My Hedged Fund - Another "Trend-Following" Post

Good feedback, thanks.

Boston buddy, you NEED to make daily comments on this thread otherwise it will submerge forever.

Week 2 - Is it Information or Just Noise? The Make of a “Weekly” Trader.

I have found that the farther away from the minute to minute changes in the Market I am, the better I perform.

Say that one day the Market goes up by 1% without a minute of my attention. “Great day!” I think, and feel energized, happy and with the proverbial “jump in the step.” Now I do not care how the Market got to the 1% [gradual rise (#1), down then up(#2) or significantly up and then "down" (#3)], only that it got there, and it made me money.

On another day, things are slow at the office, and I follow the market the entire day. Change at the end of the day? Up 1%. How do I feel? If conditions #2 and #3 above are observed, I feel down, like I lost big that day. Why would that be? Why does the 1% feel so different for me under those two conditions?

I encourage anyone in the trading / investing arena to read “Fooled by Randomness” by Nassim Nicholas Taleb (this is the second time I quote him on these posts; it will be the last for a while.) Nassim does a great job in covering the topic towards the end of Chapter 3. With full credit to Nassim, I here present you with one of his examples:

“Let us manufacture a happily retired dentist, leaving in a pleasant sunny town. We know a priori that he is an excellent investor, and that he will be expected to earn a return of 15% in excess of Treasury bills, with a 10% error rate per annum (what we call volatility.) It means that out of 100 sample paths, we expect close to 60% of them to fall within a band of plus and minus 10% around the 15% excess return. It also means that 95 sample paths would fall between -5% and 35%.”

“Clearly, we are dealing with a very optimistic situation. The dentist builds for himself a nice trading desk in his attic, aiming to spend every business day there watching the market, while sipping decaffeinated cappuccino. He has an adventurous temperament, so he finds this activity more attractive than drilling the teeth of reluctant little old Park Avenue ladies.”

“He subscribes to a web-based service that supplies him with continuous prices, now to be obtained for a fraction of what he pays for his coffee. He puts his inventory of securities in his spreadsheet and can thus instantaneously monitor the value of his speculative portfolio. We are living in the era of connectivity.”

“A 15% with 10% volatility per annum translates into a 93% probability of success in any given year. But seen at a narrow time scale, this translates into a mere 50.02% probability of success over any given second as shown below”


“Over the very narrow time increment, the observation will reveal close to nothing. Yet the dentist’s heart will not tell him that. Being emotional, he feels a pang with every loss, as it shows in red on his screen. He feels some pleasure when the performance is positive, but not in equivalent amount as the pain experienced when the performance is negative.”

“At the end of every day the dentist will be emotionally drained. A minute-by-minute examination of his performance means that each day he will have 241 pleasurable minutes against 239 unpleasurable ones. These amount to 60,688 and 60,271, respectively, per year. Now realize that if the unpleasurable minute is worse in reverse pleasure than the pleasurable minute is in pleasure terms, then the dentist incurs a large deficit when examining his performance at a high frequency.”

Here I skip to Nassim’s conclusions:

1. “Over a short time increment, one observes the variability of the portfolio, not the returns. In other words, one sees the variance, little else.
2. Our emotions are not designed to understand the point. The dentist did better when he dealt with monthly statements rather than more frequent ones. Perhaps it would be even better for him if he limited himself to yearly statements.
3. When I see an investor monitoring his portfolio with live prices on his cellular telephone or his handheld, I smile and smile.”

I could have never written this better myself. Now, I do not mean to imply here that constant monitoring of prices is never good, as of course by definition a daily trader needs to do so at all times. I just use the writing as a “cat’s paw” to explain my own situation: I do not have the mental composition and fortitude requried to be a daily trader. A weekly trader? I am that.

Understanding one's strengths and weaknesses are key for trading success. Any thoughts on the topic?



Current Positions

This week I sold my Peru (EPU) position, added new positions on Home Construction (ITB) and Palladium (PALL), and added a block to my existing Malaysia (EWM) position. You can find my current positions in more detail here.


Performance for the week was good, with only three down positions (Oil & Gas Exploration, Telecom and Retail.) The leveraged positions performed particularly well, with Energy (ERX) up ~10% and Financials (FAS) up ~9% for the week.


“My Hedged Fund” performance –

• Week - up 4.93%,
• YTD - up 4.04%

Total World Stock (ACWI) –

• Week - up 2.42%
• YTD - up 2.05%

S&P 500 (SPY) –

• Week - up 1.70%
• YTD - up 2.82%

European, Australasian and Far Eastern Markets (EFA) –

• Week - up 3.63%
• YTD - up 2.11%

Commodities (DBC) –

• Week - up 3.33%
• YTD - up 1.72%

What Next Week May Bring

Retail (XRT) and South Africa (EZA) continue to weaken; I may see sell signals on them next week. If I do, I’ll be ready to buy on 1-2 of several ETF’s with current buy signals. Some of the strongest signals are in Financials (KBE, KIE, KRE), Semiconductors (SMH) and Agriculture (MOO). I am far from seeing any buy signals from the shorts (other than Gold) and the fixed income world (other than JNK.)

Happy trading from continuously snowy Boston

Boston

Good post Boston. The emotional swings sum up my week. I’m a long term trader, but I’ve been trying to do some short term trades and am really noticing the ups and downs more. I think a lot of it is the frustration of being stopped out by market noise, when I’m right on the intermediate term direction. Think I’ll dig out my copy of the Taleb book as I bought it a long time ago and have never got round to reading it.

Ed Seykota (him again) apparently only looks at rates once a day. Makes sense if you're long term trading.

Why did I go into following trends? Because it took me out of a costly (at least in investing) trait… thinking too much. As Edwin Lefèvre wrote in Reminiscences of a Stock Operator, “It never was my thinking that made the big money for me. It always was my sitting.” I have found that I do best by systematically identifying trends, jumping in, and systematically getting out, without trying to “think” too much. My approach takes advantage of the "Big Trend," which requires patience… it requires me to buy and hold, at least for a while, until the big trend breaks. Jesse Lauriston Livermore (through Edwin in Reminiscences Chapter V) also said:


I don’t try to catch those two eights anymore, which sometimes seems to “cost,” as it actually “did” this week.



Current Positions

The markets were quite active this week, trending mostly down. This activity caused me to get out of 3 out of the existing 31 positions. I sold IYZ (Telecom) with a loss of 3.1%, EZA (South Africa) with a loss of 8.1% and XRT (Retail) with a loss of 4.1%; all three positions had been trending down since the beginning of the year, so the sell signals (triggered by ATR’s and MA’s) were not a surprise. I also added a position in EWY (South Korea) towards the end of the week. You can read about all my current positions in more detail here.


Performance for the week was just about the opposite from Week 2, with the 31-position portfolio losing 4.69 percentage points. The leveraged positions performed poorly, with Russell 2000 (TNA) down ~12%, NASDAQ (TQQQ) down ~7% and Midcaps (MWJ) down ~ 5% for the week.

“My Hedged Fund” performance –

Week - down 4.69%,
YTD - down 0.64%

Total World Stock (ACWI) – YTD - up 1.13%
S&P 500 (SPY) – YTD - up 2.08%
European, Australasian and Far Eastern Markets (EFA) – YTD - up 2.11%
Commodities (GCC) – YTD - up 1.55%



What Next Week May Bring

Small Caps (TNA), Coal (KOL), Metals & Mining (XME) and Transportation (XME) weakened significantly and abruptly during the week. Any prolonged selling early next week may trigger sell signals in them. Several ETF’s continue to flash buy signals, with some of the strongest being Timber (CUT), Technology (XLK), and Semiconductors (SMH). Gold is starting to develop a nice negative trend, I may short it in the next few weeks.

Feedback and commentary are as always welcomed.

Happy trading from Boston,

Boston

Update pls Boston if you get the time, markets been choppy, thanks.

I think he's only updating it once a week, as is the same as his blog. Here's the link: http://myhedgedfund.typepad.com/my-hedged-fund/