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Gitanshu
On the YHOO trade at $100 entry with a $98 stop that seems like a very tight
stop for a stock as volatile as YHOO. There have been times in the past that
$2 was just the bid ask spread. Of course if you're correct in your
assessment of direction then the stop won't be hit, as evidenced by the fact
it gapped open. I guess my real question should be is a 2% risk on a
position practical on a stock that can easily make a 10% move in a day?
Your comments are appreciated.
Regards
John Manasco
----- Original Message -----
From: Gitanshu Buch <OnWingsOfEagles@xxxxxxxxxxxxx>
To: <metastock@xxxxxxxxxxxxx>
Sent: Wednesday, July 12, 2000 4:46 PM
Subject: Gap risk = critical?
> >Based on the comment above aobut risk not being initial margin, how do
you
> >define risk?
>
> Amount of money you will lose on trade without impacting your ability
> (financial and psychological) to continue trading after incurring a series
> of losses in sequence. Amount - at portfolio level - that will keep you
away
> from margin calls. Amount - at portfolio level - that will help you meet
the
> margin call should the extraordinary happen - without affecting your
> lifestyle.
>
> Take your pick.
>
> >Yesterday Gitanshu talked about gap risk and extrodinary
> >events making hard stops ineffective to define risk. Although i
understand
> >your point Gitanshu, extrodinary risk is just that, Extrodinary. Must
we
> >plan for the worst in all trades since it will only happen once in a
great
> >while, or shouldn't we use portfolio diversification to lessen the
> >probability of catastrophic loss?
>
> I'm beginning to think this is getting theoretical... but one could,
> theoretically, find a market without gaps and trade it. I think the
returns
> would be dampened since everybody knows there's no risk so why should
there
> be a risk premium, price volatility in your favor, etc.
>
> I presume we're still talking specific to equities, so the comments below
> are in that context.
>
> Portfolio diversification:
>
> Different traders have different ways - some don't diversify, and trade
only
> one market and one instrument in that market. They have to be very good at
> what they do. Turning points, chart pattern recognition, trade management.
>
> Some trade only one chart pattern but different trade sizing into taking
> positions from that chart pattern.
>
> That's some of us.
>
> I achieve it by using strategy diversification. But it stretches the
> available capital already.
>
> Portfolio diversification is not how most of us trade since most of us are
> undercapitalized relative to where we want our account to be - and need to
> concentrate resources on 2-3 market/trade basis - nor do we have the
breadth
> of knowledge or the resource support needed to trade multiple markets
large
> sized positions or broken down positions like a mutual fund -
> simultaneously.
>
> Portfolio diversification increases complexity of account management and
> dampens returns while giving us the fool's paradise comfort of thinking
that
> we are also reducing risk. The risk remains the same - or more - and for
> that, we trade in our superior potential returns achievable from
> concentration.
>
> We're not a zillion dollar mutual fund to need diversification - most
people
> on this list trade under $1 million. You put $100k in 10 stock trades,
> that's enough diversification already. On each of those $100k trades set
> your stop at 2%, $2,000 - and you are a genius if you can catch all 10
> entries perfectly and not get stopped out for a significant period of
time.
>
> I kind of find it difficult to believe that traders - repeat - traders -
> diversify too much beyond that, because the trends are just not there -
the
> moves these days are magnified within compressed time, agility is the
order
> of the day and therefore focus is desired, not the machine gun spatter of
> pick any stock, it will go in your favor - that existed in Fall 99.
>
> Re: Extraordinary risk offset by diversification:
>
> HOW DO WE KNOW that the "once in a while" is not right after we're in the
> trade? How is that answer any different from each trade we take, whether
it
> is adding to a position or to a new trade while having an existing
position?
>
> I like to take care of each position against the fat tail event. I like to
> go into a trade thinking I know what I am doing, but knowing that I cannot
> possibly know it all and therefore ought to defend my stance against
myself.
> This applies only to stuff I carry home - and again I think the questions
> are theoretical.
>
> Over time I have come to employ a variety of strategies - let me rephrase
> that - over time, I have sequentially worked through, used, learned,
> eliminated, modified and finessed my choice of instrument and strategy to
be
> direction-neutral and make money to defined goals as opposed to getting
> married to my belief in recognized chart patterns. When a direction
happens
> in the price action, my position takes me into it. There are times when
this
> strategy loses money - typically in tight congestions that last over 3
> weeks. That is known. Hence I trade some other strategy in equal dollar
> amount where I seek and find tight sideways markets with breakout
> protection. This sometimes makes me sit out the breakout move from the
> sideways market - sometimes, it is the move of the year - but I am so
> focussed on preserving the thing on my position sheet that by the time I
> realize it is the move of the year, it is over already.
>
> Case in point is the spring crash - I made some money, but I know I
> should've made a lot more. The fact that a lot of people lost big money is
> meaningless to my P&L - or my ego. Being protected against a crash and
> coming out of it unscathed by dollars or emotions is only half the job
done.
>
> Thus, strategy diversification.
>
> I have come to view my trading as a profession that will last my lifetime.
> It is too much fun to want to do anything else. Therefore I am more
> concerned that my capital lasts that long and that I don't screw it up
with
> one or two extraordinary disasters each year.
>
> I've been there, done that, and don't want to go back/do that. That's my
> experience of what it takes - 1 or 2 bad trades a year that are real
> bloopers - and it takes 5-6 months to bounce back. It gets compounded
> because you trade small on the comeback trail - so even if your win/loss
is
> good you're making money back slower. But your psychology won't allow you
to
> trade larger.
>
> Too many 5-6 months bouncing back, and I might as well buy an Index Fund
and
> find a paying job...
>
> Since this discussion is primarily for directional oriented traders, all I
> can say is this:
>
> It takes many many incrementally successful trades (high % won/lost AND
high
> amount won/amount lost) to build an account of some size. It only takes
one
> extraordinary event to wipe it all out, especially if you're using
leverage.
>
> I like to believe that I do not have the consistency of direction picking,
> and therefore like to think that my next trade may be a loser - regardless
> of how many accurate calls I may have made in the recent past.
>
> For eg, I know that YHOO put in a textbook key reversal bar yesterday. I
go
> long YHOO sometime yesterday - for simplicity sake, lets take my entry at
> $100.
>
> So my stop would be $98, if I want to risk 2% on the trade.
>
> Looking at the chart, $98 is pretty good to stop myself out at, it is 2
> points below the most recent swing low. The last time price traded $98 was
> 11/15/99, when it broke out on a range expansion bar through $98 on its
way
> to the $250 zone. Below 98, there is really nothing to stop it until -
say -
> $60, so I'd rather lose the $2 and tell myself I'm wrong - than lose $30
and
> double down.
>
> Question: It gaps up in my favor at $120. Where do I trail my stop? $120
is
> above the highs of the last 3 bars on the daily. So going by the concept
of
> higher lows being the new uptrend, I start by trailing it at the lows of
> each of the bars (113, 115 and 121 - rounded) it busted through before the
> open today. Moving averages are out, since YHOO is below both the 50 and
200
> mas in the $130 area and the 20 is below the 50.
>
> Lets fire up a 5 minute chart. So far it is a trend day, about to hit a
> brick wall called the 50 day ma on the daily. Shall I exit? Shall I stay?
If
> I exit, I will be naked without a position if it busts through the
overhead
> resistance.
>
> Will it? Its overbought - but 4 days ago it was oversold, and it still
> dropped $30.
>
> The distance between my stop and current price is much more than the 2% I
> was initially willing to lose when I entered the trade. So should I widen
my
> stop given the additional volatility? Should I narrow the stop given the
> large range? Should I simply let myself be stopped out at the gap's lower
> boundary?
>
> How can there be a single answer to this set of events?
>
> Next question:
>
> Let us say you saw YHOO breaking down from the 50 and 200 ma's on a range
> expansion bar on 6/22, You went short the next day at the open ($129), you
> set your stop $1 above the prior bar's high ($142) and trail it down each
> day using the falling 200/50 mas as your stop out. So far you'd still be
> short, having enjoyed a $60 round trip. If you used trailing prior bar's
> high for a stop, you got stopped out prematurely in the congestion after
the
> first thrust down and missed the real acceleration down move.
>
> Price accelerated in your favor until yesterday. You are an eod trader,
> looking at eod charts and placing orders accordingly. You see yesterday
that
> price may have made a key reversal BUT the next real support is at $60 -
so
> you phone in your order to cover if price trades 1 tick above prior bar's
> high at 110 instead of the trend following ma at $130. The broker will
only
> execute in the day session since the broker does not accept night orders
> (lets just assume this for the moment).
>
> You wake up and are stopped out of your short at $120 - which is $10 worse
> than your protective stop. Your profit went from $24 to $9. Your risk grew
> (typical of trend following methods) as the trade went in your favor.
>
> Your reward grew if you overrode your rules and covered at the close
> yesterday because of the key reversal bar.
>
> YHOO too much of a bronco for comfort? Lets take slow and stodgy PFE.
>
> Next question: You were also short ARBA because of the same chart
patterns.
> Now it opens up $25 tomorrow morning. Boom. Two days in a row, your P&L
went
> from x to x minus significant y.
>
> Forget the internet stocks.
>
> Take stocks of your choice, and post some examples of your questions. Take
> some real life cases, put them out here on the list for comments, and see
> what you learn. Better yet, why don't you tell us what you would do in the
> above examples, or other examples of your choice - given the benefit of
> history...
>
> Without practical application, all this is just so much bandwidth on a
> charting package's list.
>
> Gitanshu
>
>
>
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