Category Archives: jay kaeppel

The Agony and Ecstasy of Trend-Following

Let’s face it, many investors have a problem with riding a trend.  When things are going well they fret and worry about every blip in interest rates, housing starts, earnings estimates and the price of tea in China, which often keeps them from maximizing their profitability.  Alternatively, when things really do fall apart they suddenly become “long-term investors” (in this case “long-term” is defined roughly as the time between the current time and the time they “puke” their portfolio – just before the bottom).

Which reminds me to invoke:

Jay’s Trading Maxim #6: Human nature is a detriment to investment success and should be avoided as much as, well, humanly possible.

So, it can help to have a few “go to” indicators, to help one objectively tilt to the bullish or bearish side.  And we are NOT talking about “pinpoint precision timing” types of things here. Just simple, objective clues.  Like this one.

Monthly MACD

1

Figure 1 displays the S&P 500 index monthly chart with the monthly MACD Indicator at the bottom.Figure 1 – Monthly S&P 500 Index with MACD (Courtesy AIQ TradingExpert)

The “trading rules” we will use are pretty simple:

*If the Monthly MACD closes a month above 0, then hold the S&P 500 Index the next month

*If the Monthly MACD closes a month below 0, then hold the Barclays Treasury Intermediate Index the next month

*We start our test on 11/30/1970.

*For the record, data for the Barclays Treasury Intermediate Index begins in January 1973 so prior to that we simply used an annual interest rate of 1% as a proxy.

Figure 2 displays the equity curves for:

*The strategy just explained (blue line)

*Buying and holding the S&P 500 Index (orange) line

2

Figure 2 – Growth of $1,000 using MACD System versus Buy-and-Hold

Figure 3 displays some “Facts and Figure” regarding relative performance.

3

Figures 3 – Comparative Results

For the record:

*$1,000 invested using the “System” grew to $143,739 by 6/30/2019

*$1,000 invested using buy-and-hold grew to $102,569 by 6/30/2019

*The “System” experienced a maximum drawdown (month-end) of -23.3% and the Worst 5-year % return was +7.3% (versus a maximum drawdown of -50.9% and a Worst 5-year % return of -29.1% for Buy-and-Hold)

So, from the chart in Figure 2 and the data in Figure 3 it is “obvious” that using MACD to decide when to be in or out of the market is clearly “better” than buy-and-hold.  Right?  Here is where it “gets interesting” for a couple of reasons.

First off, the MACD Method outperforms in the long run by virtue of missing a large part of severe bear markets every now and then.  It also gets “whipsawed” more often than it “saves your sorry assets” during a big bear market.  So, in reality it requires ALOT of discipline (and self-awareness) to actually follow over time.

Consider this: if you were actually using just this one method to decide when to be in or out of the market (which is NOT what I am recommending by the way) you would have gotten out at the end of October 2018 with the S&P 500 Index at 2,711.74.  Now nine months later you would be sitting here with the S&P 500 Index flirting with 3,000 going “what the heck was I thinking about!?!?!?”  In other words, while you would have missed the December 2018 meltdown, you also would have been sitting in treasuries throughout the entire 2019 rally to date.

Like I said, human nature, it’s a pain.

To fully appreciate what makes this strategy “tick”, consider Figures 4 and 5. Figure 4 displays the growth of equity when MACD is > 0 (during these times the S&P 500 Index is held).

4

Figure 4 – Growth of $1,000 invested in S&P 500 Index when MACD > 0.

Sort of the “When things are swell, things are great” scenario.

Figure 5 displays the growth of $1,000 for both intermediate-term treasuries AND the S&P 500 Index during those times when MACD > 0.

5

Figure 5 – Growth of $1,000 invested in Intermediate-term treasuries (blue) and the S&P 500 (orange) when MACD < 0.

Essentially a “Tortoise and the Hare” type of scenario.

Summary

Simple trend-following methods – whether they involve moving average using price, trend lines drawn on charts or the MACD type of approach detailed herein – can be very useful over time.

*They can help an investor to reduce that “Is this the top?” angst and sort of force them to just go with the flowing while the flowing is good.

*They can also help an investor avoid riding a major bear market all the way to the bottom – which is a good thing both financially and emotionally.

But everything comes with a cost.  Trend-following methods will never get you in at the bottom nor out at the top, and you WILL experience whipsaws – i.e., times when you sell at one price and then are later forced to buy back at a higher price.

Consider it a “cost of doing business.”

Jay Kaeppel

Disclaimer:  The data presented herein were obtained from various third-party sources.  While I believe the data to be reliable, no representation is made as to, and no responsibility, warranty or liability is accepted for the accuracy or completeness of such information.  The information, opinions and ideas expressed herein are for informational and educational purposes only and do not constitute and should not be construed as investment advice, an advertisement or offering of investment advisory services, or an offer to sell or a solicitation to buy any security.

Where We Are

One of the best pieces of advice I ever got was this: “Don’t tell the market what it’s supposed to do, let the market tell you what you’re supposed to do.”

That is profound.  And it really makes me wish I could remember the name of the guy who said it.  Sorry dude.  Anyway, whoever and wherever you are, thank you Sir.

Think about it for a moment.  Consider all the “forecasts”, “predictions” and “guides” to “what is next for the stock market” that you have heard during the time that you’ve followed the financial markets.  Now consider how many of those actually turned out to be correct.  Chances are the percentage is fairly low.

So how do you “let the market tell you what to do?”  Well, like everything else, there are lots of different ways to do it.  Let’s consider a small sampling.

Basic Trend-Following

Figure 1 displays the Dow Industrials, the Nasdaq 100, the S&P 500 and the Russell 2000 clockwise form the upper left.  Each displays a 200-day moving average and an overhead resistance point.

1

Figure 1 – Dow/NDX/SPX/RUT (Courtesy AIQ TradingExpert)

The goal is to move back above the resistance points and extend the bull market.  But the real key is for them to remain in an “uptrend”, i.e.,:

*Price above 200-day MA = GOOD

*Price below 200-day MA = BAD

Here is the tricky part.  As you can see, a simple cross of the 200-day moving average for any index may or may not be a harbinger of trouble.  That is, there is nothing “magic” about any moving average.  In a perfect world we would state that: “A warning sign occurs when the majority of indexes drop below their respective 200-day moving average.”

Yet in both October 2018 and May 2019 all four indexes dropped below their MA’s and still the world did not fall apart, and we did not plunge into a major bear market.  And as we sit, all four indexes are now back above their MA’s.  So, what’s the moral of the story?  Simple – two things:

  1. The fact remains that major bear markets (i.e., the 1 to 3 year -30% or more variety) unfold with all the major averages below their 200-day moving averages.  So, it is important to continue to pay attention.
  2. Whipsaws are a fact of life when it comes to moving averages.

The problem then is that #2 causes a lot of investors to forget or simply dismiss #1.

Here is my advice: Don’t be one of those people.  While a drop below a specific moving average by most or all the indexes may not mean “SELL EVERYTHING” now, it will ultimately mean “SEEK SHELTER” eventually as the next major bear market unfolds.  That is not a “prediction”, that is simply math.

The Bellwethers

I have written in the past about several tickers that I like to track for “clues” about the overall market.  Once again, nothing “magic” about these tickers, but they do have a history of topping out before the major averages prior to bear markets.  So, what are they saying?  See Figure 2.

2

Figure 2 – SMH/Dow Transports/ZIV/BID (Courtesy AIQ TradingExpert)

The bellwethers don’t look great overall.

SMH (semiconductor ETF): Experienced a false breakout to new highs in April, then plunged.  Typically, not a good sign, but it has stabilized for now and is now back above its 200-day MA.

Dow Transports: On a “classic” technical analysis basis, this is an “ugly chart.” Major overhead resistance, not even an attempt to test that resistance since the top last September and price currently below the 200-day MA.

ZIV (inverse VIX ETF): Well below it’s all-time high (albeit well above its key support level), slightly above it’s 200-day MA and sort of seems to be trapped in a range.  Doesn’t necessarily scream “SELL”, but the point is it is not suggesting bullish things for the market at the moment.

BID (Sotheby’s – which holds high-end auctions): Just ugly until a buyout offer just appeared.  Looks like this bellwether will be going away.

No one should take any action based solely on the action of these bellwethers.  But the main thing to note is that these “key” (at least in my market-addled mind) things is that they are intended to be a “look behind the curtain”:

*If the bellwethers are exuding strength overall = GOOD

*If the bellwethers are not exuding strength overall = BAD (or at least not “GOOD”)

A Longer-Term Trend-Following Method

In this article I detailed a longer-term trend-following method that was inspired by an article written by famed investor and Forbes columnist Ken Fisher.  The gist is that a top is not formed until the S&P 500 Index goes three calendar months without making a new high.  It made a new high in May, so the earliest this method could trigger an “alert” would be the end of August (assuming the S&P 500 Index does NOT trade above it’s May high in the interim.

Jay Kaeppel

Disclaimer:  The data presented herein were obtained from various third-party sources.  While I believe the data to be reliable, no representation is made as to, and no responsibility, warranty or liability is accepted for the accuracy or completeness of such information.  The information, opinions and ideas expressed herein are for informational and educational purposes only and do not constitute and should not be construed as investment advice, an advertisement or offering of investment advisory services, or an offer to sell or a solicitation to buy any security.

What the Hal?

Some industries are cyclical in nature.  And there is not a darned thing you – or they – can do about it.  Within those industries there are individual companies that are “leaders”, i.e., well run companies that tend to out earn other companies in that given industry and whose stock tends to outperform other companies in that industry.

Unfortunately for them, even they cannot avoid the cyclical nature of the business they are in.  Take Halliburton (ticker HAL) for example.  Halliburton is one of the world’s largest providers of products and services to the energy industry.  And they do a good job of it. Which is nice.  It does not however, release them from the binds of being a leader in a cyclical industry.

A Turning Point at Hand?

1

A quick glance at Figure 1 clearly illustrates the boom/bust nature of the performance of HAL stock.Figure 1 – Halliburton (HAL) (Courtesy AIQ TradingExpert)

Which raises an interesting question: is there a way to time any of these massive swings?  Well here is where things get a little murky.  If you are talking about “picking timing tops and bottoms with uncanny accuracy”, well, while there are plenty of ads out there claiming to be able to do just that, in reality that is not really “a thing”.  Still, there may be a way to highlight a point in time where:

*Things are really over done to the downside, and

*For a person who is not going to get crazy and “bet the ranch”, and who understands how a stop-loss order works and is willing to use one…

..there is at least one interesting possibility.

It’s involves a little-known indicator that is based on a more well-known another indicator that was developed by legendary trader Larry Williams roughly 15 or more years ago.  William’s indicator is referred to as “VixFix” and attempts to replicate a VIX-like indicator for any market.  The formula is pretty simple, as follows  (the code is from AIQ Expert Design Studio):

*hivalclose is hival([close],22).

*vixfix is (((hivalclose-[low])/hivalclose)*100)+50.

In English, it is the highest close in the last 22-periods minus the current period low, which is then divided by the highest close in the last 22-periods. The result then gets multiplied by 100 and 50 is added.

Figure 2 displays a monthly chart of HAL with William’s VixFix in the lower clip.  In a nutshell, when price declines VixFix rises and vice versa.

2

Figure 2 – HAL Monthly with William’s VixFix (Courtesy AIQ TradingExpert)

Now let’s go one more step as follows by creating an exponentially smoothed version as follows (the code is from AIQ Expert Design Studio):

*hivalclose is hival([close],22).

*vixfix is (((hivalclose-[low])/hivalclose)*100)+50. <<<Vixfix from above

*vixfixaverage is Expavg(vixfix,3).  <<<3-period exponential MA of Vixfix

*Vixfixaverageave is Expavg(vixfixaverage,7). <<<7-period exp. MA

I refer to this as Vixfixaverageave (Note to myself: get a better name) because it essentially takes an average of an average.  In English (OK, sort of), first Vixfix is calculated, then a 3-period exponential average of Vixfix is calculated (vixfixaverage) and then a 7-period exponential average of vixfixaverage is calculated to arrive at Vixfixaverageave (got that?)

3

Anyway, this indicator appears on the monthly chart for HAL that appears in Figure 3.Figure 3 – HAL with Vixaverageave (Courtesy AIQ TradingExpert)

So here is the idea:

*When Vixfixaverageave for HAL exceeds 96 it is time to start looking for a buying opportunity.

OK, that last sentence is not nearly as satisfying as one that reads “the instant the indicator reaches 96 it is an automatic buy signal and you can’t lose”.  But it is more accurate.  Previous instances of a 96+ reading for Vixfixaverageave for HAL appear in Figure 4.

4

Figure 4 – HAL with previous “buy zone” readings from Vixfixaverageave (Courtesy  AIQ TradingExpert)

Note that in previous instances, the actual bottom in price action occurred somewhere between the time the indicator first broke above 96 and the time the indicator topped out.  So, to reiterate, Vixfixaverageave is NOT a “precision timing tool”, per se.  But it may be useful in highlighting extremes.

This is potentially relevant because with one week left in May, the monthly Vixfixaverageave value is presently above 96.  This is NOT a “call to action”.  If price rallies in the next week Vixfixaverageave may still drop back below 96 by month-end.  Likewise, even if it is above 96 at the end of May – as discussed above and as highlighted in Figure 4, when the actual bottom might occur is impossible to know.

5

Let me be clear: this article is NOT purporting to say that now is the time to buy HAL.  Figure 5 displays the largest gain, the largest drawdown and the 12-month gain or loss following months when Vixfixaverageave for HAL first topped 96.  As you can see there is alot of variation and volatility.  

Figure 5 – Previous 1st reading above 96 for HAL Vixfixaverageave

So HAL may be months and/or many % points away from an actual bottom.  But the main point is that the current action of Vixfixaverageave suggests that now is the time to start paying attention.

Jay Kaeppel

Disclaimer:  The data presented herein were obtained from various third-party sources.  While I believe the data to be reliable, no representation is made as to, and no responsibility, warranty or liability is accepted for the accuracy or completeness of such information.  The information, opinions and ideas expressed herein are for informational and educational purposes only and do not constitute and should not be construed as investment advice, an advertisement or offering of investment advisory services, or an offer to sell or a solicitation to buy any security.

A Different Kind of Bond Barbell

The “barbell” approach to bond investing typically involves buying a long-term bond fund or ETF and a short-term bond fund or ETF.  The idea is that the long-term component provides the upside potential while the short-term component dampens overall volatility and “smooths” the equity curve.  This article is not intended to examine the relative pros and cons of this approach.  The purpose is to consider an alternative for the years ahead.

The Current Situation

Interest rates bottomed out several years ago and rose significantly from mid-2016 into late 2018.  Just when everyone (OK, roughly defined as “at least myself”) assumed that “rates were about to establish an uptrend” – rates topped in late 2018 and have fallen off since.  Figure 1 displays ticker TYX (the 30-year treasury yield x 10) so you can see for yourself.

1

Figure 1 – 30-year treasury yields (TNX) (Courtesy AIQ TradingExpert)

2

In terms of the bigger picture, rates have showed a historical tendency to move in 30-year waves.  If that tendency persists then rates should begin to rise off the lows in recent years in a more meaningful way.  See Figure 2.Figure 2 – 60-year wave in interest rates (Courtesy: www.mcoscillator.com)

Will this happen?  No one can say for sure.  Here is what we do know:  If rates decline, long-term treasuries will perform well (as long-term bonds react inversely to the trend in yields) and if rates rise then long-term bond holders stand to get hurt.

So here is an alternative idea for consideration – a bond “barbell” that includes:

*Long-term treasuries (example: ticker VUSTX)

*Floating rate bonds (example: ticker FFRAX)

Just as treasuries rise when rates fall and vice versa, floating rate bonds tend to rise when rates rise and to fall when rates fall, i.e., (and please excuse the use of the following technical terms) when one “zigs” the other “zags”.  For the record, VUSTX and FFRAX have a monthly correlation of -0.29, meaning they have an inverse correlation.

3

Figure 3 displays the growth of $1,000 invested separately in VUSTX and FFRAX since FFRAX started trading in 2000.  As you can see the two funds have “unique” equity curves.

Figure 3 – Growth of $1,00 invested in VUSTX and FFRAX separately

Now let’s assume that every year on December 31st we split the money 50/50 between long-term treasuries and floating rate bonds.  This combined equity curve appears in Figure 4.

4

Figure 4 – Growth of $1,000 50/50 VUSTX/FFRAX; rebalanced annually

Since 2000, long-treasuries have made the most money.  This is because interest rates declined significantly for most of that period.  If interest rise in the future, long-term treasuries will be expected to perform much more poorly.  However, floating rate bonds should prosper in such an environment.

Figure 5 displays some relevant facts and figures.

5

Figure 5 – Relevant performance Figures

The key things to note in Figure 5 are:

*The worst 12-month period for VUSTX was -13.5% and the worst 12-month period for FFRAX was -17.1%.  However, when the two funds are traded together the worst 12-month period was just -5.0%.

*The maximum drawdown for VUSTX was -16.7% and the maximum drawdown for FFRAX was -18.2%.  However, when the two funds are traded together the worst 12-month period was just -8.6%.

Summary

The “portfolio” discussed herein is NOT a recommendation, it is merely “food for thought”.  If nothing else, combining two sectors of the “bond world” that are very different (one reacts well to falling rates and the other reacts well to rising rates) certainly appears to reduce the overall volatility.

My opinion is that interest rates will rise in the years ahead and that long-term bonds are a dangerous place to be.  While my default belief is that investors should avoid long-term bonds during a rising rate environment, the test conducted here suggests that there might be ways for holders of long-term bonds to mitigate some of their interest rate risk without selling their long-term bonds.

Like I said, food for thought.

Jay Kaeppel

Disclaimer:  The data presented herein were obtained from various third-party sources.  While I believe the data to be reliable, no representation is made as to, and no responsibility, warranty or liability is accepted for the accuracy or completeness of such information.  The information, opinions and ideas expressed herein are for informational and educational purposes only and do not constitute and should not be construed as investment advice, an advertisement or offering of investment advisory services, or an offer to sell or a solicitation to buy any security.

A Useful Interest Rate Indicator

2018 witnessed something of a “fake out” in the bond market.  After bottoming out in mid-2016 interest rates finally started to “breakout” to new multi-year highs in mid to late 2018. Then just as suddenly, rates dropped back down.

1

Figure 1 displays the tendency of interest rates to move in 60-year waves – 30 years up, 30 years down.  The history in this chart suggests that the next major move in interest rates should be higher.Figure 1 – 60-year wave in interest rates (Courtesy: www.mcoscillator.com)

A Way to Track the Long-Term Trend in Rates

Ticker TNX is an index that tracks the yield on 10-year treasury notes (x10).  Figure 2 displays this index with a 120-month exponential moving average overlaid.  Think of it essentially as a smoothed 10-year average.

2

Figure 2 – Ticker TNX with 120-month EMA (Courtesy AIQ TradingExpert)

Interpretation is pretty darn simple.  If the month-end value for TNX is:

*Above the 120mo EMA then the trend in rates is UP (i.e., bearish for bonds)

*Below the 120mo EMA then the trend in rates is DOWN (i.e., bullish for bonds)

3

Figure 3 displays 10-year yields since 1900 with the 120mo EMA overlaid.  As you can see, rates tend to move in long-term waves.

Figure 3 – 10-year yield since 1900 with 120-month exponential moving average

Two key things to note:

*This simple measure does a good job of identifying the major trend in interest rates

*It will NEVER pick the top or bottom in rates AND it WILL get whipsawed from time to time (ala 2018).

*Rates were in a continuous uptrend from 1950 to mid-1985 and were in a downtrend form 1985 until the 2018 whipsaw.

*As you can see in Figure 2, it would not take much of a rise in rates to flip the indicator back to an “uptrend”.

With those thoughts in mind, Figure 4 displays the cumulative up or down movement in 10-year yields when, a) rates are in an uptrend (blue) versus when rates are in a downtrend (orange).

4

Figure 4 – Cumulative move in 10-year yields if interest rate trend is UP (blue) or DOWN (orange)

You can see the large rise in rates from the 1950’s into the 1980’s in the blue line as well as the long-term decline in rates since that time in the orange line.  You can also see the recent whipsaw at the far right of the blue line.

Summary

Where do rates go from here?  It beats me.  As long as the 10-year yield holds below its long-term average I for one will give the bond bull the benefit of the doubt.  But when the day comes that 10-year yields move decisively above their long-term average it will be essential for bond investors to alter their thinking from the mindset of the past 30+ years, as in that environment, long-term bonds will be a difficult place to be.

And that won’t be easy, as old habits die hard.

5

Figure 5 is from this article from BetterBuyandHold.com and displays the project returns for short, intermediate and long term bonds if rates were to reverse the decline in rates since 1982.Figure 5 – Projected total return for short, intermediate and long-term treasuries if rates reverse decline in rate of past 30+ years (Courtesy: BetterBuyandHold.com)

When rates finally do establish a new rising trend, short-tern and intermediate term bonds will be the place to be.  When that day will come is anyone’s guess.  But the 10-year yield/120mo EMA method at least we have an objective way to identify the trend shortly after the fact.

Jay Kaeppel

Disclaimer:  The data presented herein were obtained from various third-party sources.  While I believe the data to be reliable, no representation is made as to, and no responsibility, warranty or liability is accepted for the accuracy or completeness of such information.  The information, opinions and ideas expressed herein are for informational and educational purposes only and do not constitute and should not be construed as investment advice, an advertisement or offering of investment advisory services, or an offer to sell or a solicitation to buy any security.

Trend-Following in One Minute a Month (A Quick Update)

This article is intended to be a quick update to this article.  The original idea is based on the theory propounded by Ken Fischer that suggests that one should not worry about a “top” in the stock market until after the market goes at least 3 months without making a new high.

Three things to note:

*Like all trend-following methods the one detailed in the linked article will experience an occasional whipsaw, i.e., a sell signal at one price followed some time later by a new buy signal with the market at a higher price.

*Like any good trend-following method the real purpose is to help you avoid some significant portion of any major longer-term bear market, i.e., 1973-74, 2000-2002, 2007-2009).

*The secondary purpose is to relieve an investor of that constant “Is this the top, wait, what about this this, this looks like the top, OK never mind, but this, this time it definitely has to be the top” syndrome.

The Rules

For a full explanation of the rules please read the linked article.  In general, though:

*A “Sell alert” occurs when the market makes a 6-month high, then goes 3 full calendar months without piercing that high

*The “trigger” price is the lowest low for the 3 months following the previous high

*A “Sell signal” occurs at the end of the month IF the “trigger” price is pierced to the downside during the current month

*The “trigger” is no longer valid if the S&P 500 makes a high above the high for the previous 6 months prior to an actual “Sell signal”

*If a “Sell signal” occurs then a new “Buy signal” occurs when the S&P 500 makes a high above the high for the previous 6 months

Sounds complicated, but its’s not.  Figure 1 displays the signals and alerts and trigger prices since 2005.

Green Arrows = Buy Signal

Red Arrows = Sell Signal

Red horizontal lines = Sell trigger price

1

Figure 1 – One Minute a Month Trend-Following Alerts, Trigger prices and Signals (Courtesy AIQ TradingExpert)

Note that actual sell signals occurred in 2008, 2011 and 2015.  The signal in 2008 was a life-saver, while the signals in 2011 and 2015 resulted in small whipsaws.  Sorry folks, that’s just the nature of the beast.

Interestingly, there have been two “Sell alerts” in the last year.  The first occurred at the end of April 2018, however, that alert was invalidated at the end of August 2018 when the S&P 500 pierced the previous 6-month high.  Another alert occurred at the end of December 2018.  The “Trigger price” is the December 2018 low of 2346.58.  That trigger is still active but could be invalidated if the month of May 2019 makes a high above whatever the high for April 2019 turns out to be.

The key point here is that despite the volatility and painful sell-offs in October and December of 2018, the “system” has remained on a buy signal.

Where to from here?  We’ll just have to wait and see.

Jay Kaeppel

Disclaimer:  The data presented herein were obtained from various third-party sources.  While I believe the data to be reliable, no representation is made as to, and no responsibility, warranty or liability is accepted for the accuracy or completeness of such information.  The information, opinions and ideas expressed herein are for informational and educational purposes only and do not constitute and should not be construed as investment advice, an advertisement or offering of investment advisory services, or an offer to sell or a solicitation to buy any security.

How to Succeed in Trading (by Really, Really Trying)

Sometimes it’s good to go back to the basics.  So here goes.

Trading success comes from a “reality based” approach.  It is NOT about “all the money I am going to make!”  It IS about “formulating a plan” (see the questions below) AND “doing the right thing over and over and over again” (no matter how uncomfortable or unsexy those “things” may be).

Steps to Trading Success

Trading success comes from:

A) Having answers to the questions below

B) Remembering the answers through all of the inevitable ups and downs

What vehicles will you trade?

Will it be stocks, ETFs, mutual funds, futures, options, or something else?  If you plan to trade futures or options understand that you will need a different account and/or approval from your brokerage firm.  Likewise, note that you will need to learn about the unique quirks of futures and options BEFORE you start trading.

How much money will you commit to your trading account?

Whatever that amount is be sure to put the entire amount into your account.  DO NOT make the mistake of saying “I only have x$’s but I am going to trade it as if it were y$’s.  One good drawdown and you will pull the plug.

How much money will you commit to a single trade/position?

We are NOT talking here about how much of a loss you are willing to endure.  We are simply talking about how much you will omit to the enter the trade.  If you put 10% of your capital into a given stock or ETF that doesn’t mean you are going to risk the entire amount.  This question has more to do with determining how diversified you will be.

How much money will you risk on a given trade/position?

Think in terms of percentages.  I will risk 1%, 2%, 5%, 10%, whatever.  There is no magic, or correct, number. But think of it this way – “if I experience 5 consecutive losing trades how much will my account be down?”  If you can’t handle that number then you need to reduce your risk per trade.

How many different positions will I hold at one time?  What is my maximum?

Buying and holding a portfolio stocks is different than actively trading. For active traders, holding a lot of positions at one time can be taxing – much more so than you might expect going in.  Don’t learn this lesson the hard way.

Do you understand the mechanics of entering trading orders?

The vast majority of trading orders are placed on-line.  Each brokerage firm has their own websites/platforms and each has their unique characteristics.  “Paper trading” an be a disaster if you come away thinking you “have the touch” when it comes to making money.  However, when it comes to learning the in’s and out’s of order placement BEFORE you actually start trading, it an be invaluable.

(Think of trading as sky diving and paper trading as watching virtual sky diving on your laptop.  You get the idea, but the actual experience is significantly different).

What will cause me to enter a trade?

There are roughly a bazillion and one ways to trigger a “buy signal”.  Some are great, some are awful, but the majority are somewhere sort of in the middle.  Too many traders spend too much time looking for “that one great method”: of triggering signals.  The truth is that if you allocate capital wisely, manage your risk (more to follow) the actual method you use to signal trades is just one more piece of the puzzle – NOT the be all, end all.

How will I enter a trade?

This sounds like the same question as the one above, but it is different.  For an active trader, a buy signal may occur but he or she may wait for “the right time” to actually enter the market.  For example, if an “oversold” indicator triggers a “buy” signal, a trader may wait until there is some sort of price confirmation (i.e., a high above the previous trading day, a close above a given moving average, etc.) rather than risking “trying to catch a falling safe.”

What will cause me to exit a trade with a loss?

The obvious one is a loss that reaches the maximum amount you are willing to risk per trade as established earlier.  But there can be other factors.  In some cases, if the criteria that caused you to enter the trade in the first place no longer is valid, it can make sense to “pull the plug” and move on to another opportunity.  A simple example: you buy because price moves above a given moving average.  Price then drops back below that moving average without reaching your “maximum loss” threshold.

What will cause you to exit a trade with a profit?

This one is easy to take for granted.  Too many traders think, “Oh, once I get a decent profit I’ll just go ahead and take it.”  But a lot depends on the type of methodology that you are using.  If you are using a short-term trading system that looks for short-term “pops” in the market, then it might male sense to think in terms of setting “profit targets” and getting out while the getting is good.  On the other hand, if you are using a trend-following method you will likely need to maintain the discipline to “let your profits run” in order to generate the big winning trades that virtually all trend-following methods need in order to offset all of the smaller loses that virtually all trend-following methods experience.

The problem comes when a short-term trader decides to “let it ride” or when a trend follower starts “cutting his or her profit short” by taking small profits.

Different Types of Trading Require a Different Mindset

Putting money into a mutual fund or a portfolio of stocks is far different than trading futures or even options.  While you can be “hands on” with funds or stocks it is not necessarily a requirement (I still hold a mutual fund that I bought during the Reagan administration).  With futures or options, you MUST be – and must be prepared to be – hands on.

Also, big percentage swings in equity are more a way of life in futures and options.  I like options because they give you the ability to risk relatively small amounts of capital on any variety of opportunities – bullish, bearish, neutral, hedging and so forth.

I also like futures, but it does require a different level of emotional and financial commitment than most other forms of trading.  Many years ago, I wrote about the following “Litmus Test for Futures Traders”.  It goes like this:

To tell if you are prepared emotionally and financially to trade futures doe the following.

1. Got to your bank on a windy day.

2.  Withdraw a minimum of $10,000 in cash

3. Go outside and start throwing your money up into the air until it all blows away

4. Go home and get back to your routine like nothing ever happened.

If you can pass this test then you are fully prepared to trade futures.  If you cannot pass this test it simply means that you need to go into it with your eyes wide open regarding the potential risks (with the knowledge that something similar to what was just described can happen at any time).

Summary

In a perfect world a trader will have well thought out and detailed answers to all of the questions posed above BEFORE they risk their first dollar.

Jay Kaeppel

Disclaimer:  The data presented herein were obtained from various third-party sources.  While I believe the data to be reliable, no representation is made as to, and no responsibility, warranty or liability is accepted for the accuracy or completeness of such information.  The information, opinions and ideas expressed herein are for informational and educational purposes only and do not constitute and should not be construed as investment advice, an advertisement or offering of investment advisory services,

Too Soon to Get Sweet on Sugar

One of my (admittedly, potentially foolish) beliefs is that commodities will outperform stocks again someday.  Possibly someday starting soon (roughly defined as anywhere from today to a year from today) and that the shift will be dramatic and last for a period of 3 to 8 years.

And no, I don’t think I could be any more vague.  But I haven’t really “taken the plunge” (i.e., shifted money from the stock market into commodities in any meaningful way) yet.  But I am keeping a close eye on things.  Rather than rattled off another 1,000 words to explain, I will simply refer you to Figure 1 that tracks the ratio of the S&P Commodity Index to the S&P 500 Index.

1

Figure 1 – Commodities versus Stocks (Source: www.DailyReckoning.com)

History suggests that “the worm will (eventually) turn.”

Sugar

2

Let’s focus on one commodity for now.  Sadly, it’s one of my favorites (ranks right up there with coffee).  Sugar.  As you can see in Figures 2 and 3, sugar has a history of contracting in price over a period of time and then alternately – and please excuse my use of the following overly technical terms – “swooping” or “soaring”.Figure 2 – Sugar 1970-1998 (Courtesy ProfitSource by HUBB)

3

Figure 3 – Sugar 1998-2019 (Courtesy ProfitSource by HUBB)

4

Sugar can be traded either in the futures market (each full one-point movement in price equates to $1,120 in contract value).  An alternative for “normal people” is ticker CANE which is the Teucrium Sugar ETF which trades like shares of stock.  See Figure 4.Figure 4 – ETF Ticker CANE (Courtesy AIQ TradingExpert)

As you can see, sugar has been “contracting” in price of late.  Does this mean it is reading to “swoop” or “soar”?  Possibly.  But for those who want to play the bullish side, it is probably a bit too soon to dive in.

Seasonality in Sugar

5

Figure 5 displays the annual seasonal trend in sugar.  It should be noted that you should NOT expect every year to follow this trend.  It is a display of previous historical tendencies and NOT a roadmap.Figure 5 – Sugar Annual Seasonal Trend (Courtesy Sentimentrader.com)

Still, the primary point is captured nicely in:

Jay’s Trading Maxim #92: One of the keys to long term success is committing capital where the probabilities are (or a least appear to be) in your favor.

February through April is NOT that time for anyone looking to play the long side of sugar.

Figure 6 displays the cumulative results achieved by holding long one sugar futures contract ONLY during the months of February through April every year starting in 1970.

6

Figure 6 – Cumulative $+(-) holding long sugar futures Feb, Mar, Apr every year since 1970

Some things to note regarding sugar Feb through Apr:

*UP 18 times

*DOWN 31 times

*Average gain = +$2,201

*Average loss = (-$3,377)

*Largest gain = +$6,630 (1974)

*Largest loss = (-$18,424) (1975)

Summary

The point IS NOT to argue that sugar is doomed to plunge between now and the end of April, nor even to argue that it cannot rally strongly between now and then – because it can.

The point IS to merely point out that the odds do not presently favor the bulls, which means – well, see Trading Maxim #92 above.

Jay Kaeppel

Disclaimer:  The data presented herein were obtained from various third-party sources.  While I believe the data to be reliable, no representation is made as to, and no responsibility, warranty or liability is accepted for the accuracy or completeness of such information.  The information, opinions and ideas expressed herein are for informational and educational purposes only and do not constitute and should not be construed as investment advice, an advertisement or offering of investment advisory services, or an offer to sell or a solicitation to buy any security.

Utilities at the Crossroads

A lot of eyes are firmly fixed on Utilities at the moment.  And for good reason.  As you can see in Figure 1, the Dow Jones Utilities Average is presently facing a key resistance level.  If it breaks out above the likelihood of a good seasonal rally (more in a moment) increases significantly.

1

Figure 1 – Utilities and resistance (Courtesy AIQ TradingExpert)

One concern may be the fact that a 5-wave Elliott Wave advance appears to possibly have about run its course (according to the algorithmically drawn wave count from ProfitSource by HUBB which I use).  See Figure 2.

2

Figure 2 – Utilities and Elliott Wave (Courtesy ProfitSource by HUBB)

For what it is worth, the March through July timeframe is “typically” favorable for utilities.  Figure 3 displays the growth of $1,000 invested in the Fidelity Select Sector Utilities fund (ticker FSUTX) ONLY during the months of March through July each year starting in 1982.

3

Figure 3 – Growth of $1,000 invested in ticker FSUTX Mar-Jul every year (1982-2018)

For the record:

*# times UP = 29 (78%)

*# times DOWN = 8 (22%)

*Average UP = +9.3%

*Average DOWN = (-5.8%)

*Largest UP = +21.1% (1989)

*Largest DOWN = (-25.8%) (2002)

*Solid performance but obviously by no means nowhere close to “a sure thing”.

*It should be noted that several of the “Down” years occurred when the S&amp;P 500 was already in a pretty clearly established downtrend (2001, 2002 and 2008), i.e., below its 10-month moving average.  See Figure 4.

4

Figure 4 – S&amp;P Index w/10-month moving average (Courtesy AIQ TradingExpert)

Summary

Utilities are flirting with new all-time highs and March through July is a “seasonally bullish” period for utilities.  Does that mean “happy days are here again, and we should all be piling into utilities?  Yeah, isn’t that always the thing about the markets?  There is rarely a 100% clear indication for anything.

As always, my “prediction” about what will happen next in utilities is irrelevant and I am NOT pounding the table urging you to pile in.  But I can tell you what I am watching closely at the moment:

*The S&amp;P 500 Index is flirting right around its 10-month moving average (roughly 2,752 on the S&amp;P 500 Index).  If it starts to break down from there then perhaps 2019 may not pan out so well for utilities.

*The Dow Jones Utility Average is facing a serious test of resistance and may run out of steam (according to Elliott Wave).

*But a breakout to the upside could well clear the decks for utilities to be a market leader for the next several months

Focus people, focus.

Jay Kaeppel

Disclaimer:  The data presented herein were obtained from various third-party sources.  While I believe the data to be reliable, no representation is made as to, and no responsibility, warranty or liability is accepted for the accuracy or completeness of such information.  The information, opinions and ideas expressed herein are for informational and educational purposes only and do not constitute and should not be construed as investment advice, an advertisement or offering of investment advisory services, or an offer to sell or a solicitation to buy any security.

It Really Was the Most Platinum Time of the Year; What Time is it Now?

In this article I highlighted the fact that platinum tends to be a consistent performer during the months of January and February combined.  2019 held serve as platinum futures registered their 23rd Jan-Feb gain in the last 24 years.  The Platinum ETF (ticker PPLT) registered a two month gain of +9.6%.  See Figure 1.

1

Figure 1 – Ticker PPLT (Courtesy AIQ TradingExpert)

Figure 2 displays the updated hypothetical growth of equity achieved by holding long 1 platinum futures contract during January and February every year starting in 1979.

2

Figure 2 – Platinum futures $ +(-) during Jan-Feb; 1979-2019

Since most investors will never trade platinum futures, Figure 3 displays the growth of $1,000 invested in ticker PPLT only during Jan and Feb since 2011.

3

Figure 3 – Cumulative % growth of $1,000 invested in ticker PPLT ONLY during Jan. and Feb.; 2011-2019

4

Figure 4 – Yearly % +(-) for PPLT during Jan-Feb

Going Forward

So platinum was great, but what have you done for me lately?  For what it is worth, historically two sectors that “should” be doing well in the March-April period are energies and grains (please remember that seasonal trends DO NOT always work every year).   As you can see in Figure 5, energies have been rallying since late December (though lots of consternation regarding crude oil remains a constant).

5

Figure 5 – Ticker DBE (Energies) – so far so good; (Courtesy ProfitSource by HUBB)

Grains have been a bust so far (their “favorable seasonal period” typically begins in late January-early February – no dice this time around).  Where too from here?  One of two scenarios: either this is just going to be an off year for grains, or right now will be looked back upon as a buying opportunity.  Only time will tell.

6

Figure 6 – Ticker DBA (Agricultural) – so far NOT so good; (Courtesy ProfitSource by HUBB)

And of course, don’t forget that the stock market tends to do pretty well March through May….

Jay Kaeppel

Disclaimer:  The data presented herein were obtained from various third-party sources.  While I believe the data to be reliable, no representation is made as to, and no responsibility, warranty or liability is accepted for the accuracy or completeness of such information.  The information, opinions and ideas expressed herein are for informational and educational purposes only and do not constitute and should not be construed as investment advice, an advertisement or offering of investment advisory services, or an offer to sell or a solicitation to buy any security.