Some Blogroll Highlights

As the year winds down, many traders and bloggers have put things on autopilot. While this is understandable, on my blogroll I noticed several important exceptions to this rule. Four blogs – three of which were launched in 2009 – have consistently hit high notes during the year and just happen to do so again during this slow period.

Rob Hanna at Quantifiable Edges is the multi-year veteran of the group. For those who may not be familiar with Rob’s work, he has compiled Quantifiable Edges Greatest Hits of 2009. This monthly retrospective may be the perfect introduction to a blog that is an excellent resource for those attempting to make the jump from a stock picker to a master of indicators and strategies.

Two other quantitatively-oriented strategies and systems guys just happened to be out with fine complementary pieces today. Like Rob, Frank at Trading the Odds can be counted on for thorough research and analysis covering a wide variety of strategies, which is always captured in a compelling and comprehensive manner. A former frequent commenter at VIX and More, Frank decided to set up his own electronic canvas earlier this year to have a more organized platform to share his thinking – and we are all better off for it. Today’s How to Make a Million (%) Trading the SPYDER – Part One is a fine example of Frank’s approach, leaving the reader with substantial food for thought and the promise of some excellent courses still to come.

In looking at David Varadi’s CSS Analytics blog, I was stunned to see that the blog is less than a half a year old. With all the high quality content that David has managed to shoehorn into just a few months, I’m sure my oversight can be forgiven. If this sounds like hyperbole, check for yourself. Start with today’s Relative Strength 101 and keep reading back in time until you lose interest. Warning: July comes up faster than you think…

Last but certainly not least is Tyler Craig’s options-oriented Tyler’s Trading. Today Tyler assembled a Blast from the Past which captures his top ten posts of the year. For the beginning to intermediate options trader, these articles combine important topics, excellent graphics, and facile prose.

Apart from coming up with something interesting to say on a regular basis, my biggest challenge here is undoubtedly maintaining an up-to-date, high quality blogroll that incorporates a wide variety of interests and perspectives from a mix of popular and semi-obscure bloggers. There are few things as invigorating, however, as discovering a fresh new voice. Let’s hope 2010 proves to be as fruitful in this regard as 2009 was.

Disclosure: Quantifiable Edges and the VIX and More Subscriber Newsletter are available as part of a bundle (with ETF Rewind) in Blogger Triple Play

New Dr. Brett Series on Lessons for Developing Traders

If there is one blog on the web where I never seem to find the appropriate amount of time required to digest all the nuggets of wisdom it contains, that site is undoubtedly Brett Steenbarger’s TraderFeed. Filled with insights that range from quantitative analysis and system development to what is arguably the best collection of content on the web in the realm of trader psychology, TraderFeed continues to be – at least in my opinion – the top all-purpose investment blog on the web.

For this reason, when Brett mentioned in Lessons for Developing Traders: What Moves Markets that he is “going to write about topics that no one told me about when I was learning the ropes,” I thought that instead of waiting until the series is finished to highlight it I would flag it now for anyone who is not already on the Steenbarger bandwagon.

This new series also got me thinking to about the three things I wish I had been told (assuming I was smart enough to follow that advice) at the beginning of my trading career. The answers are personal ones, but I believe they capture insights that led to quantum advances in my trading:

1. Standardize on one time horizon…and make it consistent with your trading approach and personality
   
   
2. Make research and analysis of risk management at least as important as R&D on stocks, indicators and strategies
   
   
3. Focus more time on developing expertise in managing (and exiting) existing positions than on discovering new high potential entries

For the record, a close fourth in this exercise was understanding the tenets of behavioral finance and the associated decision-making pitfalls that investors should learn to avoid. Those who wish to get a better sense of how I see the learning process for developing traders may wish to investigate my trader development stage model.

Readers, feel free to use the comments section to spell out the 3-4 things you wished someone had told you when you first started trading.

For more on these subjects, readers are encouraged to check out:

• Trader Development Stage Model – Version 2.0
• On Trading Rules and Guidelines

Disclosure: none

The Art of Doing (Almost) Nothing

Yesterday was a very strange day on the blog. For the first time in probably a year, I did not post at all on a trading day – and yet the blog set an all-time record for most hits in a single day.

Those seemingly incongruous two facts got me to thinking about my best day of trading. Ironically, on that day I did not make a single trade. Instead, I simply acted as a slightly bemused caretaker for several large positions that just happened to be moving in the right direction on the same day. As was the case with the blog, once again I did nothing and had my best results.

All this got brought me back to thinking about the trader development stage model and the importance of understanding how a trader spends his or her time. Is almost all of your time spent on researching “the next big thing” or uncovering penny stocks that are flying under the radar of the investment community? Do you obsess over every uptick and downtick of the stocks in your portfolio and check your portfolio balance even more often than you check for new email? If this sounds all too familiar, then I suspect you are mired in stage 1 of the trader stage development model and still have too much of a stock-centric view of trading.

A good trading day for me is one in which I make no trades. On those days I can devote almost my full attention to research and development. This means looking at things like new asset classes, new products, new exit rules, new strategies and new approaches to risk management. Next month my favorite strategies may stop working. While I have no idea which penny stocks may perform as well or better than my current approach, I already have a couple of promising strategies ready to be deployed that fit my personality, risk profile and strategic objectives.

So…how do you spend your trading day and what are the implications for long-terms investment success?

For related posts on this subject, readers are encouraged to check out:

• Trader Development Stage Model – Version 2.0
• Draft Trader Development Stage Model
• Comfort Zones, Focus and Thinking Like a Biotech Firm
• Can Selling Options Make You a Better Trader?
  

Trader Development Stage Model – Version 2.0

I was delighted to see the positive response to my draft trader development stage model, which I rolled out last Tuesday in a post with the unlikely title of Draft Trader Development Stage Model and put immediately to work in an option context in The Trader Development Stage Model and the Jump from Stocks to Options. Clearly this framework resonated with quite a few traders, from beginner to advanced.

With my penchant for not knowing when to leave something alone, I thought it might be helpful to expand upon the simplified version of the original trader stage development model and introduce a second version.

The graphic below adds only two new boxes (Technical Analysis and Strategy Management) to the original stage development model, but also adds some explanatory notes, labels for clarification (Issues, Theme and Unit of Focus) and further identifies each of the three stages with what I call Unit of Focus, but can also be interpreted as a Level of Abstraction or something similar.

As was the case the first time around, I am not going to spend too much time adding interpretive commentary other than to note that the two-way arrows represent tension between issues that are closely linked, sometimes because they compete with each other and other times because they are complementary. Also, while I never spelled it out the last time around, the background colors are meant to represent when the trader is likely losing money, breaking even and finally making a profit.

There is the potential to take this trader stage development model and get much more specific with it, use it as a diagnostic, etc. For now, the current level of detail is probably appropriate for most future applications I anticipate in this space.

As this is a mental model that is highly subjective, I would be glad to field to any feedback, criticisms, suggested enhancements, etc.

For more on the trader stage development model, readers are encouraged to check out:

• Draft Trader Development Stage Model
• The Trader Development Stage Model and the Jump from Stocks to Options

The Trader Development Stage Model and the Jump from Stocks to Options

First, thanks to all who commented or wrote to me about the trader development stage model, I was quite surprised and heartened by the response.

When I was in the process of assembling my initial draft of the trader stage development model, I had in mind a novice trader that was focusing primarily on stocks, but perhaps occasionally trading ETFs. With respect to options, my sense is that for the most part, novice traders avoid options entirely or take an occasional gamble on a potential big winner by buying out of the money calls or puts.

Looking at the model, however, it quickly dawned on me why so many traders have trouble making the transition from trading stocks to trading options. I asked myself two questions:

1. What is the motivation for a stock trader for jumping into trading options?
   
2. How far has the trader progressed in terms of the stage development model at the time he or she decides to trade options?

I suspect quite a few beginning traders get frustrated with some of the stage one issues associated with entries, leverage and position sizing and before coming to terms with these issues, they decide that stocks just aren’t the right trading vehicle for getting rich in a hurry. Attracted by the leverage potential of options, these traders make the jump from stocks to options and in so doing, simply magnify the cost of their mistakes. Of course, this is absolutely the worst way to approach options. Almost without exception, traders who follow this course of action succeed only in accelerating the time it takes to blow out their account.

The situation is only marginally better for traders who make the jump to options after advancing to stage two and are grappling with how to cut losses while letting winners run. With options positions much more volatile than stocks and spreads much wider, many of the exit strategies that work well for stocks do not work as well with options. Further, some traders become confused about whether to use the options, the underlying or both as their cues for when to exit. On a personal level, while I think mastering the art of exiting positions is a critical success factor for anyone who trades stocks, I found that porting the lessons I learned about stock exit strategies to options was nowhere near as easy as I had hoped.

Even for those traders who have reached stage three of the development model, options will be difficult to trade profitably, but these traders should understand most of the hurdles to success and what it takes to overcome them. Still, edges that work for stocks don’t necessarily work for options and risk management becomes much more complicated and difficult.

The bottom line is that for those stage three stock traders who are interested in augmenting their trading with options, their time and effort will likely be rewarded. On the other hand, for those traders who are still mired in stage one and stage two of their development process, options are almost certain to be a disaster and result in large losses.

If you are thinking about making the jump to options, make sure you undertake an honest self-assessment before diving in and be sure to make risk management your number one priority.

For some related posts, readers should check out:

• Draft Trader Development Stage Model
• The Risk Library

Draft Trader Development Stage Model

One of the under appreciated joys of blogging is the wide variety of people who you end up corresponding with across the globe – and whose paths would likely never have intersected my own had it not been for the blog.

Partly as a result of the blog, I have a better sense of what goes on in the heads of other traders, what issues they struggle with and how they do – or sometimes don't – overcome obstacles to success.

I have enough anecdotal evidence that suggests there is something of a typical development path that many retail traders follow as they grow and develop as traders. In an effort to start a dialogue about this and to give the blog a framework to refer back to in future posts, I thought I would post a draft of the mental model that is forming in my head.

Frankly, I am surprised I have not seen a similar graphic and if there is one out there, I would be interested to hear about it.

Keep in mind that as best I can, I have attempted to keep the model simple. Once the basics have been debated and reformed, then it is a lot easier to add in some of the complexity.

So…without further ado, I have appended below the first draft of the trader development stage model, which is hopefully relatively self-explanatory. Note that the vertical gray arrows are supposed to represent tension between related issues (leverage vs. position sizing, minimizing losers while maximizing winners, developing an edge vs. diversification.) Also, while I consider all the issues to be iterative, I suggest that the iteration process in the third stage is continuous.

As always, all feedback is appreciated.