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Interesting Trading and Market Links from April

I follow a large number of trading/markets related blogs and websites. When I find stuff I think is worth sharing, but that I won’t be addressing with my own blog post in response I share them on on Facebook and Twitter. These are the ones I posted in April for readers who didn’t see them on the other channels.

The LA Times gives us its perspective on forex trading.
Foreign currency trading is easy — an easy way to lose money
And my response.

Expert thoughts on covered call writing.
Writing covered call split strikes

Interesting anatomy of a forex trader graphic.

http://www.ibfx.com/Content/Images/ibfx-anatomy-of-a-trader.jpg

Bad title, but interesting discussion nevertheless.
Twitter Now a Source for Bernie Madoff-ish Investment Returns

Here’s something the folks in the interest rate market are watching.
Chart of the Day: Fed Ownership of the Yield Curve

LBR is always worth paying attention to.
Linda Raschke: Stick to the Plan and Become a Better Trader

Hattip to Mark Wolfinger for pointing this post out.
Portfolio Theory is Dead, Now What?

Another new entrant in the forex brokerage business.
OptionsXpress to enter the retail forex market

Interesting new set of stats from Oanda
Top 100 Traders Stats | OANDA fxTrade

Book Review: Investing with Volume Analysis

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John Forman - The Essentials of Trading author

If you want to learn just about everything there is to know about incorporating volume in your trading or investing you’re going to want to pick up a copy of Investing with Volume Analysisby Buff Dormeier. The author is a Chartered Market Technician (CMT) and an experienced money manager and he’s pulled together for this book a very comprehensive collection of volume studies and indicators, including some of his own devising.

This isn’t just some encyclopedia of volume analysis tools, though. There is considerable discussion of how to implement them, including studies demonstrating their performance. The author also discusses recent developments (high frequency trading, etc.) in the markets and their impact on volume and the analysis thereof.

My one issue with the book is that it has the feel of a manifesto, especially early on, and there are some religious undertones which may bother some readers. Most of that stuff is in the first few chapters which provide some background and historical perspective of volume and technical analysis. At times I found the reading slow going through that section, though it gets easier later.

All in all, I found this a very useful book. If you are looking to use volume in your trading/investing and market analysis, this is definitely the book for you.

Make sure to check out all my trading book reviews.

Struggling with support & resistance and knowing what the key market levels are? Check out the Price Distribution Analysis methods I use.

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Bernanke’s view on inflation, I think

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John Forman - The Essentials of Trading author

Fed Chief Ben Bernanke did his first post-FOMC press conference yesterday. Predictably, he got a question about the impact of energy and food prices on the public and the whole issue of the impact of QE on inflation and the value of the dollar. There’s a lot of screaming and yelling about this subject in the press and among market participants. Bernanke held to his line, though, about inflation being low and these food and energy things being transitory, which annoyed a bunch of folks.

Here’s what I think Big Ben is reading the inflation situation. I’ll try to explain by way of example.

Imagine that you have $100 in your budget. Your housing (rent or mortgage) is $35.  Food runs $25. Utilities and other expenses are another $25. Gasoline costs $15. Now let’s say gasoline prices double, so your cost goes to $30. What happens? If you cannot increase your income or borrow money you’ll have to cut $15 from among the other categories. That means your demand for other goods and services will go down.

Extend this example to the whole US economy. If income isn’t rising, then rising food and energy prices means money not available to spend on other things. That means less demand, and by extension lower prices in those sectors. What that tallies up to is no net change in overall prices. Even if income is rising, as long as it’s rising less rapidly than the increase in food and energy prices there will still be the dampening impact on prices elsewhere in the economy.

Below is a chart from the St. Louis Fed showing disposable income over the last 10 years. It show’s a year-over-year growth rate between 3% and 4% in the most recent figures. How does that compare to the change in food and energy prices? Just a fraction, right?

Of course, folks can borrow to make up the shortfall. Are they? To find out we need to look to the money supply figures.

Here’s the chart for the Monetary Base, which is the lowest level of money supply that is directly influenced by what the Fed does.

Again, we’re looking at year-over-year changes here. Notice the big spike up in 2008 when the Fed got aggressive about dealing with the financial crisis. In late 2009 and early 2010 we can see a spike up in the growth rate from QE1. The growth rate actually went negative in the latter part of 2010, though, before QE2, after which it has bounced back again.

The monetary base, however, does not reflect borrowed money. That’s in the bigger aggregates, especially M3. The Fed stopped publishing M3 a few years back, but we can see a continuation version created by the folks at ShadowStats.

Notice in the chart how the y/y change in M3 has been negative since late 2009 or early 2010. That basically means the amount of debt outstanding has been falling. In other words, folks in the US have not been borrowing to finance purchases beyond their income. Quite the opposite. They’ve been reducing debt (though write-offs are a factor here).

So what we have is income not rising at the same pace as increases in food and energy prices and debt shrinking, not expanding. That means there’s less money available to be spent on other goods and services. That is helping to depress prices in those sectors, which is why Bernanke is not worried about general inflation yet, but does have concerns about economic growth. At least that’s how I think he’s viewing things.

Struggling with support & resistance and knowing what the key market levels are? Check out the Price Distribution Analysis methods I use.

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Which is leading – the Dollar or Oil?

Yesterday, after days of listening to the equity-oriented reporters and commentators on CNBC yammer about the dollar moving commodities around I read a blog comment from a forex guy saying the dollar was being driven by oil. I just couldn’t take it anymore and decided to run some numbers.

Here’s the deal. Neither market is leading the other. They are trading roughly in tandem.

I first looked at 5 minute bar prices for front month oil futures and the Dollar Index from late on May 4 to early May 13. They showed a negative correlation between % changes in the price of the two markets of about -46%. That means they are largely inversely correlated, though not completely, which is about what we’d expect to see.

I then did and offset where I look to see if current period price changes in one market correlated to price changes one period forward in the other. By that I mean, for example, does a rise in oil in the 1:05 time period correlated to a change in the dollar in the 1:10, or vice versa. Nothing. Looking at things both in terms of oil leading and the dollar leading I got correlations of near zero.

My thought was that maybe 5 minutes was just too long a timeframe to catch a lead-lag I decided to look at 1 minute bars. The timeframe is shorter (about a day and a half), but there were some sharp moves during that time frame, so I’m comfortable with it being representative.

The results? No real difference. The straight correlation between price changes came out as -52%. The forward correlations were again so close to zero as to mean no real correlation.

The conclusion? Neither market is leading the other – at least not on any consistently measurable basis. They are simply trading off the same drivers. Yet more evidence those in the media often don’t provide correct or useful information.

Looking at 15 Trading Rules

The following 15 trading rules were posted by zentrader.ca having been taking from Trend TV. While I agree with many of them, I have a problem with a few of the rules. See below.

1. Don’t be a tradeaholic
Agreed

2. You trade to make money – not for fun, games, or to escape boredom
Definitely

3. Never add to a bad trade
If you have a specific strategy which includes adding to a trade which has gone against you, that’s one thing. Just “averaging down” is usually a bad play.

4. Once you have a profit on a trade, never let it turn into a loss
This can be a really good plan for psychology purposes, but it may or may not be appropriate for the type of strategy/system you employ.

5. No hoping, no wishing, no would’ve, no opinions, no should’ve
It’s hard not to second-guess, and reviewing thinging after the fact is part of the learning process, but never do it in trade.

6. Don’t be a one way trader – be flexible, opportunities on both sides
More opportunities doesn’t necessarily mean better trading. Some systems, markets, and/or traders are just better one-way only.

7. Know your risk on each trade. Trade with stops to limit losses
Definitely yes on the first part. The second part is up for debate in some ways.

8. Look for 3-1 profit objective trade
Totally disagree. This can’t be taken in isolation. You can have fantastic results with a smaller R/R ratio. It depends on your system’s or method’s win %.

9. When initiating a trade, always get your price (use a limit order)
Depends on your system.

10. When liquidating a bad trade, always use a market order
Hard to disagree with.

11. Have a plan. Trade it. Monitor it.
Absolutely

12. Make 10 points on a million trades, not a million points on one trade
This is the difference between trend trading and other types. In trend trading you are going for infrequent big wins.

13. Learn from your own mistakes
Goes without saying.

14. Pay attention to weekly lows and highs
Again, depends on your trading system or methodology, but often useful.

15. Technicals and fundamentals are equally important
Depends on timeframe.

What about you? Any thoughts on the rules above?

Stock Traders – Oblivious or Stupid?

After hearing yet another professional stock guy on CNBC mention QE3 like it was still a real possibility, I have to ask the question:

Are these guys completely oblivious, stupid, or in just simply in denial?

The thing that had me laughing yesterday (it was either laugh or cry) was how completely out of touch this one trader clearly was. His reasoning for being bullish on stocks is that we’re in a win-win situation. We’ll either get good economic growth or QE3, he suggested.

Wow! Really? Those are the only two possible courses? Might want to re-think that. And this was a professional on the floor of the NYSE!

I don’t know what these stock guys are looking at or paying attention to, but it’s not the same stuff the fixed income and forex folks are following.  Those of us in the latter markets heard Bernanke say at his press conference that it would take something very significant for the Fed to embark on QE3 as he feels the inflationary risks outweigh any potential benefit. This has been backed-up by other Fed speakers since, and the minutes from the last meeting of the FOMC, released yesterday, focused a lot on exit strategy.

Either a strong economy or QE3? It’s that sort of brilliant analysis that confirms the view of fixed income and forex market folks that the equity markets are always the last to figure things out. Remember how stocks rallied right into October of 2007 even after it was clear months before that from what was happening in interest rates and currencies that something was very wrong?