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Monday, December 31, 2007

Low Funded Challenge Account: Sugar #11 - March 08 - Part II

Ok, I went ahead and put the order in. I placed an order to buy one March 08 Sugar #11 10.00 Put at .08 Limit, Good Till Canceled.

One thing I noticed when placing the order with optionsXpress, is that when I first entered this order, it defaulted to a page that would have entered me for a February 08 10.00 Put on Sugar, so I had to manually switch it to make sure that it was a March 08 10.00 Put. Regardless, the order is in and working.

Edit: It's a really low volume day - being New Years Eve, so when the market jumped to .09 past my limit, I tried to modify the order to a market order. The bid-ask was 6 x 8, so there is more than enough in this account. But the platform wouldn't accept the order. I called optionsXpress, and spoke with a Mark (who was extremely helpful) and he's trying to get my fill for me. At the moment? It's dealing with the options pit guys. I've had more problem with Futures options pit traders who refuse to cooperate with brokers, than I can think of. Personally, I wish that they'd take everything electronic, and put the option pit traders out of business.

Just a shoutout to Mark at the traders help desk at optionsXpress. He is more than helpful in assisting me to get my fill at .08, and has been extremely helpful throughout the entire process.

Sunday, December 30, 2007

Low Funded Challenge Account: Sugar #11 - March 08

What? A trade? Already? I thought you said . . .

First thing we should discuss is what? Money management principles correct? Ok, so how much does the Challenge Accounts have in them today?

Sharebuilder Investment Account Balance: $130.64
optionsXpress Trading Account Balance: $570.00


For this possible (and let me stress - possible) trade, we will be looking to the Futures options arena. Specifically, Sugar #11. But let's not get ahead of ourselves and start talking about the market mechanics. Let's go back and discuss money management principles.

Money Management:
First thing, let's discuss risk management. We have $570.00. We generally don't risk more than 5% of our account. So what's 5% of our account? $28.50. I can tell you right now, trying to pick cheap options for $28.50? It's just not going to happen. You can nickel and dime your account to death trying to find nothing put purely cheap options. Plus we have to figure commissions on whatever we purchase, in and out of the trade, which is going to run us approximately $15.00 all told. That leaves us with what? $13.50 of actual market position risked. Or does it?

In a few days, we'll have another $100.00 coming into the account (via rule #2 of the Challenge accounts). If we can keep our risk under $100.00 - well, we'll still have our account balance higher than it was last month. That changes things dramatically. Because every once in a while, you can find an option that's under $100.00. There's a put option in the Sugar #11 market that is going for $89.00 right now. Since this trade would be running into January, if you look at our account from the $670.00 balance? Well, the percentage is still high. Of the top of my head about 13%. But if the market doesn't confirm our analysis, we'd sell the option back to the market, and recoup some of the loss there. All told, I see a risk with an $89.00 option? Of about $70.00. Which represents about 10% of our account premium. Still higher than we like. The only reason I'm going to consider this as a trade, is that if we lost out on this trade, our account balance will still end up higher with the $100.00 deposit coming in January. Plus, we have to balance something against risk right? What's that?

Reward analysis. You have to balance all risk against the possible reward. What sort of growth are we looking at? Well, I'm looking at a March 2008 Sugar #11 10.00 put. What are ITM (In the money) options, or options where Sugar is actually trading, going for right now? Well, the Sugar #11 market settled at 10.94 on Friday. An 11.00 put is going for $481.60. What do we want for a risk reward ratio? Our goal is one to three (1:3), or one to four (1:4) right? So if we're risking about $70.00 on this trade, our goal is to sell the option back for $210 (1:3 ratio) or $280.00 (1:4 ratio). Just eyeing it up, approximately, the market would have to move to the 10.40 area for this to happen. Then we'd look to sell for a profit, regardless of what's going on. Why? Because of how low our account is, and because adding $125.00 to our account would represent an 18% growth on this one trade. One of the biggest lessons of taking profits is not to get greedy, in relation to our account size. 18% on one trade is more than enough. Of course, we could be handed a complete gift in a lock-limit move in our favour and we make far past our 18% (I have been in those sorts of trades, which are a pure gift from heaven). But we're not going to bet the farm on that scenario. Those sorts of situations you just have to take when they come. But never seek them out.

Ok, now onto our next money management principle. We need a Trading Plan in regards to this trade that takes into account, time, price and allows for flexibility of evolving market conditions. First item: Time. What tools can we use for timing? Seasonality right? Seasonally, Sugar #11 tends to move lower from January 2nd to about the middle of the month. I am using MRCI's (Moore Research Center Inc.) data for this information. I looked over recent years to make sure this seasonal pattern is holding steady. We did have one year that was completely contra-seasonal a few years back. However, the market was in a huge bull run already, where normal market conditions were not prevailing. When looking at the other years, they were shaping up the exact same way as this year. So no matter what, when it comes to timing, we don't want to be in this swing-trade past the 15th of January.

Now, what about Price? Now let me be clear, in my normal accounts, I'll wait for Sugar #11 to break below it's current support at 10.90 before I'd buy a put option. In other words, I'd allow the price to confirm my thoughts in regards to the market, before I commit. The situation with the low-funded accounts is a little tricky however. If we do this, then our put option is going to increase in price. Perhaps out of our purchase price. So depending on the open we receive in this market on Monday? I might end up buying the option right away. Much depends on the type of open we receive. If our open is higher than 11.20, then I probably wait another day before I purchase the option. If the open is between 10.98 and 11.12, I'll go ahead and buy a March 08 10.00 Put. If the open is lower than 10.87, then I will wait to see if the market climbs higher, and I can get the put option for a cheaper price.

Now what about Evolving Market conditions? Well, if the trade is initiated, then it's all about volatility. If the market becomes very volatile, this is a good thing. Increased volatility increases the premium and value of an option. This might cause us to stay in the trade longer, and we can squeeze out some extra $'s. I mean heck, if the market just jumps down to 9.50, we aren't going to complain. On the other hand, if the market just creeps down, bit by bit towards 10.00? Then we are losing value on something called theta premium. Theta is the 'time premium' of your option. You pay for your time when you pay for an option. So if it just creeps towards 10.00, slowly, then we will look for an exit more quickly. If we enter this trade, and it just pops in the exact opposite direction? Once it hits the 1200 area - and shows no signs of slowing down, we'll sell the option back to the market and recover something.

That seems like a lot to consider for one trade doesn't it? Trust me, you'll get to a point where you can do this all in your head without even thinking twice.

Market Trade Mechanics:
Ok, now onto discussing Sugar #11 itself. We're looking at the March 08 contract. Here is why I see lower prices on the horizon. Let's first look to see if we can detect any bias to the market.

COT Data:
Here's a graph showing you the latest COT information.

(Click to Enlarge)

Note that for the last two years, the Commercials and Public have never been so diametrically opposed. I highlighted the last time this occured. That was the profitable Sugar Trade I was talking about yesterday. Remember, this only shows us bias. There is nothing saying the market can't head higher and the two groups become more opposed. But as it stands, there is smart money bias to the short side.

Accumulation / Distribution:
Here's a graph plotting out the latest Accumulation / Distribution data.

(Click to enlarge)

So we do see a bias. Despite higher prices, the Accumulation / Distribution states there is no real 'volume' for this type of move. And if we look to the volume for the last two weeks, we'll see why. During the holidays, the volume has decreased dramatically. Remember, when you see decreasing volume on a rally? We call that a 'fools rally'. Decreasing volume is a signal that there is no real 'strength' to the movement. Which one reason you see this occur in Sugar #11 every year. Because small speculators start a buying frenzy on small volume. After the holidays, the 'big money' comes back in force, and correct this 'fools rally'. But remember, this is only a type of 'early warning' system. A bias. That's all.

Open Interest:
On December 1st, the Open Interest was approximately 763,000. As of December 28, it was approximately 862,000. When you look over the fact that the Open Interest for the last 9 months has never dipped below 328,000, we see that the recent months increase represents more than a 30% jump in Open Interest. During that same 9 months, the market has been in a sideways channel. What's the rule that Larry Williams states? In a sideways market, a 30% decrease in open interest can be a bullish indication and a 30% increase in open interest can be a bearish indication. So on the Open Interest route, we have bearish indication in Sugar #11.

Seasonality:
Looking to the MRCI Seasonal Data (Moore Research Center Inc.) , we see that the 15 and 30 year seasonal averages show a marked decrease until the 15th of the month. What about more recent averages. Well, the 5 year average doesn't show the same strength as the 15 and 30 year averages. But it's still flat to weaker until the 15th. You also have to consider that within that 5 years, we had a huge runup, so that's going to skew the averages a bit. Overall, I'd say that the market is showing seasonal weakness for March Sugar #11 from December 31st until the 15th of January.

Cycles and Support and Resistance:
This gives even more exact timing entrance than seasonality. The market is extended far past it's 1.28 reversal cycle. Seasonally, this is standard. If you look at the larger picture for the last several months, the market has been congesting at an area and zone of resistance that formed last February. The 10.90 to 11.50 area

Conclusion:
Despite all of the above confirmations? Remember. This is a) a zero sum game. This isn't the stock market. The stock market can create wealth where wealth did not previously exist. The Futures market cannot. For each winner, you have a loser. It's important to retain that frame of mind when dealing with the Futures game b) Nothing is guaranteed for the future. The price may run up another 20 cents before moving down. The best we can do is seek out a good risk / reward ratio, and try to confirm a movement as much as possible. If we lose out on this option, another $100 will be fed into the Challenge Accounts, via rule #2, and the account balance should either remain the same, or still be a little ahead. Considering the reward of an 18% growth in account equity? I'm going to look to the above trade plan, and if the proper criteria are fulfilled according to the specified plan, I'll go ahead and buy a March 2008 1000 Put.

Saturday, December 29, 2007

The Commitment of Traders Report: Who is Commited to What? - Part II

In Part I, we discussed the Commercial Interest, their reasons for engaging in the Futures Markets, and the fact that the COT (Commitment of Traders) Report plots out their position each week, which can be graphed over time. At the same, we discussed how difficult it is to tell why the Commercials are in their net position.

Who else are included in the COT Report? A group called the "Large Traders". These are people who have no need for the actual commodity itself, but deal in hundreds of contracts at a time. Your Goldman Sachs. Your J.P. Morgan's. Your Morgan Stanley's.

In other words. Not us.

Where are we at? The group deemed "Small Speculators". Folks who are dreaming of riches and wealth and get involved in the Futures market to attain these dreams. But there is one little fact you should be aware of when it comes to the Small Speculators.

They are nearly always wrong.

I mean honestly, it's amazing. A small speculator can usually screw up the absolute best of situations. They always come in late to a move, or they come in too early. The vast majority of people who engage in Commodity Futures speculation lose money. Over and over again. Such ones generally fail to understand that Commodity Futures is a zero sum game. As you look over the reports each week you will notice that each side balances out the other. When you add the Large Funds together with the Small Speculators, you will notice that this number is exactly equal to the number of Commercials. And the Commercials have the majority of the funds, and the majority of the news. So if your money was going to be on one group? Who would you rather go with, the Commercials? Or the Small Speculators?

Well first of all we have to see this data plotted out for us. One site I personally use and recommend, is Timing Charts. For each commodity that you select, it plots out the COT Data at the bottom of the chart.

So, we come back to our original question. How do we use the COT Report? How can we go with the 'smart money' or the Commercials? How do we understand when they are giving us a 'mass signal'?
  1. Look for a situation where the Commercials are in an extreme position, and use this as an early warning that a such a move may occur. Since the Commercials so often hedge their positions, simply because they are net short or net long doesn't tell us anything. So when we say 'extreme position', we mean, look for situations where the Commercials are more short, or more long, than they have been in a year. If they are extremely short, then a possible short move is on it's way. If they hold more extreme long positions than they have in a year, then a possible bull move is on it's way. But it is vital to remember that the Commercials are usually weeks ahead of time. It's not an exact timing trigger. It's more of what we call an 'early warning system'.
  2. Look for a situation where the Commercials are exactly opposite the Small Speculators in such an extreme position. This is how trading guru Larry Williams who is deemed the expert on the COT Report once put it: "It is critical to look for a juxtaposition between the two group's positions. It is very desirable for both to be at opposing extremes in their positions. The position of the Commercials and Public is bolstered if they are at 12 month extremes in their positions. It is desirable to see the Commercials the most bullish they have been in 12 months, while at the same time the Public is the most bearish they have been in 12 or more months. This is an ideal Commercial / Public "set up" for a bullish move in the market."
  3. It is once again, vital to use this tool as you would the Accumulation / Distribution tool. It will not time the move for you to the day. It will however, show you were the 'smart money bias' is at.
And there we have it. The COT Report, and how we use it in our trading. So how can we put all of this together? Well, as a matter of fact, just such a situation has been brewing. I will discuss this situation tomorrow. It just may mean our first trade . . .

Friday, December 28, 2007

The Commitment of Traders Report: Who is Commited to What? - Part I

Let's switch gears and talk about Commodity Futures for a bit. There is another powerful 'early warning system' that I use when I'm trading Futures options in the Commodity Futures markets. It is to be found in the Commitment of Traders Report, or the COT Report.

What is the COT? Well, to understand that, let's examine once again, what we are dealing with, when we are talking of the Commodity Futures market. When you engage in these markets, you are doing more as to speculating about Future prices. Actually, the private individual speculator (you and I) provides a valuable service to the economy in that we provide liquidity to the price of the Commodity being traded. Who are we providing this liquidity, or this ease of movement for?

When we deal with Commodities, we're dealing with ... well ... commodities. Things that our civilization needs in order to function. Let's say we trade in Sugar #11. You are engaged in the market, where the prices for Sugar are determined. Companies deal in huge contracts in the contract months in order to sell the sugar they have produced, or, to buy sugar they need to produce, say, their candy. Pioneer Sugar is looking sell sugar. They are what we would call a "Commerical Interest". But Hershey needs to buy sugar in order to make it's candy bars. They too, are deemed a "Commerical Interest". Many times, traders will simply refer to them as "The Commercials". Without the Commercials, and without the Sugar market, you and I can't pick up a Babe Ruth candy bar. The Commercials are exceedingly well informed as to the price and outlook of the Commodity in which they trade. It is, after all, their livlihood. They also comprise about 80% of the volume in the Commodity Futures Markets. The Commitment of Traders Report will tell you the net positions of all of the Commercial Interests in the Futures Markets, long or short. Many places will even plot these positions over time on a graph for you.

So is it as easy as following what they do to make a profit? You see they are net short, just short the market as well? Well, not so fast. There are different reasons why the Commercials are in the market.

Now here's the important thing to understand about the Commericals. They also use the Commodity Futures Markets as mechanism to hedge whatever it is that they produce or sell, because their business involves a high degree of risk when it comes to their profits and where the future price of the commodity will arrive at.

Let's illustrate it this way. You have a farmer. He's selling Corn. Actual, real Corn. It looks like he'll have a great crop. He might sell his Corn for $6.00 a bushel (I'm just picking that number out for the sake of an example). But, farming involves a lot of risk. Will he actually be able to harvest his corn? Will storms come through and damage his crop? Will it flood? How does he offset such risks? He "hedges his bets" and takes an opposite position to his production expectations in the Futures markets.

That is a very rough example of how a Commerical Interest hedges. Further information can be found in this excellent article. Different Commercial Interests have different reasons for getting involved in the Futures market. Needless to say, it can be hard at times to understand why the Commercials may be in a particular position.

So where are we at with all this?
  1. Just try to remember who the Commercials are, and why they do what they do.
  2. A report comes out each week, called the Commitment of Traders Report, or COT
  3. This report tells you the net positions of the Commericals
  4. Many services will plot this out, over time, on a chart
Are the Commercials positions the only thing that the Commitment of Traders Report tells you? No. I will continue tomorrow with Part II, and we will discuss the Large Traders, and Small Speculators. The other two groups mentioned in the COT Report . . .

Thursday, December 27, 2007

Accumulation / Distribution: A Powerful "Early Warning" Tool - Part II

In Part I, we discussed the theory behind the "Accumulation / Distribution" tool. We also discussed that it was only a detection of bias, not a tool that will give you outright timed signals. Now, how do you use it? In what manner do you read the Accumulation / Distribution tool, in order to detect market sentiment bias?

You look for divergent patterns. What is divergence? Let's look to an example. A Sugar #11 trade I had last August. Here's the chart:

(Click to enlarge)



The Accumulation / Distribution tool is on the bottom of this chart. Now note that although the market is making higher prices since the beginning of the third quarter? The Accumulation/Distribution tool is showing divergence, or moves in the exact opposite direction. We say a tool is showing divergence, when the market is making higher highs, but the tool shows lower lows. Or, vice versa, the market is making lower lows, but the tool shows higher highs. In the case of the Accumulation / Distribution tool and the above example with Sugar #11, we saw that the market bias was actually indicating that much selling was starting to take place, and the overall bias was towards lower prices.

That was something that added to many other thoughts I was having about this market. It wasn't the only indicator that I traded off of. Once I had used other tools, based off other theories as a means of confirmation, I bought myself some Sugar #11 put options (Put options gain in value as a market falls. I posted my thoughts on this trade as it happened starting with this post at the TFC Forum). And profited nicely from them.

Again, please remember, that the Accumulation / Distribution tool only displays bias. There is no telling when, or if, the market will respond to that bias. It's something we use as a clue.

I urge you to do some further investigation on the topic of Accumulation / Distribution. There are some wonderful examples and articles here and also here . . .

Wednesday, December 26, 2007

Accumulation / Distribution: A Powerful "Early Warning" Tool - Part I

So from our last blog, we understand the rules regarding volume and open interest when considering a market. If the price moves up, and the volume moves up, we have a good trend. Right?

But if we recall what we have learned in previous months, it is vital to understand the theory behind why we use a particular indicator. What is volume really telling us? Why is it so important to consider volume?

Investopedia has an excellent definition of volume, that assists us to understand it's worth. It says:

Volume is an important indicator in technical analysis as it is used to measure the worth of a market move. If the markets have made strong price move either up or down the perceived strength of that move depends on the volume for that period. The higher the volume during that price move the more significant the move. - Investopedia

Therefore, it gives us an indication as to the sentiment of the market on any given move. When dealing with any market, it is the market itself that is determining the worth and price of any item for sale, correct? Supply and demand. So if we have a volume of 3, then the overall market has only traded 3 shares of that particular item. The market is not demanding much of such an item. But what if we see 3,000,000 as a volume? This means that on that day, 3,000,000 shares have traded hands. This indicates the market deems this item to be of higher interest. More trading must be taking place, for that number of shares to change hands. This is why we look for changes in volume patterns, in relation to a chart over time. The market can tell us what it's thinking about recent moves.

Many tools have been developed, based off of volume to take advantage of this thought. One of them, is called "Accumulation / Distribution". This tool adds or subtracts each days volume, from another subset. That subset is where the close is at, in relation to the days high, and the days low. The resulting number is plotted on a line, beginning from zero. The divergent patterns that arise with this indicator, are of great worth.

Ok, let's return to our earlier thesis of understanding the theory behind a tool. What is Accumulation / Distribution as a tool trying to measure, and what can this tell us? Why is it of great worth?

It is believed that a market comes under a period of accumulation. And what moves a market? Supply and demand, correct? When buyers are heavily demand a particular stock, it's price will rise. The market is said to be in a 'buying accumulation', and the stock price will then start to rise. Others believe that market guru's who have either a) inside information, or b) intensely skilled at picking good stocks, will quietly start this 'accumulation'. Whether or not this is true, we do have to admit that based off the simple mechanics of supply and demand, when a market comes under intense buying pressure, the market will rise. Conversely, when a market comes under more and more selling pressure, a market will fall. Accumulation / Distribution is designed to try to measure and tell us when such buying accumulation, or selling distribution is taking place.

How does one use the Accumulation / Distribution tool? How do you read it to try to gain such signals?

Well, the first rule is that as an volume indicator it is not to be considered an 'oscillator', with precisely timed buy signals for specific days, such as say, the Williams %R tool. Instead, you must view it as an 'early warning' tool. Accumulation / Distribution will tell you as an investor or trader what the bias to an individual market may be, but not when the price will reflect that bias. This is why I call it an "Early Warning System". Much like a Tornado Siren, it will warn you as to possibilities, but not tell you exactly when a 'storm' will take place, or even if it will take place at all. It merely alerts you to the bias.

How? What are the mechanics of reading this tool? I will discuss this in tomorrow's Part II blog entry . . .

Monday, December 24, 2007

The rules of Volume and Open Interest

Before performing an actual investment or trade, we should always consider the volume as well as the open interest of the market under question.

What is volume? Volume represents the amount of shares bought and sold in the case of a stock or commodity. What is Open Interest? Well, I personally only measure Open Interest when dealing with the Commodity Futures markets (Open Interest can also be used when examining stock options). When dealing with Open Interest in the context of Commodity Futures, Open Interest is the total number of contracts held for a Futures derivative, regardless of the contract month. Open Interest is different than volume. When looking at Volume, we do not know and we see the volume increase by 500, we do not know if that is 500 people who just entered, or exited a position. Open Interest tells us the net traders with actual positions.

So I started off saying that we should always consider the volume and open interest. How do we consider the volume of a stock before it's purchase? Well, I have a few rules when looking at Volume in relation to a stocks price. They are:

1) Rising prices, rising Volume / Falling prices, rising volume: The market is tending to confirm that this is a strong move.

2) Rising prices, falling Volume / Falling prices, falling volume: The market is telling us that the markets sentiment for rising prices may be waning, and that a reversal could soon take place in the trend and prices.

Thus, increasing volume confirms a move, where falling average volume warns us that a trend is weakening.

What about Open Interest for Commodity Futures? Here is a list of rules comprised by chartist Martin Pring in his book "Martin Pring on Market Momentum":
  1. If prices are rising and open interest is increasing at a rate faster than its five-year seasonal average, this is a bullish sign. More participants are entering the market, involving additional buying, and any purchases are generally aggressive in nature.
  2. If the open-interest numbers flatten following a rising trend in both price and open interest, take this as a warning sign of an impending top.
  3. High open interest at market tops is a bearish signal if the price drop is sudden, since this will force many 'weak' longs to liquidate. Occasionally, such conditions set off a self-feeding, downward spiral.
  4. An unusually high or record open interest in a bull market is a danger signal. When a rising trend of open interest begins to reverse, expect a bear trend to get underway.
  5. A breakout from a trading range will be much stronger if open interest rises during the consolidation. This is because many traders will be caught on the wrong side of the market when the breakout finally takes place. When the price moves out of the trading range, these traders are forced to abandon their positions. It is possible to take this rule one step further and say the greater the rise in open interest during the consolidation, the greater the potential for the subsequent move.
  6. Rising prices and a decline in open interest at a rate greater than the seasonal norm is bearish. This market condition develops because short covering and not fundamental demand is fueling the rising price trend. In these circumstances money is flowing out of the market. Consequently, when the short covering has run its course, prices will decline.
  7. If prices are declining and the open interest rises more than the seasonal average, this indicates that new short positions are being opened. As long as this process continues it is a bearish factor, but once the shorts begin to cover it turns bullish.
  8. A decline in both price and open interest indicates liquidation by discouraged traders with long positions. As long as this trend continues, it is a bearish sign. Once open interest stabilizes at a low level, the liquidation is over and prices are then in a position to rally again.
Larry Williams offers these insights, when examining Open Interest on a Commodity Future.


Commodity futures Open Interest is usually a reflection of what the Commerical Interests are doing inside the market. He estimates that 80% of the volume in most commodity markets is comprised of the commerical interests. Since these interests are extremely knowledgeable regarding the commodity in which they trade, it is vital to pay attention to these "Commercials". Since Commercials usually hedge their position, they are usually short selling in the market. With those points in mind, possibilities arise when a market enters a trading range (or channel)

  1. If open interest decreases, it is representative of less commerical activity and they are decreasing their short positions.
  2. If open interest increases, it is representative of more commercial activity and that they are increasing their short positions.
  3. Based on those two points, a 30% decrease in open interest can be a bullish indication and a 30% increase in open interest can be a bearish indication.
  4. Once again, it is imperative that a market be in a trading range for the above points.
Keep volume in mind, when looking over a stock price, and when looking at Commodity Futures, always be sure to include Open Interest in your calculations . . .

* * *

Note: This is not an investment or trading recommendation. The losses in trading can be very real, and depending on the investment vehicle, can exceed your initial investment. I am not a licensed trading or investment adviser, or financial planner. But I do have 14 years of experience in trading and investing in these markets. The Challenge accounts are run for the education of other traders who should make their own decisions based off their own research, and tolerance for risk.

Sunday, December 23, 2007

Why I Will Never Recommend Zecco as a Brokerage

Ones may notice that I do not mention Zecco, or that I flatly refuse to recommend Zecco as a trading brokerage.

Zecco first showed up on the radar as the brokerage that offered commission free trading. You needed a $2,500.00 balance to open an account with them, and they allowed you up to 40 free trades a month, and 10 free trades per day. Wouldn't this be considered ideal for the low funded trader? Well, not so fast.

Zecco has recently been accused of 'bait and switch' tactics. Is this true? Well before we continue, let's first turn to the definition of a bait and switch:

"In retail sales, a bait and switch is a form of fraud in which the fraudsters lure in customers by advertising a product or service at an unprofitably low price, then reveals to potential customers that the advertised good is not available but that a substitute is. The goal of the bait-and-switch is to convince some buyers to purchase the substitute good as a means of avoiding disappointment over not getting the bait, or as a way to recover sunk costs expended to try to obtain the bait. It suggests that the seller will not show the original product or product advertised but instead will demonstrate a more expensive product." - "Bait and Switch" (Wikipedia)

So, is this what Zecco did? That's the question. It's not a matter of their price structure, or if Zecco is still a good deal. It's not a matter of whether or not Zecco had a unprofitable price structure. It's not even a question of how much you need in your account to trade with them. The question is, did this company perform a form of fraud, according to the above definition? Would you truly wish to be involved with a company that engaged in a form of fraud?

Sometime around June, 2007, Zecco announced that the were eliminating the $2,500 minimum balance to open an account with them. But they were retaining their cost structure of 10 free trades per day, up to 40 trades free per month. A positive change for the low-funded trader.

However on October the 1st, 2007, Zecco announced that they were changing their price structure and offer. In the future, customers would need to have a minimum balance of $2,500 once again. And no longer would there be 10 trades per day up to 40 trades free per month. From December 31st forward, there would only be 10 free trades per month, and all other trades would cost $4.50.

So we have them changing their initial deposit from $2,500.00 to $0. Then, months later, they once again rise the amount all customers will need in their account on January 1st, 2008 back to $2,500.00, and eliminate 40 free trades per month. What was the reason that Zecco provided for this negative change to their price structure?

I will quote from their own faq page.

"Is Zecco Trading cutting the number of free stock trades because you’re having problems sustaining your business?

No. Free trading is our business. We’re fine-tuning our business by adjusting the offer to meet our customer’s actual needs. We are committed to leveling the playing field for the everyday investor. Over the next few months, you’ll see the results of our investments in customer service and trading platform functionality, including the addition of 3 and 4 legged options strategies, release of a sophisticated options analytics platform, access to ZeccoShare, the ground-breaking investor social network at zecco.com, as well as fantastic new premium services at a typically fantastic Zecco price"

So their reason for the negative change to their price structure, is the addition of what? What they offered was not as good as the upcoming substitute offer.

This is the very definition of a bait and switch.

How does Zecco reply to this charge? Again, let's look to their own faq page.

"Are the free stock trades Zecco Trading’s bait and switch marketing scam?

No. Free trades are not a marketing ploy, they are our business model. We absorb the small cost of stock trading commissions because the richest streams of income in the brokerage business are in interest in margin and cash balances. With the changes to our free stock trading deal, we’re making significant investments to bring you the tools and functionality our customers need."

That in no way replies to the charge of performing a bait and switch. They in fact, confirmed that they were performing a bait and switch by stating the negative change to their price structure was due to offering improved services for their customers.

Perhaps they don't understand a simple truth.

That is the very definition of a bait and switch.

At this time, the Better Business Bureau has downgraded them to a CCC rating. Zecco has performed, according to the definition, a bait and switch. Regardless of their price structure, I could never in good conscience recommend to the low funded trader, that he become involved with such a company. I would recommend ING's "Sharebuilder", which in the 4 years I've been with them, has never pulled these sorts of shady maneuvers. In fact, over the last 4 years, Sharebuilder has consistently improved their price structure, and offered better deals to their customer. They just announced lowering their real time trading commssions by almost 40%. This is the reason that I will always recommend a brokerage like Sharebuilder, over a brokerage like Zecco.

Saturday, December 22, 2007

The Buying Opportunity of a Bear Market . . .

Sounds a bit contradictory doesn't it? Well, I had to think of a snazzy title, and in all honesty, for our long term portfolio, a bear market does present us with a wonderful opportunity. Eventually.

There is a lot of talk amongst investors regarding a bear market on the horizon. Should this be a cause for alarm? Only if you lack the education of how to be a long term investor, a "bull" in a bear market.

If you note the following chart of the S&P 500 this year, you will notice that starting July 15th, we entered the usual seasonal downturn that the markets usually have to deal with every year. This is not currently a bear market. We have experienced several corrections. A correction is much shorter lived than a bear market.

(Click to enlarge)

This year was extremely signficant, as the downturn revolves around the credit crisis that is facing the economy. We have also enjoyed a good bull run since 2002, so investors are becoming concerned that the run is over, and it's time for a bit of a bear market. Which is a fair concern. Nothing goes up forever, and it is the nature of the markets to move down, as well as up. Well, how do we remain a bull, in a bear market? Because if you invest for the long term, that's what you are doing.

Well, obviously we don't want to get caught buying near the top. Therefore, we note that the current support for the market, initially, is near the 1400 area. If you feel you must buy into the market, you would want to wait to see the market bounce off of that support before you do so. The closer the market gets towards 1500, the less you want to buy. But that does not mean you have to buy for a long term investment account at all, even near the 1400 area. At this point, I really wouldn't do so. I'd just wait to see how the whole subprime mess affects the market for 2008. Just save your money, and wait. Why?

Generally, if the 1400 area is violated, the support will then come in at the 1370 area. If this support is violated, we would have officially entered a bear market. Lower lows (LL's) will have been made, and we are not making Higher Highs (HH's). Already you can note that our market highs are not reaching previous levels. If 1370 is violated on the S&P 500 Index, at that point, I believe it would be best to wait for at least year before reinvesting in the market in the long term. That doesn't mean there isn't money to be made trading in the meantime. It just means that for a portfolio, which is concerned with buying at lower prices for the long term, we would want to wait. The market can drop up to 40%, and at least drops 30% during a bear market. During that 30% drop, you will typically see 3 more rallies before the bear market finally exhausts itself. Each bull rally within a bear market generally lasts longer than the one before it. If we do violate the 1370 area, then the first rally could be considered the last 10 day rally before the 1370 support was violated. 3 more rallies typically follow that one. And the fall will be between 30% to 40%

What can you do now to help yourself, in case we do see this eventuality?

- Instead of using it to purchase shares, you could use the cash to pay off any margin balance that you may be carrying.

- Do not sell your long term (20 year plus) holdings. Simply hold onto them. You can Dollar Cost Average and average out your position once the bear market is completed. This is the golden opportunity that a bear market presents for the long term investor. You may decide however, to shed your long term holdings that you have been looking to hold for less than 9 years.

- Save your money that you would normally add as investment purchases, to see how things play out. At this point, I myself will no longer be buying for my long term investment portfolio, although I will be adding cash deposits to those accounts. Biding my time, exercising patience, and watching.

What does this mean for the Low Funded Challenge Accounts? Well, actually, it's a good thing. We have not purchased any long term investments for the Sharebuilder account, which as of this date holds a balance of $130.64. So we will not have to worry about any drawdown in that account, and actually, will be earning the higher interest on our savings in that account. We had not planned to make our first investment until that account reached $650. Therefore, if 1370 is violated, this will mean we miss no opportunities, but be able to safely save that money. We are still saving our money for the optionsXpress account, which as of today, stands at a balance of $570.00. We had not planned to make our first trade until that account can safely assume a good trade and risk of $65.00, with such a risk being around 5% of our account size. And the nice thing about Futures options, is that it does not matter if we are in a recession, a bear market, or enjoying prosperous times. You can trade Futures options regardless.

Friday, December 21, 2007

Budget Your Way to Wealth . . .

Ok, a bit of a tangent warning.

This entry does not deal specifically with investing or trading. But it does have a great deal to do with accumulating wealth, and doing it safely and slowly.

In 1996 I was working for E.D.S. as a Network Administrator. I made about $43,000 a year. Which in 1996, to a 24 year old kid who had just gotten married, was a lot of money. The sad thing was, I never had a dime to my name. Money was flying out of my pockets faster than it flew in. It's not that I didn't want more money. It's not that I had a poor income. I didn't. But I just never seemed to have any extra cash. A few days before my next paycheck arrived, I was always dead broke.

I worked with my brother at the time, and he obviously noticed this. Lunch time would roll around, and I didn't go with them to many of the nicer restaurants that were around, as I didn't have the money for it. I would just end up at McDonalds every day. I won't even go near what that was doing to my health.

Well, one day we were talking about finances, being married, bills and that sort of thing, and asked me about my budget. I told him I had written one down before I got married a few months before, but that was about it. He then asked if I used Excel. "Not really", I replied.

Then he gave me a bit of a gem. More like a piece of gold. I have used it ever since. It was an Excel spreadsheet that I have made available for anyone to download here. You will need Microsoft Excel in order to use it. If you don't have Excel, I will display a picture of what it looks like here on the blog. He swore that no matter how much, or how little money I made, it would assist me to become better organized so as to accumulate savings.

He was right.

I've configured the template, for an annual salary of only about $24,000.00 a year. There are three tabs for three different months. You can add more months however by simply adding another worksheet. What you put in the expense columns will figure automatic totals to the bottom of the spreadsheet, and to the right, as well as link into the next month.

Prioritize and Pay Yourself First
You'll notice that the first thing it does is split up your expenses each month into two categories. What you consider 'priorities'. Notice that it does not put your bills in the first box. The first priority is paying yourself. That is key. You must, must, must pay yourself first. You pay yourself, by saving a certain percentage of your money, and sticking some of it in savings accounts, as well as investment accounts. I've already gone ahead and configured the template for the $500.00 Challenge Accounts, Savings Accounts (I enjoy ING Direct) , as well as a separate Family Investment Account. This is how you pay yourself first, and it must be your first priority.

(Click to Enlarge)

The Budget template is something I configured, but you can change the expenses; as it is only a template. For example, I'm a very religious person, so I like to contribute a fixed amount towards my religious organization. I consider charitable giving a priority to accumulating wealth. But you may be different. You can change both the amounts, and what is in the "expense" fields. You will also notice that I have two different Savings Accounts. I find it helpful to have a "General Savings" and a savings that I use to save up for specific purchases. I generally will spend only 10% out of that account on any one purchase. What you should not change however, is that savings and investment accounts are to be paid first.

By the way, you will note that I have set aside 20% of the income towards savings. Experts note that by doing this, you can very easily end up in the "Super Rich" category.

The second category deals with your fixed expenses. Rent. Bills. Credit Cards, and your own entertainment. The problem that many people make, is that they make this their first priority. It shouldn't be. Entertainment should come after saving for your own future. We like to enjoy ourselves, so what can typically happen is we spend too much money on pleasure, and then have nothing left and arrive at the end of the month broke.

Discipline
Nothing will screw up a good budget more, than a lack of discipline. How often do people swear that next month will be different. Only to find themselves in the exact same position in one month. Broke. You must be disciplined. It is the lack of self-discipline that causes most lottery winners to go broke soon after winning millions. You can go into debt whether you have a billion dollars, or only a few hundred. Just ask the government. It's all in your discipline.

There are ways to break yourself of bad habits. An ATM or Debit card can give you easy access to your money. This can be a great thing. But if you have developed a problem with impulse buying, this can also be a bad thing. You can spend money too easily that you should not be spending. Instead, use an online savings account like ING Direct, without having access to such a debit card. Or open another savings account without an ATM or Debit card. It's a bit of a pain to have to go inside the bank to make your deposit. But this can help you break yourself of any bad habits you may have developed with impulse shopping.

The greatest thing a person has to realize when it comes to accumulating wealth? Is that it takes time. We tend not to think of where we will be in the year 2012. But nothing can stop time. It's going to pass us by. The question is, will you take advantage of it? Or will you arrive in the year 2012 with nothing to show for the previous 4 years?

Thursday, December 20, 2007

Morgan Stanley (MS) thoughts . . .

This is not for the small funded $500.00 accounts, but for my other larger investment portfolio.

I picked up some Morgan Stanley the other day at $50.52. This is a long, long term play. Looking forward, Morgan Stanley is one of the single largest investment banks in the world. I had figured a few days ago that if they blow earnings, then I'd wait for the price to congest and consolidate and then on any of that strength, buy another 10x the number of shares to dollar cost average out my position.

Funny. They did blow earnings, but on news that China stepped in with a 4 billion dollar stake in Morgan Stanley, shares shot up. So at this point it's just wait and see. I have my DRIP (Dividend Reinvestment Program) turned on with my MS shares, so any dividends I receive will automatically purchase me more shares, without having to worry about the commissions. Their payout ratio is only 13%, it's held 72.4% by other institutions, their EPS is $7.38 and one of the largest investment banks in the world right now as a P/E of what? Yeah . . . Six.

Mind you, the news right now is not good. The securities firm posted a net loss from continuing operations of $3.59 billion, or $3.61 a share, in the quarter ending November 30. That is huge. A year earlier Morgan Stanley had income from continuing operations of $1.98 billion, or $1.87 a share. But as I mentioned, China stepped it with just a large a stake in the company.

Who was it that said: "May you live in interesting times"?

Wednesday, December 19, 2007

The Credit Crisis: Airelon's take . . .

Ok, bear with me for a bit, because I had a bit of a rant the other day when the subject of the credit crisis came up. And why have a blog if you can't repeat a bit of your own rantings? Right?

First of all, I think human beings biggest faults has contributed to the problem. Those faults are: 1) We think we can effectively rule other people. We think we can effectively manage the earth all on our own. The more we try, the more we screw it up. 2) Any time you collect individuals into a massive human institution, we have a nasty little trait that arises. As a group, we are inherently selfish and if we see a short-term benefit to ourselves, we will take that solution over the long term solution every time. As a collective species, we do what is best for own own interests in the short term, with absolutely no thought as to how it will affect us in 15 years. Much less 200 years. Humans take the attitude of "We'll figure it out" and just do what is best for us in the short-term, rationalizing away any possible dangers. Thus, we don't make it easy for everyone to attain wealth. Since we view things in the short-term - we see wealth as a zero-sum game, and try to grab our 'spoon' as it were from everyone else. We all, rich and poor alike, end up being at fault for class disparity. Instead of realizing that over time, wealth can be created.

If the weaker individual is not as smart as a more powerful human institution? We as a species, (or a human institution) will always take advantage of the individual. See the sub-prime mess for an example. Folks who did not realize what were going on? Did corporate investing institutions ever stop to consider the morality of what they were doing with ARM's? Nope. The human institution only saw the short term benefit to themselves, at the expense of those individuals who were not as financially savvy or intelligent. And human nature proved itself once again.

I remember telling people in the 1990's to live under their means, and that was the way to financial prosperity. They were laughing at me, because they put zero down on a $250,000 house (In my market, that would have bought you a 2500 - 3000 sq ft plus home), driving two brand new cars, had great jobs and were looking at me, who insists on renting my home, drives certified pre-owned vehicles and won't spend $1 unless I have $10 behind it (I try to keep to a literal, strict, 10%) I was dumb, because Greenspan - instead of taking advantage of the situation and tempering growth - is fanning the flames with all his might and people are living off the easy credit that was available. But I was the dummy?

How does Greenspan respond to such charges? I was watching an interview with that "gentleman" recently, and he had the audacity to say: "I would like to think that I helped take this country to the advantages of a risk premium, and that will be my legacy". Yeah, that's your legacy all right. You 'risked' us up to our eyeballs in debt, so that when the boon ended - we've painted ourselves in a corner. He lowered and lowered and lowered the rate. Then, when there was nothing left to do during an economic boon - and LCTM is going bust? What did he do? Hey, I got it! Let's lower the rate! to bail out a fund during the largest economic boon in our history.

Now - because Bernake inheireted a complete and utter freaking disaster - and he's doing his best to get us out of it - people are crying that "Things aren't as good as when Greenspan was at the helm"; and complaining against Bernanke's policies. Greenspan knew enough when to get out, and look squeaky clean in the process. Gotta give the man props for that sort of maneouvering.

I can't believe that people are looking to Greenspan of all people, for interviews and such during this credit crisis. If anything, he should be thankful he's avoided a public lynching at the DC Mall.

Now I'm not going to go on a Jim Cramer rant here. I thought that whole thing was sad. I understand it. But Jim is a victim of the mentality that Greenspan created. And after watching Bernake a bit, I think the Fed is doing exactly the right thing. Took me a bit to see it, because I knew Bernake's statements weren't making any sense at all. Anyone with half a brain knows that a .25 cut does nothing to avoid a recession. Heck, if rate cut after rate cut (was it 6 whole points?) didn't stop the mild recession in 2001 (a bubble by the way, that Greenspan caused) - what the hell is a .25 rate cut going to do to a much larger crisis? But I knew that Bernake is smart enough to have known that. I think the man is smart enough to know that if he cut the rates as drastically as the "gentleman" that came before him, we'd have nothing short of a collapse of our currency. Worldwide.

And again, I think Berneke is smart enough to know this. But the man has a very, very serious problem on his hands.

He has a stock market, that now has everyone's 401k's tied to it - that has come to expect "Fix the problem with a rate cut" perception. Hell, your average joe doesn't even know what a rate cut is. But it's that perception that he has to deal with. Jim Cramer is wrong. If Bernake was being an academic about it, he wouldn't have cut the rate at all, and told the Market to go to hell. That'd be the 'textbook' thing to do. But he's dealing with a country of people that has their retirement (401k's) tied up in something they know absolutely nothing about. They think when their 401k is up 200k, they've made 200k worth of money. They think that if their 401k goes down 40k, that they just lost 40k. The most they know, since Greenspan taught them, is that a rate cut is good for the stock market, so Bernake needs to cut the rate for my 401k. That's it. That's everything they know.

So what does Bernake do? He gives them a measley .25 rate cut and tries to soften the blow, and give the mild perception of doing something. Hell, I think people will be studying the way Bernake has handled this thing for years. Because in my book, he's made a lot smarter moves than I would have, if I was in his position. Is he in a corner? Yeup. Is he 'destroying the dollar'. Well, the rate cuts haven't helped. But they were only .25, and he had his back up against the wall. At the same time, he's trying to get the money to flow. China is onboard now, for the first time, being a contributor to the World Bank fund. The way I see it . . . he is trying, ever so gently, to get us out of it. He has to deal with the inflation that's about to hit us. Keep our dollar stable, and on the other hand, not have everyone 401k's go under, as Banks try to figure out how to make money by just owning a home that's been foreclosed on, and won't sell. He has to deal with realities of what he was dealt on the one hand, and get us where we need to be on the other. It's a race against time. A Tokugawa delaying tactic, I think is what he is going for. I think he's doing a good as job as can be expected.

This is why I view a recent statement by Buffet so important. He said:

"In the 20th century, real standard of living increased seven-fold. That was unprecedented, and included the Great Depression and other scares. The American system has unleashed the greatest potential of its citizens. Back in 1790, China had 290 million people, and America had 4 million. But today look where we are at. We will be better off in the future, the real question is how it will be shared." - Warren Buffett

"How it will be shared." A powerful statement. Education. I see the obligation of the wealthy to educate those without wealth, to accumulate it, while balancing growth and consumption. It is not in our best interests to keep that wealth to ourselves. It is only another red check mark against us, when considering our debt situation. While socialistic and communistic ideals are insane, and lead to ruin, it'd be nuts to not realize you can only keep wealth to yourself for so long - before it leads to class clashes. The smart road, and to my mind - what we need to focus in on, more than anything else, is that last statement. We have to learn how to educate others in the U.S. - so that they can partake in wealth as well. People will accept a disparity between classes only so long as they do believe it's possible for 'the little guy' to make it. When they feel that the little guy has absolutely no hope, then in the end, the wealthy will end up footing the bill.

Balanced education on accumulating wealth is difficult to find, but I see it as oohhh so necessary to continued prosperity in the United States.

This is why the education of the public when it comes to finances as so vital. People just don't know. It's not their fault. They don't teach economics, serious economics - in High School. Every graduation I go to, I ask the person I know that is graduating to "Tell me who wrote the "Wealth of Nations" and why it important to your life right now?" Not one kid graduating High School has even been able to tell me who Adam Smith was. It's not the kids fault. He was never taught properly anything having to do with handling his or her own money; and lives with Mom / Dad who buys them every gadget under the sun - from an bubble economy that was created by their own government! And NOW that government is going to act "Mr. Responsible", wash their hands of it and say "We don't bail out lenders" ? Sure that's the responsible thing to do in an ideal situation. But this country has come to expect it. So again, it comes back to what do you do? You're damned if you do, and damned if you don't. I think Bernake is trying to give the perception, delay a bit, let the market factor prices in. Some of the stuff he says is bullcrap, and I think he knows it's bullcrap as he's saying it. He's just delaying as he tries to build liquidity safely.

One more thing. Now we have a crisis, and instead of trying to act intelligently about it, as Bernake is doing? People who have been mongering 'fear' for as long as I've been in this business are really starting to spout off - and doing nothing to help. They write articles discussing how to 'invest in gold' because of a world-wide market collapse. That isn't the answer either. Fear will only immobolize the situation, and make it worse than it is. Fear is a reaction. Not a solution. Neither is buying Gold. That, again, is looking at the short term, for only the individuals benefit.

Tuesday, December 18, 2007

My Swing Trading Methodology . . .

Note: It should be noted that the following discusses TRADING. Not long term investing. Trading is short term speculation. Investing is long term, and much less speculative.

The following are my own personal rules for swing trading stocks:

Seems obvious? But pick the right stocks. Pick stocks that are liquid. Liquid means that you are able to get in and out of the stock trade very easily. Because that's what swing traders do. We jump in, and we jump out. The volume should be adequately high. Otherwise you might jump in? But when you jump out - there aren't enough traders who will accept your order, and your position can't be liquidated. Thus, you're stuck in the trade.

When it comes to picking the right stocks, I have a few rules to recognize. It should be noted that they only way I have personally found to have success? Is for ALL of these rules to line up. I find that when I ignore one? I generally get burned.

When I find what I think is a good company - it is done by doing this. Finding a company with a good Balance Sheet. You can perform the following criteria using any stock screener, such as this one found at Yahoo!

BALANCE SHEET
Current P/E, or just the P/E is at 6 to 17 (Number fluctuates according to market conditions)
Forward P/E is under 13 (Number fluctuates according to market conditions)
Trading with the overall (overall) chart trend, but buy it when the price is historically cheap. Not when it's near it's lifetime highs. Stocks don't stay near lifetime highs for very long.
Profit Margin greater than 8%
Dividend Yield >= 3%
Volume is adequately high (I like at least, over 300,000 a day. I've been known to go as low as 100,000, but I like higher volume. Means it's easier to jump in and out of the market)

Then, when you find a stock like that, you want to look for entering how.

Buy low. Sell high.

How to time your entry? On the charts themselves?

I use this, and it works, very, very, very well.

SEASONAL TENDENCY
Seasonal tendency means, that at certain times of the year, the market overall tends to go in certain directions. Notice I said: TENDS to go in those directions. Nothing is saying it will. But because of regular factors (Holidays, Earnings releases, Retail slowdowns in the summer months, etc), the market has shown definite tendencies.

I also said, the market over all tends to follow. Not individual stocks. But stocks DO follow the market at times. So if you can filter a good company by the Balance Sheet, and then find a time that is a seasonal strong time for the entire market? It might be a good time to buy an individual stock, as the likelihood (though there is no guarantee) is that the stock will follow overall market direction.

So what's the seasonal tendency? You find this - by combining all of the data for all of the days on the markets, over, say, 30 years or so. A few places have done this for us already:

Seasonal Charts - Here's that website again: http://www.seasonalcharts.com/

Last that was averaged out though? Was 2002 I believe. It still pretty much holds true; although I've went ahead and spent the money on getting some newer seasonal data. I make sure my seasonal data is kept up to date every year.

Go to the red box that says "CASH" and then select "STOCK INDICES". Then select either the DOW JONES, S&P 500, or NASDAQ Seasonal chart. They even have the TORONTO seasonal tendencies. If you were to visit my office? I have those 3 charts taped to the wall. Any American company that's doing well, has the tendency - TENDENCY to follow these patterns.

For instance, if you notice, Monday, July 2nd, to July the 4th (Market being closed then) the market will probably be pretty quiet. Traders are going on vacation, and exiting trades. They come back on July 5th, reacting to last quarters news with gusto. Seasonally, all the markets tend to experience growth from July 5th, to about the middle of the month. Then, I look to get out of all my positions. Biggest rule there is DON'T FIGHT THE SEASONAL TENDENCY ! ! ! !

But on July 15th? Should you really be looking to go long per the seasonal tendancy? Honestly?

Nope. That . . . is why I stopped stock trading on July 15th. And look at the heartache it saved me in 2007

Ok. Now, you have to time WHEN to buy. Don't just buy based on this, or you'll lose money. At what PRICE should you enter the market? It can matter - to the penny, because we're trading. Not investing.

1.28 RULE
Look for a market that isn't too wild. But going in nice waves. Up and down. Up and down. Notice a pattern? One seems to be in many markets, no matter how much they go up, or down. One thing that's been devised by a guy named Larry Williams, is called the 1.28 Rule. I use this to determine what exact day I might be looking to enter the market. I make sure that the 1.28 reversal day, coincides with the Seasonal tendency of the market. Therefore, I'm lining up two likelihoods.

This is how the 1.28 Rule works. See the following picture: for 1.28 Rule for seeing when a BOTTOM might form:

(Click to enlarge)



And here's the 1.28 Rule, for seeing when a TOP might form.

(Click to enlarge)


That's how you work that. BUT, it's only an estimation. A likelihood. How to further confirm? Checking out the support and resistance that the market is experiencing.

SUPPORT AND RESISTANCE:
1.28 Rule + Seasonals gave us an idea as to WHEN. Support and Resistance give us an idea as to WHAT PRICE

I'm assuming you know about support and resistance. I know a gentleman that combined the ideas of Fibronicci retracements, with Support and resistance trends, as well as a few observations of his own and called them prime-lines. Worth looking into.

Regardless, here's a chart to show you the basics of support and resistance:

(Click to enlarge)



Resistance in a market is formed when the market goes high, retraces itself, and goes high again. If it hits that area twice, and then comes down? Resistance was just formed.

Support in a market is formed when the market goes lower, retraces itself and goes up, and then comes down again. If it comes down and bounces off the same area twice? Support was just formed.

There's a lot to that, and I would recommend that if you're not familiar with it? You google and read a bit more into trendlines, support, resistance and the the like.

So, at this point, do you just BUY?

NO !!!!

Let the market confirm what we think is probable to happen. These are all probabilities, and understandings about Price and Time that we have lined up in our favour. In other words, let the market direction begin to show you that yes, the stock is really going to make this move because it's starting to move, and thus you can pull the trigger. But not before.


CHART PATTERNS
Here is a site that shows you what some patterns are. Patterns usually have to do with support and resistance

Double Bottom:
(Click to enlarge)



1-2-3 TOP (Sometimes called 1-2-x if the person BUYS between the 2 and the 3 point, and conversley, like a double bottom, and form a 1-2-3 bottom) :

(Click to enlarge)




As well as an article discussing triangle patterns . . .

Use a chart pattern, to confirm your buy. There are many, many, many chart patterns. What I usually do is this. Wait for the market to open. If it's not too rough an open. In other words, it opens somewhere on a 1-2-x pattern, buy a few cents past the resistance of the previous days highest high.

Like this:

(Click to enlarge)

TAKING PROFITS:
Take profits as soon as the money management strategy says to take them. This is an effective system for 2 to 5 day trade. Let's say you buy 1000 shares. What to do? If your risk is 7 cents? Then what should be your profit goal according to the money management thread? 28 cents right? If the trade turns around and fails? I stop my losses, losing only 7 cents and get out immediately.

Monday, December 17, 2007

Swing Trading . . .

Note: It should be noted that the following discusses TRADING. Not long term investing. Trading is short term speculation. Investing is long term, and much less speculative.

Swing trading, I have found, to be the style of trading that best fits my personality if I'm looking for a short-term trade. I'm not a hyper trader (the day trader) but on the other hand, when it comes to a trade I don't want to wait around for 6 months. Swing trading is more speculative (and thus, a little more risky). When it comes to trading? It's the style that I really love. Anywhere from 3 days to 14 days? And you're out of the trade. You really have to have your money management strategy nailed down in order to be a successful swing trader. But in my opinion, I believe it's very possible, and for myself? Less stressful.

A typical swing trade typically takes between a few days to two or three weeks. My average is around 7 days. Sometimes less, sometimes more.

The following was mentioned at Wikipedia's "Swing Trading" and I think, bears repeating:

"It should be noted that in either of the two market extremes, the bear-market environment or bull market, swing trading proves to be a rather different challenge than in a market that is between these two extremes. In these extremes, even the most active stocks will not exhibit the same up-and-down oscillations that they would when indices are relatively stable for a few weeks or months. In a bear market or a bull market, momentum will generally carry stocks for a long period of time in one direction only, thereby ensuring that the best strategy will be to trade on the basis of the longer-term directional trend.

The swing trader, therefore, is best positioned when markets are going nowhere—when indices rise for a couple of days and then decline for the next few days, only to repeat the same general pattern again and again. A couple of months might pass with major stocks and indices roughly the same as their original levels, but the swing trader has had many opportunities to catch the short terms movements up and down (sometimes within a channel).

Of course, the problem with both swing trading and long-term trend following is that success is based on correctly identifying what type of market is currently being experienced. Looking back over the past few years, trend following would have been the ideal strategy for the raging bull market of the last half of the 1990s, while swing trading probably would have been best for 2000 and 2001. With the 2002 bear market, the best strategy would have been to follow the trend and short everything in sight. As economists and traders would agree, the most accurate insight into trends is viewed in retrospect."


In other words, identify the right market for a swing trade, or even the right stock. The market lately? Has been extremely volatile. ALL over the place. This way and that. Just bouncing like a cat running through hot coals. Some swing traders, such as myself, find it difficult to profitably trade in such a market.

I prefer finding nice quiet times, when I can just look for the nice up, down, up down. Just oscillating, fairly predictable stocks and markets.

Swing trading is a game of catching the 'swing' of momentum. Thus, it's a matter of following moving averages.

AVERAGES! Yes, that's right. This time in your life has arrived that they warned you about in High School. The time when making money would depend on math.

:)

Seriously, all moving averages do? Is average together the closing price of X number of days together in one price. A 3 day moving average? Averages the closing price of 3 days? Into one number. So today's 3 day moving average? Would average the last 3 days closing price - into the average number. Let's say 3 days ago, XYZ closed at 1. Yesterday, XYZ closed at 3. Today, XYZ closed at 5. Then what's the 3 day moving average for the day? That's right. 3. (3+5+1)/3 You can create a moving average for however many days. 3. 5. 7. 12. 2000. And when you look into EMA's (Exponential Moving Average), you find an even better friend. How does these averages help?

It allows the market to not seem so jumbled, and for you to get a better handle on what the actual 3, 5, 7 or however many days - the trend is. Remember the motto: The Trend? Is your friend. Trade with the trend.

What a swing trader does? Is try to find out when two trends collide, and then trade with the larger trend as it has the most momentum.

That's key.

Also, I talk alot about Dividends in my investing portfolio? But in swing-trading, dividends is sort of a non-issue - except that it makes the stock more attractive to investors, and thus can be a variable to help buoy the price, and you can swing trade. But if Dividends are vital to my investment portfolio? For my swing trading? Their impact is there? But negligible.

So what is my methodology? I'll discuss that tommorow . . .

Sunday, December 16, 2007

Introducing Favorable Bias into Dollar Cost Averaging . . .

We ended the discussion the other day, talking about a disadvantage to strict dollar cost averaging. A times, if you have a really strong stock, instead of lowering the dollar cost average of the shares you are holding, you actually increase them. As we discussed, strict dollar cost averaging means you invest in the market and stocks no matter what the conditions are at specific intervals throughout the year, say, every 3 or 4 months.

Is there a way to introduce a bias into dollar cost averaging so that we retain the benefits of reducing our risk, while at the same time trying to avoid the possibility of raising our dollar cost average on our strong stocks? Yes there is.

We combine the factors of seasonality, with dollar cost averaging. This does not eliminate the risks, but it does introduce a historical bias into getting the best price possible for our investments. If we use capital to purchase shares repeatedly throughout the year, and look for sesonal buy points throughout the year over time, we will probably receive a better price than if we were to use strict dollar cost averaging.

Let's illustrate. Here's a very rough chart of the S&P 500 Index on a seasonal basis.


Now looking at this chart, what would be the best times of the year to use our capital to buy a particular stock? We could pick the times of January, April, and the end of the year at November through December.

This is why people will often hear me state that I never invest in the market from July to November. Is this something that I so intelligently discovered?

No.

As you progress in your investing and trading career you'll hear various adages. One of them is "Sell in May and Go Away". It's understood that generally, though not always, the market tends to peak in May and June, and it's best to leave the market alone.

For our investment portfolio we are not looking at selling per se. But we are looking at the best times to accumulate shares. Therefore it's generally not best to buy into your investment portfolio from May 15th to November 1st. Of course, we have to consider what we've already learned about seasonality. Each year is different. 2007 is an excellent example. We didn't see the rally begin until the very end of November. But in general, if we consider the above chart when looking at times to purchase shares for our investment portfolio we'll be buyers around January, April, and the end of the year at November through December. We thus introduce a seasonal bias into dollar cost averaging in an attempt to obtain a better mean price.

In the previous entry we demonstrated that with a strong stock such as FRO, we would have ended up with a mean share price of $39.75 with 4 purchases of 40 shares a piece, or 160 shares.

Now let's try the same thing, but consider seasonality with the purchases.

We would buy 40 shares in January for $31.84

We would buy 40 shares in March for $33.50

On strength, we would have added 40 shares in April at the breakout, at $37.28

We would not buy from May to November 1st.

We would buy 40 shares in November at $39.92

Now, instead of a mean share price of $39.75 when using strict Dollar Cost Averaging? We have a better mean share price of $35.63 using Seasonal Dollar Cost Averaging.

I urge you to look over good, strong companies, and see what a difference seasonal dollar cost averaging can make over the long term.

Saturday, December 15, 2007

Dollar Cost Averaging: Buy high, buy lower?

We ended the other day stating that DRIP's (Dividend Re-Investment Programs) allow us to automatically partake in a form of dollar cost averaging. In the U.K., dollar cost averaging is called pound cost averaging. What does this mean? What is Dollar Cost Averaging.

Well, you've probably often heard the expression: Buy low, sell high. That's the trick to trading right? Even when not trading, but investing, you want to buy lower when you accumulate good dividend stocks right? But when we are investing for the long term (Say, around 15 years or longer), we want as many shares as possible right?

But what sometimes happens? You buy at a price you think was low, but the market continues to drop. Is there a way to protect your investment portfolio when this happens?

Yes. Dollar cost averaging. When the market drops, you buy even more of the the stock at the lower price, at specific periods. Why? This averages out your position. Strict dollar cost averaging calls for the investor to buy at specific intervals, no matter what the market conditions are. In other words, you would buy every four months. No matter what the market conditions are. Over time, this helps average out the dollar amount of the shares you own. History has demonstrated that since the market rises, dollar cost averaging allows us to minimize our risk.

Let's illustrate it this way.

You buy 100 shares of stock XYZ at $50.00

It drops $7.00

It's still a good stock. Nothing has changed on their balance sheet. You are looking to own this stock for a couple of decades. Well, since that is the case, and you are being paid dividends on the stock you own, it would be a good idea (barring any bear markets or the like on the horizon). So what do you do? You buy 150 more shares of XYZ Stock at $43.00. Now, you're position isn't 250 shares at $50.00. You own 100 shares at a price of $50.00 ($5000) and you own 250 shares at $43.00 ($10,750) You lowered the average of your cost basis, and at the same time, you have more shares to be paid a dividend on. If your DRIP is on, then you accumulate even more shares. Then as, say 5 years passes and the stock price rises, you enjoy a higher rate of return, more shares, and a higher dividend pay rate since you own more shares.

Let's look at another example to illustrate what we're talking about. Let's take one of my favorite dividend stocks, Frontline Ltd (FRO). With dollar cost averaging, lets say you decide to buy FRO 4 times with in the year. So regardless of the market conditions, in February, you buy 40 shares at $33.00. Then you buy another 40 shares in May at $38.00. Then in July you buy another 40 shares at $48.00. Then in November you buy another 40 shares at $40.00.

What is your dollar cost average? $39.75

I used FRO specifically as an example to illustrate what can be a problem with typical Dollar Cost Averaging. You can actually raise your average over time, if you perform it at very strict intervals, regardless of market conditions.

So is there a way to introduce a bias into dollar cost averaging, so that we receive the benefits, and minimize the danger of actually raising our share cost average? Yes. I will discuss that in the next entry . . .

Friday, December 14, 2007

What is DRIP, and why is it key to successful dividend investing?

Several times throughout my blog I have referred to a DRIP. What, exactly, is a DRIP?

DRIP stands for dividend reinvestment program or dividend reinvestment plan. What is it? And why is it key to good dividend investing?

Dividend investing calls for us accumulating shares good, long-term, strong companies. And DRIP's assist us to do this. When it comes time for the dividend to be paid, the investor does not receive the dividend as cash. Instead, if the investor has enrolled in the DRIP, the investor's dividends are directly reinvested in the stock that issued the dividend. The biggest bonus to a DRIP, is that there are no broker commissions. So it allows you to accumulate more stock, without the negative price cost of a broker commission. It also allows us to accomplish one of our main goals of dividend investing. Accumulating shares of good stock. And you don't need to raise new cash to come up with the purchase. Not all companies that pay dividends participant in the DRIP program, and a few that do will charge you a small fee or proportional commissions. I usually check Dividend Investor.com to check those facts on any stock I may think of purchasing. When purchasing plans, and using the whole dollar amount of the dividend you are paid, most plans allow fractional shares to 3 or 4 decimal places. So if you are paid $140.00 in dividends on a stock, the DRIP will allow you to reinvest for 3.0183 shares if the case warrants.
There is another benefit to the DRIP. It allows us to dollar-cost average in our accumulation of a particular stock. What does this mean? I'll discuss that in the next blog . . .

Wednesday, December 12, 2007

BUD fill and market reaction to Fed news . . .

I was filled yesterday on my BUD purchase for my long term investment portfolio at $53.34

What a day we had. My personal thoughts are that the 200 + point drop was a knee-jerk reaction on the part of traders, who are providing more and more volatility to the markets. They wanted a 50 basis point cut, and they received a 25 basis point cut. Personally, I think if you're going to trade the markets, you should be forced to also invest in them somewhat in order to cut down the increasing volatility we're seeing. But hey. That's just me. It was a violent knee jerk reaction. But that's all I'm seeing it as. Personally, such traders need to be weaned away from trading based solely on the words the utter forth from the Chairman of the Feds mouth.

Regardless, I would not be at all surprised to see the markets either have a) a complete rebound today or b) consolidate at the current level with some possible congestion punching a bit lower before we head right back up again.

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