Hardest Time in History to Speculate

One of the themes I continue to hit on is the importance behind attempting to fill one’s noggin with as much knowledge as possible, so as to attempt to speculate as intelligently as possible. No easy task considering the quantity and depth of material that exists. I wanted to provide a couple of recent examples of what the average amateur speculator is up against from the world of professionals. Keep in mind that these example-providers aren’t billionaire fund managers; just investment professionals who operate successful businesses and publish outstanding investment blogs.

The first example is from MercenaryTrader.com. In my previous post I touched on an idea regarding the Baltic Dry and the potential for some short ideas. It turned out to be correct, but was it luck or quality analysis? I can’t truly quantify how I came to the decision. I review certain indicators. Observe past price action. Note the extremes and their duration. Extrapolate data and choose to establish a play. My analysis shared on MarginRich was not exactly deep, especially when compared to the MT team’s post titled, Tanker Stocks Have Triple-Digit Upside (If They Survive). A little self-deprecation is in order when I say that their analysis of the Baltic Dry and the dry shippers makes my post look like a donkey wrote it. The MarginRich post may have been prescient but I wouldn’t exactly give myself an A+ for thoroughness. All the same, I just wanted to briefly provide a tradable idea for readers. Mission accomplished. And in pointing out MT’s article, I am looking to illustrate the analytical skillset of what the average amateur speculator is up against.

The second example is from the Price Action Lab blog. Michael Harris is the creator and proprietor of Price Action Lab software, which is geared to the professional speculator. The software allows for systematic, algorithmic trading which is very simply the trading world we live in today. I don’t utilize an algorithmic approach which is probably very hazardous to my financial health, but I also don’t blindly follow patterns recognized 80 to 100 years ago and fully exploited by the 80’s and 90’s. A double-bottom or a heads & shoulder may be indicating something or the pattern may just be telling you that you’re about to get your face ripped off. That’s where the ability to fundamentally assess an equity or truly evaluate the macro-economic outlook for a particular ETF or commodity can provide a potential edge when going up against the algos. Mr. Harris provided a great illustration of that utilizing Google in his most recent post, Naive Chartists Get Crashed Shorting Google.

Defining your edge and ensuring it is truly robust is more important than ever if you’re going to play the game. Thousands of hedge funds sprang up between the late 90’s and now…and thousands have closed up shop. Even really and truly bright fund managers with a great educational background combined with an advantageous family lineage are consistently getting burned, having to pay out and close up. Don’t agree with my post’s title heading? Here’s some content from an interview with Stanley Druckenmiller that made its way around the web during the summer. The interview content is courtesy of ZeroHedge via Hugo Scott-Gall of Goldman Sachs. No matter what you think of his political ideologies or anything else about the man, Druckenmiller’s success speaks for itself and his commentary is always worth a listen. Druckenmiller states about speculating:

It has become harder for me, because the importance of my skills is receding. Part of my advantage, is that my strength is economic forecasting, but that only works in free markets, when markets are smarter than people. That’s how I started. I watched the stock market, how equities reacted to change in levels of economic activity and I could understand how price signals worked and how to forecast them. Today, all these price signals are compromised and I’m seriously questioning whether I have any competitive advantage left. Ten years ago, if the stock market had done what it has just done now, I could practically guarantee you that growth was going to accelerate. Now, it’s a possibility, but I would rather say that the market is rigged and people are chasing these assets, without growth necessarily backing confidence. It’s not predicting anything the way it used to and that really makes me reconsider my ability to generate superior returns. If the most important price in the most important economy in the world is being rigged, and everything else is priced off it, what am I supposed to read into other price movements?

For most it is simply not practical to be actively managing your funds. Now with the recent announcement of the dismal science Nobel winners, EMH and passive indexing are making the heavy rounds around the web. For good reason too, when you consider all the recent performance data. There is always more than one way to skin a cat and the truly resourceful(but “un-utilityful”) will continue to discover profitable ways of moving money around to generate profit. Build your knowledge base, simplify your financial life, and find that edge if you really think you have the chops to beat the market.

Prediction Record Thus Far and a New(er) Observation

Thought it might be a good idea from time to time to review the MarginRich prediction track record. Not every post has a prediction included, but for what has been put out there, I might as well provide a quick once over on the results. It’s not something one see’s too often from un-skin-in-the-game blogger-types who simply publish their thoughts and then move on to the next prognostication. As previously stated, I don’t profess to have any clairvoyance. I simply read the tape and share my thoughts. With that being said, the MarginRich site is currently 4-1-1 (with the oil call being essentially flat). Here’s the exact record:

1. TM – Winner
2. EEM – Winner
3. GLD – Winner
4. SPY – Winner & Loser: Predicted a correction in the S&P 500. It corrected approximately 3% but then went on to make a new high, and yet here we are in slight correction mode again. The downward energy is being stifled and that can be a dangerous thing to contend with.
5. WTIC – Flat for the most part; ostensibly range bound with no hard breakouts to the upside or downside since the post
6. FXA – Loser: However, may have just been early…aka wrong. Believe me, I know.

And as for Japan’s equity market and gasoline, there weren’t any predictions made in regards to their price movements. There were only simple observations put forward for the reader to consider. So to recap, 4 out of the 6 were in the money while oil and the Aussie dollar still present opportunities. Now onto another opportunity…

Once upon a time, long, long ago before the price discovery mechanism for virtually all markets was distorted beyond belief, there was an index that credibly served as a sort of “canary in the coalmine.” It’s canary-like qualities have ceased to function as a viable predictor of economic direction but there are still opportunities to be garnered from the late, great shipping index known as the Baltic Dry. Now even if the index is less than robust in providing leading intel on economic direction, a parabolic move is still a parabolic move, and one can see in the YChart below a rocket ride in index pricing. The breakout occurred during the week of August 23rd, but the real upward explosion occurred about a month ago exactly.

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Now gravity has a funny way of bringing rocket rides back down to earth. The Baltic Dry may be legitimately breaking out as supply/demand fundamentals across the pricing space in shipping may warrant a move higher. My guess though is that a little steam is going to have to be let out first. This will of course affect the shippers, whose own shares have enjoyed nice upward movements as well by riding the BDI rocket. Observe the following YTD charts of a few prominent shipping companies (for the record I suck at inserting small, clear snapshots but the companies are EGLE, GNK, & DRYS):

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We’re talking over 100% moves in a matter of weeks. Now the average speculator probably missed these moves which have no doubt been driven to the extreme by every investor’s best friend to true price discovery…the high frequency trader. It makes no difference. The algo’s are programmed by humans and extremes have been reached. So if you missed out it appears we now have the BDI beginning to peter-out a bit, and the opportunity to go short has presented itself. For myself, I played DRYS cold off the charts because it went from heavily range bound, unlike the other two, to an absolute take-off. As luck would have it, they announced a financing and thus the market sold it off bringing the play into the green before any true downward momentum can truly factor into the trade. The BDI has been covered extensively around the web for the past 4 weeks so anybody looking in the right corners (hint: links under Some Favorites) could have easily joined in on the fun, even if you weren’t scanning via your charting software or subscription.

It’s a bit tricky to be trading right now off the tape. There’s nothing wrong with sitting on the sidelines in cash while the action defines itself…but where’s the fun in that? Oh yeah, it’s in the protection of your capital and safety in principal. Naturally, there’s money to be made long or short but just to help disperse a little more fear for the long-only’s, here’s a few charts courtesy of CitiFX, Kimble, and ZeroHedge that communicate a message of caution.

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Zero Hedge:  Top Chart – 2007, Middle Chart – 2011, Bottom Chart – Currentclip_image013

Now that you’re sufficiently scared of a major market correction, understand that now may be an appropriate time to take some risk off of the table or add additional hedges where appropriate. In a previous post, I had stated it appeared as if a 10% to 15% correction may be in the cards and it doesn’t seem as if we’re quite out of the woods yet. The big debate on the debt ceiling in conjunction with comments from bankers and financial thought leaders has helped to produce even more fear. Stay sharp.

Read, Read, and Read some more. Good luck out there.