RISK


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Dictionary.com says:  Risk is the exposure to the chance of injury or loss; a hazard or dangerous chance.  American Heritage Dictionary says: Risk is the possibility of suffering harm or loss; danger.  These are just two of the many entries and these were just for the noun.  Risk in the world of investments and finance is more succinct.  Risk is the uncertainty of outcome; however, risk can be quantified whereas uncertainty cannot.  Many use risk as a quantitative measure and uncertainty for measuring the non-quantitative type.  This article will attempt to give an overview of risk, keeping to generalities, and identifying a few of the problems associated with trying to measure it.  Moreover, without any equations.

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Relative Performance


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First of all, you cannot retire on relative performance.  Relative performance is often a valuable tool, but is also a marketing concept dreamed up by financial pundits who rarely outperform the market.  Table A is a table of various asset classes and their relative performance since 2009, with the last 3 columns being the last 3 months.  Keep in mind that each column (year) is totally independent of the other columns, and the assets classes at the top performed better than those at the bottom of each column.  You do not know if they both lost money, both made money, one did, or not, other than the printed performance at the bottom of the box.  It is just simple relative performance.  And guess what?  I’ll state it again; you cannot retire on relative returns.

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Dollar Cost Averaging


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Dollar cost averaging is simply the act of making like dollar investments on a periodic basis, say every month or every quarter.  It is sold as a technique because they want you to believe that no one can outperform the market.  There are many papers written on this subject and I don’t want to dwell on it.  Dollar cost averaging is very dependent upon when you start the process.  If you start the process at the top of the market, just prior to a large bear market, you will be buying all the way down and this process could last a couple of years.  Your average purchase price would probably be somewhere in the middle of the decline.  A quick study of equivalent returns would tell you that the following bull move would need to go considerably higher than just half way back up Continue reading “Dollar Cost Averaging”

The Enemy in the Mirror


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I am a retired money manager and want to share some thoughts on that profession and investors in general.  Portfolio management is as much about managing emotions as it is about correlations, standard deviations and Sharpe ratios.  Over the decades much has been written about the “math” of portfolio management but the emotional aspect of the investment decision making process does not receive nearly the attention or research.  However, Behavioral Finance is a relatively new field that seeks to combine behavioral and cognitive psychology theory with conventional economics and finance to provide explanations for why and how people make investment decisions.

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Reliability of Pattern Recognition


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I developed this method primarily for candle pattern identification when I wrote my book, Candlestick Charting Explained (the book was first published in 1992 and now is in its third edition).  The reliability concept equally applies to any type of pattern, including the many chart patterns widely used in technical analysis.  My argument and complaint about most technical analysts, is that for a reversal or continuation pattern to be identified, you MUST first identify the trend.  How can you have a reversal pattern if you do not know what the trend is?  What is it reversing?  Below I show the analysis process I used.

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Pair Analysis – 4


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This will wrap up the Pair Analysis series.  In this article I will show:

Some basic statistics on the pairs I used in the analysis.

The top 50 pairs based on performance.

The bottom 50 pairs based on performance.

The Sharpe Ratio is a measure of return and risk, with risk being standard deviation.  If you have read much of what I write, I think standard deviation is a inadequate measure for risk because it assumes random and normalized data, of which, most stock market data is not.  The modified Sharpe is an attempt to make a slight improvement.  I have no opinion on it though.  I’m sure many of you will find that hard to believe.

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Pair Analysis – 3


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The is the third article on Pair Analysis.  Here I will show the results for several different pair combinations with reduced commentary.  If you have not read the previous two articles on Pair Analysis, I strongly suggest you do so before continuing with this one.

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Pair Analysis – 2


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To prove that I read all comments, here are some pair charts and data that is  updated to 12/31/2018. First a review of what pair analysis is.

My pair analysis is accomplished on weekly data.   Think of the ratio line like this: when it is moving upward it means the numerator (IJR) is outperforming the denominator (IEF).  When the Rate of Change (ROC) goes below the -4% line, it means the numerator (IJR) is no longer outperforming the denominator (IEF). Hence, you want to rotate into the denominator (IEF); or sell IJR and buy IEF.  Complementarily, when the ROC goes above the +4% line it means the numerator is now outperforming the denominator, so you want to sell IEF and buy IJR.  Also, the signals are at the crossing of the + and – 4% lines, not at the peaks and troughs of the ROC.

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Core Rotation Strategy


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This article expands on the pair analysis discussed in the previous article.  In that article I showed a simple process of trading a ratio of non-correlated ETFs, in particular the S&P 600 Small Cap (IJR) and the BarCap 7 to 10-year Treasury ETF (IEF).  Using a 4% trigger to switch from one to the other.  Here I expand that concept to build a strategy using 4 different ratios with each one representing 25% of the portfolio.  Table A shows the pairs used with an equal allocation of 25% each given to the four pairs.  This concept was originally designed to manage a core holding.  Many advisors want (need) a strategy that has a portion always invested in equities. 

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Pair Analysis


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I remember following Martin Zweig years (decades) ago and in fact used one of the techniques he described in his book, Winning on Wall Street,” in the mid-1980s’ (1984 to be exact).  In it he described a really simple technique using his unweighted index (ZUPI); trading it on a weekly basis whenever it moved four percent or more.  If it moved up four percent in a week, he bought, if it moved down four percent in one week, he sold.  Positions were held until the next opposing signal – just that simple.  The problem I had back then was not only in not following it as he described, but in trying to tweak it into something better.  Eventually experience told me that he had already been down that road and I was the beneficiary of the results.  Anyway, I took this concept Continue reading “Pair Analysis”

Bear Markets and Drawdowns – 2


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This is a continuation of the previous article.  The Dow Jones Industrial Average, also referred to as The Dow by the financial media, is a price-weighted measure of 30 U.S. blue-chip companies. The Dow covers all industries with the exception of transportation and utilities, which are covered by the Dow Jones Transportation Average and Dow Jones Utility Average.  While stock selection is not governed by quantitative rules, a stock typically is added to The Dow only if the company has an excellent reputation, demonstrates sustained growth, and is of interest to a large number of investors. Maintaining adequate sector representation within the indexes is also a consideration in the selection process.

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Bear Markets and Drawdowns


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The month of December 2018 was a bad month for the market; the rally in the last week of the month was nice but small compared to the month’s decline.  2019 has so far continued the upward move, so I thought it was time to show some data on market drawdowns.  If you have been reading my scribblings for long you hopefully recall that I view drawdowns as the best measure of risk.  Unlike modern finance that says volatility is risk and volatility is defined by standard deviation.  Hey, if you use standard deviation, then you are also agreeing that the markets are random and normally distributed.   In other words, they can be measured using Gaussian statistics and distributions.  If you truly believe that, you must not believe a thing I have ever written in this blog.  Furthermore, that belief is also aligned

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Did 2018 Meet Your Expectations?


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Welcome to 2019!  I was born in the 1940s and am delighted to be here.  If you were a trend follower with reasonable stop placement, 2018 was a tough year.  If you were a trend follower without reasonable stop placement, you are scared, if not panicky.  If you were a buy and hold investor in most stocks, then 2018 was a somewhat lousy year.  If you were a market timer and always trying to guess the tops and bottoms, 2018 probably wasn’t so great either.  I realize there are many other successful categories of traders and investors, but hopefully my message is succinct.  Chart A shows the Nasdaq Composite (red), the Dow Industrial Average (orange), the S&P 500 Index (blue), and the Russell 2000 (green).  The first four months of 2018 were wild and crazy.  Then we had a reasonable up move Continue reading “Did 2018 Meet Your Expectations?”

Help! I’ve Fallen and I Can’t Get Up


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Well, what do you think of 2018 so far?  As a trend follower, it has been difficult.  Reminds me of 2011, which happened to be the worst year my 25-year-old model has ever had.  Chart A shows the Dow Jones Industrial Average for all of 2011 with some data before and after that.  The blue filtered wave (zig-zag) is showing all moves of 10% or greater and the red filtered wave shows moves of 5% or greater.  When you cannot see the blue line, it is because it is the same as the red line.  The blue shows there were 2 big down moves before the market recovered.  However, when you reduce the moves to 5%, which are still moves that would take me to cash, there were 8 such moves in 2011, or 4 times more if you like that sort of

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Article Summaries: 9/2018 – 12/2018


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Periodically I write an article, such as this one, that reviews the past few months of articles.  Why on Earth would I do this?  Primarily for two reasons.  One is that many new readers are involved and often they do not go back and look at the past articles.  Two is that my articles are rarely tied to anything that is happening in the markets.  Generally, they are about experiences I have had as a technical analyst for 45 years; the good, the bad, and the ugly. You can think of my articles as sections in a book.  You can click on the headers for a link to the article.

FOR NEW READERS of THIS BLOG: Below are the links to the past Article Summaries followed by links to the articles covered in this article.  A suggestion was made by a wise reader Continue reading “Article Summaries: 9/2018 – 12/2018”

Thoughts on Technical Indicators


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There is a myriad of technical indicators available to traders, and regardless of which indicators are used, blending them with other tools and good charting skills can produce a more in-depth picture of the price action.  For example, a stock may be approaching a support level defined by a trend line or previous price level (horizontal trend line).  The indicators signal a loss of momentum and possible reversal.  Other technical indicators show an oversold condition (caution with this term – see this article).  Considered together, full confirmation from the various “consultants” (each with their own special perspective) helps you to trade with greater confidence.

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The Intellectual Void


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I’m always trying to come up with new ideas for articles and don’t mind if I cross the line a little bit even if it offends a few – I just don’t want to offend everyone; certainly not all at once.  This one is going to do just that – I think.  My articles are rarely about current market action and more focused on the many lessons I have paid dearly for over the last 45 years.  I often say that I have multiple Master’s Degrees in what not to do.

“You don’t need a weatherman to know which way the wind blows.”  Bob Dylan

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Advantages and Disadvantages of Using Breadth


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Consider a period of distribution (market topping process) such as 1987, 1999, 2007, 2011, etc. As an uptrend slowly ends and investors seek safety, they do so by moving their riskier holdings such as small cap stocks, into what is perceived to be safer large cap and blue-chip stocks.  This is certainly a normal process and one that can’t be challenged.  However, the mere act of moving from small to large cap stocks causes the capitalization weighted (Nasdaq Composite Index, New York Stock Exchange Index, S&P 500) and price weighted (Dow Jones Industrial Average) to move higher simply because of the demand for large cap and blue chip issues. At one time I found that the top 10 issues based upon capitalization in the Nasdaq 100 accounted for about 47% of its movement.  Breadth, on the other hand, begins to deteriorate from this action.  It is said by Continue reading “Advantages and Disadvantages of Using Breadth”

Authors and Newsletter Writers


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A couple of weeks ago I wrote about all the various types of technical analysts (Technical Analysts!); in this article I add to that list the authors and newsletter writers.

Authors

Well, I’ve written four books, two were essentially research projects (Candlestick Charting Explained and The Complete Guide to Market Breadth Indicators), one was a workbook, Candlestick Charting Explained Workbook, to add support for my first book on candlesticks, and the last book, Investing with the Trend, was me dumping 45+ years into what I refer to as my latest and last book.  Of course, after the third book, I also called it my last one.  Oh well. 

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Momentum – Rate of Change


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Too often I see a basic misunderstanding between Momentum, Rate of Change, and Price Difference.  Let me try to make it clear.  They are essentially the same thing.

Momentum

Momentum deals with the rate at which prices are changing, kind of like acceleration and deceleration. Here is the formula for momentum: (Close / Close n periods ago) x 100 (n denotes the number of periods used).  If there is no change in price over your specified time period, Momentum will be 100; positive price changes will have Momentum greater than 100 and negative price changes will have Momentum less than 100.  Price changes refer to the current price change relative to the price n periods ago.

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