Reading to kick start new week

Bespoke:

Country Stock Market Performance Year to Date

Memorial Day Week Market Performance

David Fry:

Very nice look at Friday’s action!

Markets Back Off on Spain Downgrade

SMB:

One more good read from folks at SMB!

Ten Mistakes by BP a Trader Should Never Make

The Big Picture:

Take a look at Gold!

Gold Relative to S&P500 (1928-2010)

Reading to end work week

Afraid to Trade:

So… Why Exactly is Technical Analysis Important?

Will February SP500 Pattern Repeat and Show the Future?

The 1100 Level on the SP500 May 27

Au.Tra.Sy. blog:

Very good read and useful calculator!

Your worst Drawdown is yet to come

Bespoke:

Emerging Market vs. G7 Public Debt Levels

Yesterday's New Home Sales Report

Bearish Sentiment Spikes

S&P 500 and Sector Breadth

Ray Barros:

BarroMetrics Views: Ebb & Flow Management

CXO:

Very good and very thought provoking!

Exploiting the Predictability of Volatility

David Fry:

Window Dressing

Engineering Returns:

Fresh and crisp reading!

Trend following and global stock market health

MarketSci:

Memorial Day and the Stock Market

Reading the Markets:

Can a trader’s life be meaningful?

The Big Picture:

Unemployment Rate Correlation with Mortgage Delinquency

The Talent Code:

Building a Leader’s Brain: The Underdog Plan

Quantum Financier:

Volatility Autocorrelation in Different Markets

VIX and MORE:

The Vix, Rule of 16 and Realized Volatility

How to develop trading system - part 3

So, after we decided what we are going to trade (South African ALSI futures) and what software and data feed we should use, we are ready to go into more depth and think about what kind of trading approach we shall pursue.

There are two basic trading approaches:

1. Trend following

2. Mean reverting

The most common method of system trading is the trend following trading. In its most fundamental form, this approach simply waits for a significant price movement, then buys or sells in that direction. This type of trading approach banks on the hope that these price movements will maintain the trend.

Systems based on trend following can be designed around two basic indicators: moving averages and price breakouts.

Moving averages are probably the most used indicator in trading. They show average of the price over predetermined period of time. There are many variations of moving averages and more could be found if you just do some Internet searching and reading on this vast subject.

There are two ways to determine start of the new trend with moving averages. One is simple crossover and the other is penetration of the moving average. In the first instance when faster moving average crosses above slower, new trend is determined and you should take new position. Second one is penetration - when you just need one moving average and price. Close above or below moving average will determine trend and position should be taken accordingly.

The fundamental concept behind price breakout systems is similar to that of a moving average system. The idea is that when a new high or low is established, the price movement is most likely to continue in the direction of the breakout. One indicator that can be used in determining breakouts is a simple Bollinger band overlay. Price breakout tactic was used by famous “Turtle Traders”. Used time periods were 25 and 50 days highs.

Trend following trading systems will always be lagging in nature. They can never hit the exact top or bottom of a trend, as trend followers don’t try to pick bottoms and tops. This inevitably results in a forfeiture of potential profits, which can sometimes be significant. What we at ALSI TRADER are trying to do for the most of the time is to catch the middle part of the trend. We will gladly leave few points on the top and bottom for somebody else.

Other way to approach trading systems is around mean reverting concept or trading countertrend moves. Basically, the goal with the countertrend system is to buy at the lowest low and sell at the highest high. Last ten or so years in United States, markets were following mean reverting principal and one of the most used indicators was relative strength index with period 2. There is lots of reading on the web about this, so please go and read if you are interested.

The main difference between mean reverting and the trend following systems is that the countertrend systems are not self-correcting, meaning that trend following systems will give you new signal when trend changes and one should go out of trade and change position. With mean reverting systems one must have hard stop, because market can just continue to go against you.

As far as ALSI TRADER is concerned, South African markets are very much trend following markets and future posts will stay on the track of that trading approach.

There were some e-mails asking me to hurry on this topic and post everything at once. One should understand that this is very sensitive topic and lots of thinking must be implemented on reader side as well. In each of three posts I’ve gave several directions for reading on related subjects and honestly I would really appreciate if all readers invest time and energy in education, as my posts can just touch several points of system design, while in-depth analysis is always going to be required.

Many decisions are to be made and please stay with us. At the end, we will have nice trading system that can be used and I am looking forward to develop it together with you as we progress.

For more information look at previous posts:

How to develop a trading system – part 1

How to develop a trading system – part 2

Trade with trend!

Reading to kick start new week

Afraid to Trade:

Year Long Chart View of Key Support in GS and JPM

The Arc Pattern and Support Test in Gold

Bespoke:

Sector and Stock Performance Since the 4/23 High

David Fry:

A Wild End to a Wild Week

The Big Picture:

Federal Debt as a % of GDP

Top Tax Rate? Socialism

S&P 500 Rally Draw Downs

Top40 - end of the day recap for week ending on May 23rd

For last several weeks volatility is the name of the game for the JSE. Top40 had another down week, closing 961 points lower and on Friday at one stage it was down by 1442 points. First two days were with slightly positive bias for the market, but then from Wednesday real selling came in. Thursday brought, after many months, more than 1000 points daily range with solid close below 200 simple moving average. On Friday market went up initially, just for bears to come in and push it lower. Top40 tested long term support at 22900 and luckily for bulls it bounced from there. Even Top40 broke low from early February and it managed to close above. Also, bulls should be worried by Top40 having two consecutive closes below 200 simple moving average for the first time in more than a year.

So, what we can expect in a week to come? Market will probably rally from these levels and test 200 simple moving average and trend line that is currently around 24500. Positive divergences on Relative strength index and Stochastic are pointing to that. However, after that we could see another downslide that should test horizontal support at 21500, what is at the same time target for broken channel.

Please be very cautious out there.

Moving averages, which help us to determine long, medium and short-term trends:  

• long-term (200sma) - DOWN
• intermediate (89sma) - DOWN
• short-term (10ema) - DOWN

Trade with trend!

End of the week reading

Afraid to Trade:

SPY Forms Interesting Intraday Trend Channel May 19

Bespoke:

Not Everything is Bad Out There

Oil to Natural Gas Ratio Comes In

Worst Earnings Season in at Least a Decade for Stocks

Sector Breakdown of Earnings Day Performance

CXO:

Does Volatility Selectively Filter Good and Bad Days?

Bubbles: Ride, Watch or Play the Pop?

David Fry:

Markets in Turmoil: Dave's Daily

Market Sci:

The Golden Cross: Daily vs Weekly vs Monthly

Quantifiable Edges:

From1% Up Intraday to 1% Down Close

SMB:

Sectors and Money Flows Revisted

The Big Report:

What’s Up with Goldman Sachs?

1987 Redux: Impossible or Likely?

National Debt by President

NASDAQ Cumulative Volume Trends Negative

The Kirk Report:

Excellent read!

Stubborn Determination & Confidence

Vix and More:

Chart of the week

Volatility and Wide-Range Days with Neutral Closes

Top 40 60 minutes chart

Just as I am typing this Top40 is breaking support around 23450 and is going for the next one which is in the 22900-23100 region (double red horizontal line).

If we look back, Top40 was trading in nice up channel (blue lines) from March 2009 till just few weeks ago. It broke it on May 5th then retested it on May 13th and from there on it is just downslide. Target for that breakout is around 21200 and that is exactly 50% Fibonacci retracement level drawn between low of March 2009 and high of April 2010.

To me, more weakness is expected, but watch 22900-23100 as possible support and bounce. If that level is broken, than Top40 will get to 21200 in no time.

Trade with trend!

EURZAR daily chart

Today we are going to take a look at what kind of picture daily EURZAR chart is painting.

It is obvious that EURZAR is in strong downtrend which started in November 2008, after reaching peak around 15.30. From around November 2009 EURZAR is in clearly defined downtrend.

On Tuesday and during early morning yesterday EURZAR tested long term support at around 9.30, coupled with bottom of the channel. Support held and market bounced some 30 points or 3% and it is resting around previous support which is now resistance (around 9.62) and for now that is where top line of the channel is.

To me 9.30 looks like very solid and strong support that will not be broken easily. Problem here could be that big guys are not anymore keen on risk side so much. That could cause EURZAR to go up from here, because money can flow out of the country.

On the upside, if channel is broken EURZAR will test 9.95-10.10 in no time. Those levels can play resistance and stop market to go further up. Just be aware that there is empty space between 10.00 and 10.70 with not much resistance on the chart. If market breaks above 10.00, especially with global markets continuing in southbound direction, we could see 10.70 tested once again.

Trade with trend!

How to develop trading system - part 2

We have used last post to decide which market we would like to trade. Today, we will check which data provider and trading software choices are available in South Africa.

Simply, to design proper trading system one must have correct data. This is very important because if you have wrong or incomplete data, there is a chance of making system that looks good, but it is not worth the paper it was designed on.

Another decision is to be made here: What is going to be time frame on which one would like to trade?

If you would like to concentrate on end of the day time frame there are many options available in South Africa. Just use Google or search engine of your choice and you will get lots of answers.

If you would like to trade intraday time frame, such as we use on this blog, you will have only three options that I’m aware of. Local option is company called Hisat, prices are modular and from business perspective we find them to be fairly acceptable. They have very simple charting capabilities. Two other options are international and one could consider E-signal and QuoteCenter. E-signal has its own advanced charting capabilities and simple backtesting tools. Quote Center is on the other hand associated with Equis that supplies MetaStock software. Price range for last two for intraday data is from $130 upwards.

ALSI TRADER is currently using Hisat data feed.

When it comes to backtesting software – it is as important as data feed. There are numerous options on the market and simple Internet search is going to give you few options. Looks like this field is getting even bigger with many quant blogs growing over last few years. Simply put, there are two options available: Client side software that is installed on your PC and it is running as any other regular PC program. This is once-off purchase. One of the available solutions here is MetaStock or any other software that you might choose.

Other option is server based program for which user pays monthly fee to use it. Sometimes software like this is bundled with data and one pays only one fee for using it. Solution that comes to my mind here is Trade Station.

ALSI TRADER currently uses Meta Stock Professional 10.1 for its backtesting and charting capabilities.

For more information look at previous post:

How to develop a trading system – part 1

Trade with trend!

Note of disclosure: No one of above mentioned suppliers requested this review or knew in advance what I was going to write. I do not accept any reimbursements for the reviews I write.

Top40 - end of the day recap for week ending on May 16th

Another “crazy” week for the markets. On last Friday market looked very bearish, with close below 200 simple moving average, but during the weekend EU decided to print few more Euros (or about 750 billion) to save Greece and the other problematic countries. Of course, market opened higher on Monday and ran some 1200 points on intraday basis. Tuesday was nothing special, but on Wednesday market almost repeated Monday’s action. On close on Wednesday market was up 1533 points from Friday’s close. Close was above 200 and 89 simple moving averages. Thursday ended as small doji bar and on Friday we saw similar action to last Friday’s: Market lost some 700 points and again swung back below 89 simple moving average.

Action over last couple of weeks is pointing to change in trend. There are three lower highs so far and if Top40 breaks below 23434 we will have definite conformation of bear trend. If that’s the case market will close below 200 simple moving average. Another level to watch next week is low that was made early in February – that is at 23111 based on close or 23072 based on intraday low. On the upside, be aware of break above 25299 (Thursday’ intraday high).

Indicators bounced a little bit with market moving higher last week. RSI and Stochastic are around 40-50 and MACD is deeply in negative territory (around -210).

Moving averages, which help us to determine long, medium and short-term trends:

• long-term (200sma) - UP
• intermediate (89sma) - DOWN
• short-term (10ema) - DOWN

Trade with trend!

 

Reading to kick-start new week

Afraid to Trade:

May 14 Update Market Sells off Exactly on Cue

Bespoke:

Gold vs. Silver

David Fry:

Stocks Close Up on the Week!

The Big Picture:

Perfect Qs: GS, BofA, C & JPM

Euro Zone’s Problem Children

The Kirk Report:

Focus On What Matters

The Talent Code:

Vision Improvement

Zero Hedge:

Visualizing An Austere Europe

How to develop a trading system – part 1

There is old adage: “If you give me a fish you will feed me for one day, if you teach me how to catch a fish you will feed me for whole life”. Today I wish to start with series of posts in order to try to teach public how to fish.

As I said many times, trading is marathon run and for every marathon you must have proper shoes to make 42195m long race. In order to make it in trading one must have trading system with positive expectancy. Without having positive expectancy, one could have all the discipline of this world, but money is not going to be made.

I tried to look for articles on the web about this topic, but there are very few and far between. It looks like it is more profitable to sell trading system to people than to teach them how to make one for themselves.

So, what one must consider when developing trading system:

1. Markets to trade

2. Data

3. Software

4. Design of the system: trend following or mean reverting

5. Backtesting

6. Paper trading

7. Real Trading

8. Repeat from step 3

So, let’s start:

First three steps are somehow correlated to each other. First and the most important question is which market one should trade. There are three major groups of markets:

1. Equity market

2. Forex market

3. Futures market

Equity market is probably the most common market traded. Probably everyone in this world has heard about Warren Buffet and the ways he invests. Most common form of trading or call in investing is value investing, but there is place for trading this market. Many institutional investors are doing just that. This should be choice for people who are not enjoying checking prices every hour or so and who would like to make their decisions once a day or even once a week.

Forex market is the biggest and most liquid market in the world. In this market you will often find yourself betting against FED or ECB or JP Morgan. Such market is suited for people who like action of checking prices every few minutes and even waking up at night if positions are left open.

Futures market is similar to Forex, providing high amount of leverage. Futures are issued these days over everything: equities, forex, commodities – name it and it is there. It is, as well, very dynamic market and can move up or down very fast. So, be aware if you want to trade this market.

What is available in South Africa?

Apparently, South African futures market is one of the biggest in the world. There are many single stock futures market makers. Also, there are warrants issued here and together with contract for differences you can use them for trading. Futures market in South Africa is regulated by Safex that is part of JSE and there are several options available: First and the most popular is ALSI contract on financial board, with other options being futures issued over agricultural commodities, to name few: white and yellow maize, wheat, soybeans, etc. Few years back white maize was the most volatile instrument in the world and was traded only in South Africa.

My idea behind this series of posts is to describe process and to develop trading system. So, at this point one must decide which markets to trade. Since we are very familiar with ALSI futures we are going with that one and we are going to develop system for that market.

Stay tuned for next post on how to choose data supplier and software for backtesting.

Trade with trend!

Mid week reading

Afraid to trade:

Updating the Intraday 1987 Crash Comparison to Today

Au.Tra.Sy blog:

Trend Following Wizards – April 2010

Bespoke:

Short Covering or Oversold Bounce?

Country Default Risk Plummets

David Varadi:

Market States: Regimes and Waves

CXO:

10-month Versus 200-day SMA

David Fry:

Gold Is Golden -- Call Now!

Global Market Ponzi Scheme: Dave's Daily

Market Rewind:

Volatility is Back - Which ETF Pairs Are Working?

MarketSci:

The State of Short-Term Mean-Reversion: April, 2010

Quantifiable Edges:

Strong Rally on Weak Volume for Nasdaq

Reading the Markets:

Speed kills

SMB:

Excellent read!

Technical Analysis: Four basic principles

The Big Picture:

S&P500 Priced in Gold

Debt: America versus Greece

Chart Addict:

Gold Update V & Market/Sectors in a Doji Trap

Top40 30minutes chart

After massive drop we had late last week, market is trying to bounce. So, let’s see what the chart is telling us:

Top40 is currently trading just below trend line that signals down trend. Horizontal resistance around 24700 is broken and the next one is around 25300, but for that Top40 must break trend line first. Above 25300 there is a trend line which is currently around 25800 and one more resistance around 26000.

On down side, 24700 became support now, with trend line (not major) around that level too. Lower support levels are at 24200, 23850 and 23450.

Trade with trend!

ATR again

It’s been some time since we looked at ATR chart. In the mean time some things changed, so it is a time to take new look at the ATR chart.

On the top of the chart is ATR% (5 day), so instead of looking into points values for ATR we divided ATR with price in order to get percentage changes. Chart is from early 2006 as I wish to compare different periods of Top40 behavior.

During last few weeks ATR bounced from very low levels and has reached top of our range (around 3%). Upsurge was quick; it happened over just few days and caught many traders in sleepy mode that was persistent over last year.

So, what does increased volatility mean?

For intraday traders it is very welcomed, because there are more points in daily range to be taken.

For swing traders it is welcomed as well, for the more or less same reason – there are more points in swings and systems should produce more points.

For long term investors, on the other hand, it is not welcomed at all. Volatility tends to increase as stock prices decline and decreases as the stock prices rise. The reason for this to occur is because falling stock prices mean greater uncertainty with regards to future risk. This leads to an institutional demand for insurance against future losses, meaning a higher demand for put options/short selling. On the other hand, increasing stock prices mean less uncertainty and subsequently less demand for put options, resulting in lower volatility.

The investor or trader can always count on volatility eventually returning to normal levels after going to an extreme. This principle is called “the mean reversion tendency of volatility”. It may take anywhere from days to months, but sooner or later volatility always comes back to middle ground.

Advise for traders is to use this opportunity to trade well (and manage risk extremely well) and make as many points as they can, because sooner or later we will be back to the middle of the range as per our chart, where our systems will not produce as massive number of points.

In my book – volatility brings opportunity.

Trade with trend!

Why short selling is important?

The other day with markets plunging 1000 points, many voices are raised to stop short selling once more. Long term investors were the loudest in the bunch, and from their perspective that maybe make sense. Unfortunately there is always other side of the story. Yesterday market bounced and nobody asked how much of that bounce is because of bears closing their short positions. I would guess a lot. So as short sellers are pushing market down they are pushing it up as well when they are squeezed and running for cover.

Short selling, in principle, offers a number of advantages to market participants and the wider economy. These include faster price discovery in the market, greater liquidity, and enhanced opportunities in risk management. All these effects are considered to add to the efficiency of financial markets.

In principle there is nothing wrong with short selling. Short selling can provide markets with important information on pricing, facilitate the management and hedging of risks in many firms around the world, and provide financial markets with liquidity. In other words, short selling promotes the efficiency of functioning markets.

Selling an asset that you do not own certainly sounds counterintuitive, but it needs to be kept in mind that the asset needs to be re-purchased at some point – any short seller becomes a buyer. Also, for any short seller there is a buyer who expects prices to rise. And there is a lender who calls his shares when their value declines too rapidly.

Short selling can be used by market abusers just like any other financial instrument, and that is where strict regulations must come in.

I hope I shaded some light on the current topic for better understanding of short selling.

Trade with trend!

Top40 - end of the day recap for week ending on May 9th

What a week that was – Market lost more than 2000 points last week and it happened very fast. Monday was one of the many days we saw in recent months – some 250 points daily range with not much to do or say. Then Tuesday came with 715 points drop, Wednesday and Thursday were down days with bulls trying to push market higher and then Friday came and was similar to Tuesday, but this time Top40 dropped 920 points. Sell-off was broad based. On Thursday evening US markets had the most interesting trading session. Dow dropped 700 points in 15 minutes, just to recover 600 in following 20 minutes. At one stage DOW was down almost 1000 points and that was the biggest ever single-day point loss. So, after complaining about low volatility we had to bite the bullet and to live through extreme changes last week.

With such a drop in the week behind us, many important technical levels were broken and some trend lines too - Trend line from March 2009 was broken on Wednesday, 89sma on Tuesday and 200sma on Friday. That was first close below 200 simple moving average since May 18th, 2009.

Following weeks could bring us the test of 23072 low (made on February 5th, 2010) and maybe even test of 21600 (red line on chart) and that could prove to be crucial test. On the positive side we could go up and retest broken trend line around 25000. Relative strength index and Stochastic oscillator are oversold with MACD venturing deep into negative territory.

Please be very careful out there because volatility is very high, coming back into markets after many months of boring activity of going up slowly. ATR last week broke upwards and that is good for intraday and short term traders because they will make their points at much faster pace. Just be careful as one could lose points much faster too in markets like this.

Moving averages, which help us to determine long, medium and short-term trends: 

• long-term (200sma) - DOWN
• intermediate (89sma) - DOWN
• short-term (10ema) - DOWN 

Trade with trend!

 

Reading to kick-start new week

Afraid to Trade:

Very good look at the events of May 6th.

A Quick Assessment of the May 6 Fallout on the 5 Cross Market ETFs

Comparing May 6 to 1987 Crash Intraday

Au.Tra.Sy blog:

April: a flat month for Trend Following

Bespoke:

Will You Remember?

The Dollar's Recent Impact on Stocks

FUTURESMAG.COM:

Excellent read!

The lowdown on high frequency trading

Interesting talk about gold.

McGhee on the gold currency

David Fry:

Two excellent daily reviews!

Ctrl DOW Delete: Dave's Daily

Dow Dive Shocks Investors: Dave's Daily

Market Sci:

Excellent post!

The “Monthly W” (in Video)

The Big Picture:

Blame High-Frequency Trading

The Kirk Report:

Everything You Know Is Wrong

The Talent Code:

Identifying Talent: What Really Matters

Vix and More:

VIX Implied Volatility Exceeds 2008 Crisis Levels

Dr. Brett:

Excellent series of posts!

Core Ideas in Trading Psychology: Trading and Self Development

Why is it difficult to trade?

I wish to share basic stats for one of the variations of 30min Higher High/Higher Low system for ALSI futures. Results are for period 19.12.2007. – 03.05.2010.

trades: 691

W%: 42.11%

Avg. W/Avg. L: 2.14

largest loss: 823 points

t-formula: 3.77

f-formula: R 54 414 over margin amount

start equity: R 60 000 (6000 points)

end equity: R 491 710 (49171 points)

CAGR: 142.69%

Sharpe: 1.96 (calculated with 7.25% as risk-free rate)

Max drawdown: 3738 points

year 2008: 27914 points from 245 trades

year 2009: 13378 points from 304 trades

year 2010 (so far): (568) from 140 trades

System is always in the market and it does take both, long and short trades. Results are on basis of one contract being consistently traded and do account for brokerage of total of 2 points per trade, while these results do not account for slippage or any other costs that trader might encounter. Interest earned on margin and interest earned on trading account are not included in these results.

If we look at the entire sample, closed equity curve was at all time high only 106 times. The rest of the time system has spent either going deeper into drawdowns or getting from bigger drawdown level to smaller drawdown level.

If we look at year 2008, which was the best year we have on the record for this system – System has recorded 44 all time highs on closed equity curve, while the reminder of 201 trades ended somewhere within drawdown.

Simple conclusion: While trading one will often be wrong. Also, one will often be right, but that is still not going to be enough to move equity curve to new all time high levels. Understanding this is, simply, portion of the foundation on which any novice might and should try to build successful trading activity.

Trade with trend!

Note: Readers who are not familiar with difference between open and closed equity curves should do some reading on the subject in order to familiarize themselves with these two approaches.

ALSI 30 minutes chart

After spending whole April in trading range between 25600 and 26800 has ALSI finally decided to do something.

Yesterday it broke 25600 and then sell off accelerated, so in no time 25000 was tested. Target for above mentioned range is 1200 from 25600, giving us 24400 as a target. Main indicators bounced from oversold levels, but so far no major positive divergences can be spotted.

What can be seen is the new channel that is developing with some 900-1000 points in it. ALSI is currently closer to bottom line. Top line is currently coinciding with 25600, so there is possibility for ALSI to go and test that level.

Trade with trend!

Top40 - end of the day recap for week ending on May 2nd

Last week brought us 4 trading days with public holiday on Tuesday and bulls paid dearly. US markets sold off on Tuesday when we were closed and our market dropped some 500 points on open on Wednesday.

On Thursday market tried to bounce, but Friday was red day again. Over weekend there were some bullish and some bearish news, but for Top40 more important is new tax imposed by Australian government on extra profits for miners.

Indicators are so far looking either neutral or bearish. Stochastic is very close to enter oversold level, RSI is around 50 (that shows us no real momentum) and MACD is a tad above 0 line.

Important development over last two weeks is that Top40 closed only once above 10ema pointing to down short-term trend. In addition, price made lower high on Monday and lower low on Wednesday, again pointing to short-term weakness.

Moving averages, which help us to determine long, medium and short-term trends:  

• long-term (200sma) - UP
• intermediate (89sma) - UP
• short-term (10ema) – DOWN

 Trade with trend!