Saturday, December 18, 2010

Don't get complacent

The markets are the worst and the best teachers. Worst because there are no easy or free lessons, everything comes at a price. A price that can sometimes be so high that we can't even afford to put in practice the lessons we have learned from the markets. The best teacher because they never allow you to become complacent. The market keeps you on your toes. The day you relax or get complacent is the day you suffer heavy losses. The day one thinks that one has it all figured out, is the day you are finished as a trader. Doesn't the fact that the market forces you to keep on learning makes it the best teacher?

All this got me thinking about the month that we have been having. I guess we have had a couple of down days so far, or maybe three at the most. The blogosphere and twitter is filled with talks of Santa Claus rally. Surely nothing can go wrong, right? Wrong! I am not saying we go down from here, all I am saying is don't get complacent. Don't take things for granted. Don't let mistakes creep into your trading because the market is in a very forgiving mood right now. This reminds me of a post I wrote about the benefits of learning to trade in a bear market rather than a more forgiving bull market. Come to think of it, I had written it in last week of March and looking back, the April top wasn't very far off. Below is a copy of that post which I believe is very relevant to the market conditions we face right now. Let's not forget the lessons we all learned from the bear market.

Here it is:

Markets continued going higher. 

That's it. That's all I have to say about the markets today as far as the general market is concerned. But that doesn't mean I don't have anything more to say today. Read on dear readers, read on.

Are you scared on how this epic low volume junk rally will end? Now, I am not saying go and short this rally. Anything but. I don't think anybody has a clue when this rally will end. But we all agree this rally will end sometime, right? Its what follows this what troubles me. Let me explain.

I don't follow too many blogs but a common theme that has started developing in the comments section of many of the blogs I do follow is a lot of new faces, and in some cases old familiar ones too, coming on board and saying that pick any stock and let it run. In some cases, I see the traders getting stopped or taking profits being mocked at by these "experts". Their rationale is the market is just gonna go higher. No doubt, these new traders have enjoyed considerable profits in the last few weeks and I congratulate them on their success and wish them well. But at the same time, I am confused whether I should laugh at these experts or feel sorry for them. Being the kind spirit that I am, I choose the latter. I feel sorry for these new traders as we all know how this story ends.

I started short term trading around one and a half years ago, right in the middle of the bear market. I started short term trading after an unsuccessful attempt at buy-and-hold "investing" when the market crossed 13000 and everybody calling for 16000. We all know how that story ended. You can read all about my early exploits in investing over here. The point is I learned my trade in the worst possible market conditions. I am still learning and nowhere close to being the trader I want to be and the trader I know I can be but I learned my basic lessons in a bear market. 

I certainly did not appreciate being a child of the bear market back then, but I certainly do now, especially when I see all these exuberant newbie traders who are children of the bull market. I learned the importance of keeping stops the hard way as I saw stocks fall to unimaginable depths all around me. Imagine not having kept a stop loss on AIG! I learned, as a short term trader, not to hold any stocks through its earnings report, no matter how confident you are about the stock. Its something that I still practice today, even in a bull market, as it becomes a natural defense mechanism when you see companies come out with horrible numbers one after another. Bear markets teach you this. I learned not to trust any company. No matter how big or reputed the company, as a short term trader my goal is just to take my profits and move on. Imagine trusting Lehman. Bear markets taught me this. I learned to take my profits, or at least partial profits, whenever the Stock Gods smile upon me. I have seen too many massive gap down days not to have learned this. All the above knowledge, courtesy of the bear markets.

I am not saying all the above was easy. Exactly the opposite in fact. Markets are the best teachers, but also the harshest ones. You get to learn a lot, but all this comes at a price. A price you see reflected in the bottom line of your trading account. But as long as one has the right attitude and is ready to learn, you DO learn. The markets are there to teach us everyday. I still make basic errors but the lessons from bear market are, and will always be, ingrained in my mind. Does learning in a bear market have any drawbacks? Sure! Take my example again. I have a hard time letting my stocks run, as I always fear the worst. Because the worst is all I have seen. 

But give me the bear markets as a teacher over the bull markets anyway. Take the newbie traders that made me muse on this topic. The bull market is lulling them into a fall sense of complacency. It is showing them the door to riches, to riches they never thought were possible. It is telling them trading is the easiest thing in the world. It is telling them just buy a stock and keep it, because even if it goes down in the immediate future, they all go up in the end. We all know how this story ends. The same way it ended in 2000 and 2007. Eventually, most of these traders will too learn. But only after the bull market has played them for a lot. Bear markets just give you the harsh lessons straight up. Following a similar line of thinking, I feel it is much better if a new trader starts with a loss rather than a gain. 

I never thought I would find myself saying this but I think I will drink to the bear markets tonight. Thank you bear markets! You sure were one hell of a bitch but you were a damn good teacher. Cheers!


Doctor Stock said...

I found it interesting this week how so little actually changed... there is a little bit of buying exhaustion; however, there is no strong sell off. World events are not surprising, but the reaction of the markets to them is a little.


Anonymous said...

Good post as always. Nice for some weekend contemplation. Looking forward to a new trading week and more tweets from you.

Stay well (and cautious).

Judy G

Anonymous said...

Good post. I think your right about masked volatility, almost like when your in a suspicious situation and say to yourself "its quiet. a little too quiet". There is a lot of negative momentum quietly building up that is not being priced into equities (although the bond market seems to be taking notice) and the question is when, not if. I said before i was extremely bearish for the next 6-9 months but this rally may start to collapse as soon as jan or feb. You may have noticed bond yields spiking in the past month even with the fed buying billions. And now the fed owns more Treasury bonds than China. So we have borrowed more money from ourselves than china has actually lent us with real money.

I think there is a word that categorizes this feeling of uneasiness due to uncertainty... oh yea its FEAR!

Bill said...

That last comment was from me btw

positiontrader said...

Thanks for the comments guys. Most people are in for the stock picks and watch lists, so its heartening to know that posts like this are also appreciated.

I could have guessed that that comment was from you even if you hadn't said so Bill! If you wanna do a guest blog post sometime, just send me an email.

My strategy here is simple. Am not gonna marry a side, be most willing to be proven wrong and gonna trade them as I see them. The negative divergence with the market breadth has certainly got my attention.

Good Luck!

theusedblog said...

I think that learning how to manage trades and take profits is a much more valuable long-term skill; versus piling into a momentum stock and banking 50% in a few weeks. Those that go up the fastest also crash with the greatest vigor. Traders who haven't developed risk management protocol will eventually be left in the red hoping their once glorious position recovers to -at best- break-even. As I, and many others can attest, "hope" is quite possibly the most futile of stock market strategies. Your strategy is ideal for compiling long-term wealth...but it's probably going to come up short (no pun intended)in the comment section phallus measurement contest that inevitably comes with bull market runs.