Friday, December 23, 2016

Trade by headlines

I exchanged comments with Andrew McElroy, a sector rotation expert. He does not have the rules set up as in this book but he makes great trades by ‘seeing’ the market and using technical analysis. The following is from his article.

“The idea is fairly simple. There is more potential for profit (and loss) in individual sectors, especially when the index is trading sideways. I try to buy strong sectors which have pulled back onto support and avoid overbought sectors at resistance. I also use Elliott Wave to identify cycles of buying and selling and stages in trends.”

I would like to include headlines such as Trump’s election, interest rate hikes and new regulations.

When it rains in Brazil, buy coffee futures

Recently it rains too much in SE Asia, so buy rice futures. I do not trade futures, so I miss out the opportunity and unfortunately there is no equivalent ETF for rice. In the beginning of 2012, we should know the farming crops especially corn will not be good due to the flooding and drought in different parts of the world. Act accordingly for the profit potentials.

When a war is starting in Middle East, most likely the oil price will rise. Buy the oil ETF and sell it when the chance of the war is reduced. Many tiny drops of profit could turn into a river of profit.

Trade by headlines is profitable, but it is hard to master and is very time-consuming. Test this strategy on paper for years before you commit with real money as in most strategies. Most couch potatoes read newspaper and watch TV all day long without making a penny. They could be couch potato millionaires if they read this article, paper test/refine the strategy and act on it!

However, the media tend to exaggerate headlines in order to sell their ads. Ignore all the recommendations on stocks. Most likely they are outdated information and some may be used to manipulate. Do your own research as your mother teaches you that there is no free lunch.

Rules of the game

1.       Do not be too emotional; ignore your past wins and losses except using them as lessons if they are valid (i.e. educated guesses).

2.       Do not bet the entire farm. Consider option, ETFs and/or small bet on stocks, which have too many other factors to be considered.

3.       Trade it fast – today’s headlines will not be headlines tomorrow. There are very few exceptions.

4.       Where there is a winner, there is always a loser. For example, Apple was a winner with the iPhone and BlackBerry was a loser. Same for Best Buy and Circuit City.

5.       Do not forget when to exit for either a small profit or a small loss.

6.       Quick evaluation. The headline will be gone if you do not act fast. Skip companies with poor metrics such as high debt and low earnings yield. Prefer to buy an ETF related to the headline.

7.       Most likely someone has used the information before you get it. However, some info can be deducted before it occurs. Insider purchase is a good guide.

8.       I recommended crude oil at $30 per barrel in Jan. 15, 2016 as the price was rock bottom. For value sectors, you may have to wait for a long time for the market to realize its value.

9.       Learn my 5-minute evaluation process of a stock (a quick way but not recommended if you have time to do a thorough research):
              From, enter the stock or ETF symbol. Look at how many greens in metrics than reds.
·         Check out Forward P/E (E>0 and P/E < 20), Debut / Equity (< 50%) and P/FCF (not in red color).
·         SMA20 (or SMA50 for longer holding period). If SMA20 is > 10%, it is trending up.
·         Scroll down for Insider Trade. It usually is a good buy if insiders are buying recently and heavily with market prices.
      Be cautious on foreign and low-volume stocks.
·         If most of the above are positive, it is likely a buy. As in life, nothing is 100% certain.

If you have a hard time to follow the above, most likely this strategy is not for you and it is better to return to your couch. No offense.

Volatile market and headlines

As of 7/2012 (2015 too and historically a positive market in a year right before the election), the market went sideway and was influenced by headlines. 2013 had been volatile with dips and surges influenced by daily news. The trend was up though. The Federal debt problem, EU crisis… had not been resolved. Every time we had good news, the market rose, and vice versa.  In this market, buy on dips (3% down from last temporary peak) and sell on temporary surges (3% up from last temporary bottom). Some use 5% instead of 3% depending on one’s risk tolerance.

Trend and calendar timing

Usually following the trend is better than ignoring it.

·         Many retail investors want to get rid of the losers for year-end tax planning. Buy them at year-end and sell them early next year. In the year end of 2012, it acted the opposite as folks were selling their winners expecting larger tax bite next year that turned out to be false.

This could be the reason for sell-off of Apple in year-end of 2012 and it gave us good entry point. To me, Apple’s fundamentals were sound though the media said otherwise. In a few months, Apple became a value stock from a growth stock according to the press.

·         Investors are not rational and follow the market blindly. The strategy ‘Buy low and sell high’ works.

·         We have so many good news and bad news in the same year. Ensure the bad news will not extend to worse news. Timing is everything. Buy on bad news and sell on good news; it does not work when the market plunges.

·         The media influence the market. Analyze their arguments. If they exaggerate them, do the opposite.

·         Over-reaction to earnings missed or gained. When the company missed the earnings by 5%, there is a very good chance the stock will be down in a year, and vice versa. However, when it missed by 1% and the stock lost by 10%, it could be a buying opportunity, particularly when it was a temporary condition and the company is fundamentally sound.

·         Buy the stock at dip when a solvable problem surfaces. Sell after the problem has been resolved. Ceiling debt is such a solvable problem and it is caused by politics.  In the beginning of 2013, I mentioned that the debt problem had not been resolved and we would have this ceiling debt problem periodically until it will be eventually resolved.

Scheduled events

Some events are scheduled such as earnings announcements, unemployment reports, etc. Most likely educated guesses of the outcomes have already been circulated in the web.

The last five events on the Federal debt handling (using fancy names such as sequester and debt ceiling) were scheduled such as the government shutdown. They drove the market down by about an average of 5% each time. Sell before the event and buy back afterward. The Congress has cancelled these debt deadlines as of 1/2014.

Many sectors are impacted by events such as Trump’s success in election, hikes of interest rate and trade wars.  
Use deduction

In 2014, China has a great harvest  on wheat, corn and rice.  China’s population is #1 in the world and its middle class is growing. The farmers in the US will be hurt as they cannot export these products to their number one customer. Use the same logic to deduct that there will be problems in the companies that supply products and services to the farmers. They are combines, fertilizer companies and seed companies. It further translates into Deere, Potash, Monsanto and AGCO.

My experiences

·         When the interest rate is expected to rise, plan on investments that are favorable to it and vice versa.
·         On the same week, CROX lost almost 40% in one day. I bought some and made about 10% profit in a week. CROX's fundamentals were no good and it did have a history of roller coaster ride in its stock price. After a year, I found out that I sold it too early as the stock price doubled. Better to buy a stock on its way up than down unless we identify that the bottom has been reached.

·         I missed applying the same trick to the rise of Apple when Apple announced its new iPod. I should at least buy the stocks of its part suppliers. Hope learn this lesson and take advantage of future similar circumstances.

I missed the opportunity to buy uranium stocks. It should be bought after Japan’s disaster. When Japan approved the reopening of nuclear reactors today, these stocks including CCJ, DNN, LEU, URRE, UEC, URZ, URG and UUUU surge. When China’s new nuclear reactors are on-line, they will surge again.
·         Experiences in early 2014.
Recently and in a short time, I made a good profit on BBY and a tiny profit on TGT. Both were bought due to headlines.

Bad headlines usually cause the stocks to move faster than good headlines. The recent examples are LL selling ‘illegal’ goods and an unfavorable article from China on NUS. 

 This is one strategy of my 12 strategies in Sector Rotation, 3rd Edition.

This is one chapter of my book "Complete the Art of Investing". If it helps you, envision how 850 pages will help you. 

For more of my reasoning, check out the book described next. The Kindle has 850 pages (6*9) for $9.99. It could be the best $10 you ever spend. Paperback is also available.

The above is an abstract from my book "Complete the Art of Investing" which is available from Amazon.

I challenged to have the best-performed article in Seeking Alpha history, an investing site, for recommending 5 or more stocks in one year after the publish date. The concepts for that article are discussed in this book.

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