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Hi,
Many talk about individual trades. Others decry the mere seeking of
correlation coefficients.
More productive activity might be looking for trading insights and profit
making opportunities that go with such insights.
An example might help here.
Recently the DOW seems to have outperformed the S & P 500.
Also recently the S & P 500 appears to have outperformed the Nasdaq 100.
This could be interpreted in many ways:
- just one of those things and means nothing,
- several opportunities to spread and/or fade,
- or the opposite, several opportunities to use momentum plays,
- a flight to quality,
- a move away from technical stocks,
- a move to income rather than capital growth,
- a move to size,
- a change in distribution of profits between sectors,
- ...
Some or none of these could be valid.
But let us take one possibility and consider, if it is true, how it might
be used to profitable advantage for a predictive style of trader.
Imagine that what is going on is a flight to quality.
Note this is assuming you believe that the DOW stocks are on average better
quality than the 500 and in turn are better quality than the 100. And
what do you mean by quality?
Never mind these definitions, how can we use the idea to make money if it
is valid.
Well, you could look at the relative behaviour of the three indices before
prior significant market downturns.
If there was a flight to quality leading up to most or all of these times
it would be interesting.
But then you would need to check if this behaviour occurs at times when
there is no subsequent and significant downturn in equity markets.
In short, to gain an insight, and yield an opportunity you will need to:
- think,
- do some research,
- correlate behaviours,
- test for significance,
- repeat above for another idea if 'flight to quality' does not work,
- design a way to exploit your insight with a high reward to risk ratio,
- be patient,
- be prepared,
- take home the profits and/or losses,
- consolidate your learning,
- build on your integrated and digested knowledge,
- prepare for even better next time.
But it does take more effort than talking about one planned or actual trade.
Shame really, about missing all that fun.
But if you are really in to strokes, profits can be the best kind of
strokes, especially when they come from the fruits of your idea, research,
testing, confirming, design, successful execution and learning processes.
Unconditional regards, Ric.
www.traderscalm.com
P.S.
Microsoft Excel spreadsheet has a correlation tool and it seems to work.
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