Reading notes: Stock Market Wizards

I recently finished Stock Market Wizards by Jack D. Schwager and really enjoyed it.  You can find it on Amazon or strangely on google books:

http://books.google.com/books?id=0DE0dBXG15AC&dq=stock+market+wizards&pg=PP1&ots=VNpv3jek7I&sig=J7c7nJRiIMNOwUoMtyGjq2zGU5s&hl=en&sa=X&oi=book_result&resnum=1&ct=result

Below are my personal notes. I know they are by no means complete thoughts and you may have a hard time pulling out what I’m talking about sometimes…but hopefully they are coherent enough to be useful.

Key takeaways:
-there are a million strategies to invest successfully
-you need to develop an approach that suits who you are / your skill sets
-you need to set rules to stay within that approach
-you need to be disciplined to fllow your rules
-you need to be capable of noticing…noticing when you’re greedy, fearful, when information is just noise and when information is trade able
-you need to be able to lose money emotionally
-you need to be able to limit your losses
-you need to be able to adapt your rules over time
-EVERYONE has lost money in the market…the goal isn’t to make money, it’s to make more than you lose because you will lose a lot

what is your edge:
“every trader in this book has a specific edge” Don’t trade until you know yours:
-masters has developed a catlyst-based model that identifies high probability trades
-Cook has identified price patterns that correctly predict the short term direction of the market 85% of the time
-Cohen combines the information flow provided by the select group of traders and analysts he has assmebled with his innate timing skills as a trader
-a tremendous investment in research and very low transaction costs have made it possible for shaw’s firm to identifty and profit from small market inefficiencies
-Watson’s extensive communication-based research allows him to identify overlooked stocks that are likely to advance sharply well before those opportunities become well recognized on Wall Street.

Trader notes
Stuart Walton

• Buy good expensive companies
• what makes up a “blessed stock”: 25% fundamentals, 25% technical, 25% is how the stock responds to different information such as: macroeconomic events and its own news as well as round numbers ($30 etc) and 25% for gut feel of the direction of the market
• technical analysis: general, linear upward trend
• Trusts his gut

Mark Cook (contact)

• Journal what you notice…it took him years of journaling to develop a working method
• Osu grad who grew up on the farm and continues to farm to fulfill his need for hard work
• “Hope should never be a strategy”
• observation is key
• PLAN: Write a plan at beginning of each year and each month…your plan won’t be right, but it at least forces you to think ahead, to visualize
• take detailed notes
• react don’t anticipate
• Always know your max loss in each position
• Increase activity NOT exposure
• Whenever you say “I hope this position comes back,” you need to get out
• patience
• best trades work the quickest (20 minutes in one of his trades)
• usually hold position for 3 days or less except for rare events
• expect 3 to 5 years of learning before becoming a successful trader
• even noticed which days he performed best :Tuesday best and Fridays the worst (REALLY NOTICING)
• Be honest about your weakness and deal with it (noticing again)

Business plan guidelines:
-it should contain specific answers to all of the following questions:
-what markets are you going to trade?  You need to select a market that fits your personality, because a market is a reflection of the people who trade it.
-What is your trading capitalization: You should be able to say “I could lose all this and be ok,” but you should be able to make enough as you do from your current job
-how are orders entered..scale into positions or all at once? how will you exit winning trades?
-what type of drawdown will cause you to stop trading and re-evaluate your approach?
-what are your profit goals measured on as a short time frame as is feasible for your approach?
-what procedure will you use for analyzing your trade?
-what will you do if personal problems arise that could adversely affect your trades?
-what will your working environment look like?
-how will you reward yourself for successful trading?
-how will you continue to improve?

Ahmet Okus
-buy cheap companies
-look at insider buying…don’t just look at the amount, but look at the amount relative to salary, etc
-TOP PRIORITY: Don’t lose money

2 schools to investing:
-over research to a point of confidence…don’t mess with stops because you researched your buy and are confident the price will come back
-set stops to limit losses….I like this option

**Minervini
-losing money can be a good thing…if you learn from it
-if you win big when you win, and have minimal losses on your losing trades..then you only have to be right 50% of time
-be ok with buying one of your picks at a higher price…
-keep trading until the trade is right (buy, get stopped out, buy, get stopped out)
-caps losses at 10%
-find chart patterns that work and notice WHEN they work
thought: careful of new high stocks…they are owned by lots of Happy investors full of HOPE it will go higher…will jump ship quickly if the tide turns
-look way back for historical trends in charts
-beest teacher is results

**Steve Lescarbeau
-find a niche that works for you…traded mutual funds
-look for catalysts
-noticed stocks down big before earnings are more likely to go up after announcement

**John Bender
-all about options
-again great at NOTICING
-buying up Costa Rican real estate to build a wildlife preserve
-ignored the traditional model of options pricing…developed his own probability distribution
-stock price movements are NOT random (which he says the Black-Scholes model assumes)
-ONLY USES TECHNICAL ANALYSIS becaues it is important and used by lots of traders…therefore it will have an impact on price…TA can show you what others are thinking
-new highs can attract new inflows, which can attract more new highs, which attracts
-QUESTION EVERYTHING (headlines, newspapers, bloggers, analysts etc)
*Idea: How can internet traffic trends be leveraged as part of a trading strategy?

Steven A. Cohen
-trade on a hypothesis and stay in the trade as long as hypothesis appears to be true
-know what you are…are you an options trader, a long term buy and hold, commodities, short, day trader?  know what you are and stay within it 95% of the time
Thought: I struggle with this a lot…I like to think of myself as someone who can see the big picture and likely consequences of current events (where trends are going)…with that I like hte idea of buying and holding.  On the other hand, the gambler in me is attracted to short, quick money…which is why I trade in and out of things so often and why I love options.  I’m looking for a home run, though in either scenario.  I need a way to appease the gambler in me so that it doesn’t overwhelm, while allowing the visionary / noticer take control.  I think my best approach should be a buy and hold 6 month trading window kind of guy…longer term than daily, but not 5 years ahead..this hsould appease the gambler in me as we..

Dr. Ari Kiev
-first step: You must decide that you are going to win
- must say “I”m going to be a successful trader,” and start taking steps towards that
-Tell EVERYONE…something about sharing your goal with others makes you more likely to go for it
believing in an outcome makes it more achievable
-stretch for uncertain goals, it will lead you to greatness
-Being preoccupied with not losing gets in the way of winning
-maintain sense of control…focus on what you have control of (where you invest, how much you invest, when you buy, when you sell)..don’t waste time on things you have no control over (bad economy, etc)
-learn how to maintain a winning attitude at all times, even when you are losing…the best traders feel the same regardless of their performance

Ari’s strategy:
define a target
a strategy consistent with finding the target
set out disciplines to follow it and risk mgmt guidelines
then trade
track
and evaluate performance

summary:
-discipline is key…regardless of strategy
1. develop an effective trading strategy and plan out all possible outcomes (generic not specific…)
2 follow that plan (but be willing to adapt it for new lessons)
-keep a daily journal of thoughts / observations
-AGAIN it’s about NOTICING
-What is your edge? Where do your natural talents offer opportunities?
-must understand risk control
-know reasons to exit
-profit objection reached?
-time stop?

paper trade – aapl calls into earnings

Based on Google’s numbers last week, I’m going to make a paper trade betting on a wild market reaction to aapl’s numbers.  I’m going to make this bet on both sides of the numbers, thinking that regardless of what the numbers look like the stock will move aggressively.  So my buys are this (again no real money here):

~8% swing either way:

aug 175 calls: $5.20

aug 155 puts: $4.90

let’s say I’d invest $10k so I would buy about 9 calls and 11 puts based on price.

I’ve never made money with this stragey before but it has always intrigued me as a way to play earnings in these momentum stocks.  I’m curious to see how it plays out.

For the record I “feel” that AAPL’s numbers will be VERY good, and as long as they don’t mutter anything about weakness going forward or offer any bad news about Jobs’ health, the stock will run higher tomorrow.

lucky gains lead to bigger losses

As I wrote about earlier this week, I made a few bucks buying aapl calls at intraday lows and selling them at their intraday highs.  Basically I would wait an hour into the trading day and let the calls (and aapl) establish a range.  Then I would step in and try and catch the calls (I was buying the july 180’s) at their lows of the day with a buy limit order.  Once the order was complete I would put in a stop to protect my downside and wait and see the market action by mid afternoon.  Then I would put in a sell limit order at the day’s high (as determined by the swings of the morning).  This worked really, really well two days in a row. In fact I was able to start with about $3800 and end up with over $5,000 in profit in total.  And then I got greedy…

It was bad enough I broke my rules by trading during the day, but I really screwed things up by letting my greed get the best of me. I went back for a bigger bet yesterday, ignoring a logical voice that told me this strategy would lose it’s effectiveness at some point.   After all AAPL’s stock, like every other, does go down sometimes.  And yesterday it did.

I put in my buy limit at morning lows on the 185 calls yesterday, but made a first of many mistakes.  The first mistake was betting the farm on this strategy.  This was akin to winning blackjack two hands in a row, and then betting everything you have that your “strategy” for winning blackjack would yield another 21.  Of course it never does. I did not invest or bet all of my money but I certainly went for it more than ever. My greed won that battle over logic. The second mistake was I left the order open even though I knew I would not be around to see it executed and even more importantly I would not be able to enter in a stop to protect my downside.   I was at lunch meeting for several hours away from a computer (and scottrade’s mobile site is just awful…it’s almost like working in dos prompt again).  So my buy order executed and then the market danced around unchanged until about 230pm, and then it started to head south.  This is when I would have gotten out, when a stop would have cut my losses.  But I didn’t have a stop, I was exposed…and the calls fell $1.

This is where the 3rd and most costly mistake came to play, the one that erased my gains from the previous two days entirely.  First I panicked because I had more money at risk than I was used to.  So I set in a measly stop, one I knew would be executed because I wanted out.  I happened to time the bottom almost perfectly, getting out of the calls just as they rebounded.  Fear won that one.  Next greed started feeling a little more confident…I suddenly KNEW aapl was coming back, the market (this horrible, horrible, weak market) was coming back towards the close.  Buy now…buy low, sell high right?  So I put in another large buy limit order, thinking I could buy just above the low of the day.  I think this behavior requires a new rule…I can’t buy and sell and buy again in the same day EVER.  When I’m doing that, it is a sure sign I’m being ruled by my emotions. Not good.  So I was back in, at a slightly lower price than I had just sold for a loss.  I held over night thinking AAPL would surge today.

This morning the market opened and I found myself watching the scottrade streaming quotes feeling like a gambler at the horsetrack who had bet his mortgage payment on the long shot horse…it was very scary.  This is why I started this blog..to stop things like this.  I set a stop and closed down Scottrade.  If I’m stopped out, I’m finished I told myself. Strangely despite a loss, I felt better clearing up the uncertainty.  I may lose, but at least I know how much I”ll lose and I’m ok with that.  That is a big key I’m learning…it’s ok to lose money because quite frankly it will happen a lot in investing.  But you need to know just how much you can and are willing to lose.  I lost.  I was stopped out, ending down about $1K (after being up $5k) in this whole fiasco.  AAPL’s stock recovered from the lows of the day, meaning my strategy would have worked today, nonetheless I am happy to be out.

No more gambling…investing only.

potential new rules from lessons learned:

-Can’t buy and sell and buy (or sell buy sell) a stock in the same day

-always set a stop..if you are unable to set a stop then don’t make the trade..OK to wait

-never bet the farm all at once

watching

NCTY -  This is the first stock in my new 200 day MA screen that really intrigues me.  It has been hammered down as part of the overall Chinese markets.  It’s online gaming company that is quite frankly reasonably valued.  It contains some things that I love, especially China which can really rev up investor excitement.  I put it on a watch buy at $25 per share.  I think a buy stop could work when it pierces $26.75, and then look to buy on any dips.

FSYS..I will put a stop in at $27.69 which is the 50 day moving average.  Using my lesson from last time, the stop will go in just above at $27.71. I will hold it otherwise and consider purchasing again if it starts moving towards earnings on August 11th.

Others…the 200 MA bullish screen is filled with some financials, which I find very interesting.  Perhaps they’re being accumlated for an acquisition or are just good companies that deserve to come back first.  Some of the tickers for future reference:

CATM

Cardtronics Inc

4.44

322.1 Mil

8.70

8.40

8.33

FCFS

First Cash Financial Services Inc

2.33

438.4 Mil

15.35

15.00

AAPL – July 180 Calls…a success!

As I wrote earlier today, I bought some July 180 AAPL calls at $2.50 per contract on what looked to me a temporary dip in an otherwise surging stock.  I’ll be honest when I bought them my plan was to ride the wave of hype surrounding the new iphone launch on Friday.  I also said that my sell goal was $3.85 per contract or $1.35 in profit on 15 contracts.  As I watched aapl surge once it hit 3pm, I knew I would have an opportunity to at least come close to my target price today.  The one mistake I made was I moved my stop down to $3.65, leaving $.20 per contract on the table.  But I sold with a very nice profit for the day, pretty much erasing my left over FSYS losses.

Lesson learned?  Stick to your stops, it’s better to take a profit now than a loss later…I know aapl’s stock well in a way that violates my rules for the most part.  It’s ok for me to continually play with the options, but on a limited % of my portfolio.

aapl july 180 calls

I made an option “gamble” today buying 15 July 180 aapl calls at $2.49 pe contract.  Aapl showed tremendous strenght this morning as the market rallied, and I believe there will be a really nice run up for aapl’s release of their new iphone on Friday.  So I am ok with this short term trade, knowing aapl well and knowing that it can spring to life on just about any good news, even in a bad market.  I will put a limit on the downside at $2.00 per contract, which I know is really just a down day away from hitting.  On the upside I will sell the calls anywhere near the $3.80 mark, which these calls hit this morning.

honor your stops – and make sure you made them

Well crap.  I just realized that I hadn’t adjusted my stop in FSYS to get me out of my position entirely, therefore I’m left with 200 shares of a stock that is down I 15%.  A stupid mistake cost me about 15%, ugh.  Oh well lesson learned…login to Scottrade everyday and make proper adjustments to stops / buys daily.

Fsys – I hardly knew ye

So I’m out of FSYS as of noon today.  I really didn’t want to get out.  This stop loss stuff really pains me.  I guess it is so final, it means that I have no chance of making money on the investment.  Anyway things I learned from this one:

-NEVER buy a stock on a big up day.  Always wait until the next day to either confirm the trend or buy at a slightly lower price (in another upward trend)

-Good stop prices are fairly easy to see on a chart, continue to stick with them. I learned with FSYS that my stop was correct…once the stock broke through my stop price, it continued down another 55 cents or 2%.  Ok now it is down another $1 or 4%. Ouch. (since writing this the stock is now down $1.30 from my stop price…since writing that it is now down $1.70 from my stop price)

-A better stop price would be slightly above the visible, obvious stop because it seems lots of others have stops at the obvious price, and when it is hit the stock goes into a free fall.

-I’m not sure buying stocks breaking out to all time highs is what I’m looking for.  Unless the stock is still “fairly valued” they usually don’t show up on my radar screen until their run is over.  Also all of the people who come into these type of stocks when I do are very weak buyers who run for the exits at any sign of weakeness.  This means that the stock can fall very far, very quickly.  I need a newer approach.

-only nibble buys until another break out.  This is a really hard one for me.  I am afraid to buy higher because of greed.  The truth is this will lower my losses and boost my gains by only exposing the most money to strong stocks, and minimizing cash exposure to delicate stocks (a la FSYS).  For example if I plan on investing $15,000 into a stock only $5k should be exposed until a trend is confirmed.

How can I find a fsys before it breaks out?  I realize that is the holy grail of investing but I feel like there has to be an approach that works.  There are so many uknowns here and so many stocks to choose from that it seems like it would be also impossible to find FSYS in some sort of screen in March.  Some things to explore:

-price…I wonder if a lower price ($10-$20) means that a 4x run is more likely than a 4x run for a stock at $50-$100.  Part of the reason for this is that you need both institutional investors to buy and build support (they could care less about price…they only care about company value), but individual investors may drive the run up (they do care about price, even if they are “sophisticated”).  Perhaps I’ll look just a stocks with a price of $10-$20.

-moving average…I know it is not the only answer but I can see that all of these stocks were great buys after they broke their 200 day moving average. So that is something I will screen for as well.

-bear market…We are in a bad market.  Therefore there are fewer and fewer stocks that are anywhere near all time highs.  Also there are more and more beat up stocks, which could present great opportunities to ride the markets return.

ok to end this post FSYS is now down over $3 from my stop price.  I guess stops are a very good thing.