This hatred motivates people to sneer at, criminalize and humiliate men and women of ability and success -- using "greed" as a rationalization."
Glenn Woiceshyn
Capitalism Magazine

The Market-Timing Myth

September 11, 2004

David Kathman of Morningstar.com recently offered:

"Naturally, every investor would like to know what the market is going to do. But world financial markets are incredibly complex systems, with millions of people all trying to gain an edge. Lots of those people try to predict where the market (or various segments of the market) will go...the records of prognosticators...on the whole, pretty terrible. William A. Sherden's 1998 book The Fortune Sellers goes through a grim litany of studies and anecdotes that illustrate what a bad job even the "experts" have historically done at predicting economic and market trends. The experts who most accurately predict inflation or interest rates one quarter are just as likely to be among the least accurate the next quarter. Elaine Garzarelli made her reputation by predicting the 1987 stock market crash, but then made a string of wrong market predictions over the next decade."

Wise wisdom? Of course. Do people follow it? Not exactly!

Choice

September 10, 2004

Interesting read from The Washington Post on "choice": PDF.

Larry Connors Endorsement

September 09, 2004

"Michael Covel's book is the definitive guide to trend trading. Backed by real world results from some of the biggest and best money managers in the United States, his book will put you on the path to successful trend trading."
Larry Connors
CEO, TradingMarkets.com

Laurence A. Connors is the Chairman and CEO of The Connors Group, Inc., a financial markets information company that he founded in 1998 and which operates the TradingMarkets.com website. He is also the Managing Partner of Connors Capital, L.L.C., a private investment company. Mr. Connors has authored a number of top-selling books on market strategies and volatility trading.

Money

September 08, 2004

A interesting excerpt that arrived today:

"Money isn't everything. It's the process that matters, not the prize. It is much more satisfying to pursue objectives for the pure joy of pursuing them, regardless of how much money you can make. Winning traders are motivated by the inherent rewards of trading rather than profits. It's common to hear traders say, "I love trading so much that I would do it for free if I had to." They find trading personally meaningful. The markets fascinate them. Market action is intrinsically interesting. It is a rewarding intellectual challenge to devise innovative new trading strategies, and seeing how well your ideas pan out is exciting and enjoyable, regardless of whether you win or lose. Viewing trading from this perspective can act as powerful motivators. Individuals who pursue trading in this way are more likely to feel satisfied and can more easily manage the extreme stress the market is infamous for producing. When you aren't focused on the profits, it's easier to stay calm and focused. The money is either secondary or not an issue at all. Successful traders love the challenges the markets offer and view their work as meaningful. But many novice traders focus on competing with others, beating them out of profits, and winning bragging rights. Such an approach may satisfy a trader initially, but over time, it's unlikely to be sufficient. Pursuing trading as a passion is a healthier, more satisfying way to approach trading. It's more useful to focus on pursuing goals that are intrinsically interesting and personally meaningful."
Innerworth.com

Now of course, the goal of trading is to make money. No money and you will not be around long. But this excerpt is a reminder that great traders don't wake up each day stressed that they must make money. He wakes up and says he is going to follow his process -- which leads to money. Also for many of the great traders, money is a way to keep score, not a means to buying "stuff".

Also read.

Accuracy Is Not the Goal

September 07, 2004

A reader wrote here recently hyping another book he was reading:

"...there is a chapter on why trend forecasting beats trend following...He is trying to reduce the lag and retain the benefits of moving averages. So yes he is forecasting, but says his prediction computer program is 70% accurate."

Accuracy goals are false. Think about it. You can be 70% accurate and make pennies per trade, but on the 30% of your trades that are losers, you can have monster losses. Promoting that you can predict a certain accuracy is a false prophet.

Why does prediction fail?

Ed Seykota (www.seykota.com) stated clearly in a recent update:

"In trading and in life, you cannot act in either the past or future; you can act only in the moment of now."

Complex Chinese Translation

September 06, 2004

A deal to translate the book Trend Following into Complex Chinese has been signed. Pearson Education Taiwan is the publisher. A translation of Trend Following into Simplified Chinese was signed in August 2004.

Ignore Sunk Costs at Your Peril

September 05, 2004

"There are several psychological forces that tend to keep people committed to a course of action long beyond the point when they should rationally quit. The first is the sunk cost fallacy. This can be seen in the actions of the stock market investor who has watched share prices of a company plummet from $60 to $20. At this point, instead of objectively assessing the potential of the stock, the investor may hold onto this stock--or buy more shares--in hopes of regaining these "sunk costs". But if the company is collapsing, there will just be more losses."
Yoram Wind & Colin Crook with Robert Gunther
The Power of Impossible Thinking

"Sunk costs" are also discussed on p. 185-6 of Trend Following.

The Zurich Axioms

September 03, 2004

Max Gunther set forth basic trading principles called The Zurich Axioms:

On Risk:
- Worry is not a sickness but a sign of health - if you are not worried, you are not risking enough.
- Always play for meaningful stakes - if an amount is so small that its loss won't make any significant difference, then it isn't likely to bring any significant gains either.
- Resist the allure of diversification.

On Greed:
- Always take your profit too soon.
- Decide in advance what gain you want from a venture, and when you get it, get out.

On Hope:
- When the ship starts sinking, don't pray. Jump.
- Accept small losses cheerfully as a fact of life. Expect to experience several while awaiting a large gain.

On Forecasts:
- Human behaviour cannot be predicted. Distrust anyone who claims to know the future, however dimly.

On Patterns:
- Chaos is not dangerous until it starts to look orderly.
- Beware the historian's trap - it is based on the age-old but entirely unwarranted belief that the orderly repetition of history allows for accurate forecasting in certain situations.
- Beware the chartist's illusion - it is characteristic of human minds to perceive links of cause and effect where none exist.
- Beware the gambler's fallacy - there's no such thing as "Today's my lucky day" or "I'm hot tonight".

On Mobility:
- Avoid putting down roots. They impede motion.
- Do not become trapped in a souring venture because of sentiments like loyalty and nostalgia.
- Never hesitate to abandon a venture if something more attractive comes into view.

On Intuition:
- A hunch can be trusted if it can be explained.
- Never confuse a hunch with a hope.

On the Occult:
- If astrology worked, all astrologers would be rich.
- A superstition need not be exorcised. It can be enjoyed, provided it is kept in its place.

On Optimism & Pessimism:
- Optimism means expecting the best, but confidence mean knowing how you will handle the worst. Never make a move if you are merely optimistic.

On Consensus:
- Disregard the majority opinion. It is probably wrong.
- Never follow speculative fads. Often, the best time to buy something is when nobody else wants it.

On Stubbornness:
- If it doesn't pay off the first time, forget it.
- Never try to save a bad investment by "averaging down".

On Planning:
- Long-range plans engender the dangerous belief that the future is under control. It is important never to take your own long-range plans or other people's seriously. In essence these axioms point to the benefit of having an investment strategy and sticking to it, regardless of what other investors say or do. If you don't have an investment strategy, you could do worse than adopt these principles. However, don't be afraid to add or subtract ones according to what works for you.

Absolute Returns

September 01, 2004

This PDF offers good food for thought in regards to absolute return investing styles. It also offers some nice motivational images for traders.

John Boik Endorsement

"Trend Following is a great resource for all future successful traders. It covers the four bases of successful trading using real-world success stories:
1.) Follow the trend of the market; don't waste time trying to predict it
2.) Have sound money management rules, especially a strict loss-cutting policy
3.) Be disciplined by implementing proven trading rules
4.) Have the patience to wait for the right opportunity
Michael Covel has hit for the cycle with Trend Following."
John Boik
Author of Lessons from the Greatest Stock Traders of All Time