Q&A
Since You Asked
| Confused about some aspect of trading? Professional
trader Don Bright of Bright Trading (www.stocktrading.com), an equity trading
corporation, answers a few of your questions. |
Don Bright of Bright Trading |
IMPROVING A TRADING SYSTEM
Don, what you think about a simple system like a moving average
crossover system? I've played with different combinations (50/200, 30/100,
and so on) in different markets (NASDAQ, Standard & Poor's 500, and
others) with equities only. I got very good results with 30/100 in NASDAQ
with money management, investing about 3% per trade. My profitable trades
are somewhere between 40% and 50%. What you think about the system, and
how do you think I should improve the trading system with additional indicators?
Thanks. -- Sudhir Cheda
Moving average trading systems are one of the oldest and most basic
still being used today. But looking for return on investment is one thing,
actively trading is another. Since many fund managers utilize moving average
and moving average convergence/divergence (MACD) techniques and generally
return about the same long-term return as the overall market (actually,
most underperform the S&P 500), I would have to say that relying on
this type of system alone would not be the best way to extract money from
the market.
Most top traders I know tend to use multiple indicators and numerous
factors in their algorithmic trading, rather than relying on any single
factor of technical analysis. Since most systems are "if/then"based
in their programming, the more pertinent data you can combine, the better,
in my opinion.
So sure, moving average techniques can work by themselves, but I suggest
adding complete fundamental analysis, trend-following, sector relative
strength, and other criteria to your model.
PRICE TO BOOK VALUE
I am hard at work studying for the series 7 test. Hopefully, I'll
pass the first time through, but I have my doubts. I am targeting the October
boot camp. Question: How do you determine whether a company has a low price
to book value? -- Chris Garzon
First, to find book value (http://finance.yahoo.com), click on key statistics.
For example, GE book value is $11.37, stock is trading around $40 or so,
40/11.37 = 3.5 price to book ratio, approximately. Yahoo! Finance has the
price to book already for each stock. The lower the number, the better
the stock, as far as this valuation is concerned. You really need to check
"price to tangible book value" as well. The tangible book value has things
like goodwill, intellectual property, and other intangible assets taken
out of the balance sheet valuations. Good luck!
BENCHMARK COMPARISONS
Is there a benchmark number you look for before making a trade?
Or is it based on a comparison to another stock, like GE/HON? Or average
overall market? -- Chris Garzon
Not really. We compare two "peers" to develop a long and a short for
our pairs trading, based on their overall fundamentals. Generally, we end
up long in value stocks and short in growth stocks, and trade them together
based on trading ranges.
POSITION DOUBLING
I have a question about position doubling. One of my trading buddies
trades using the Murray math technique in simulated trading and doubles
positions on the Russell 2000 and S&P 500 eminis every two points the
trade goes against him (start with one contract on entry, then two, four,
eight,16, 32, and so on). Of course, that allows him to escape bad trades
with at least breakeven. In the end, he ends up with zero losses and daily
gains.
I'd like to have some feedback from experienced traders about
the long-term viability of this way of trading when he goes live using
this strategy (personally, I believe he will tank his account, because
in simulated trading, you can double forever, but not so in live trading).
--Gabriel
One of the biggest reasons for trader failures is adding to losing positions.
That said, let's chat for a second.
I have played hundreds of hours of a modified Martingale system with
a (nearly) 50/50 game (baccarat), and if we take into consideration getting
our costly comps (trips, rooms, shows), we can justify the overall negative
expectation -- to a point. Without the fringe benefits and when dealing
with something like the market that is not a 50/50 game, it makes no sense.
The reason for adding or taking off a position is based on what the
market is doing. As traders, we are responding to market conditions, and
putting on positions based on these conditions. To simply double down is
not a valid premise in the market, in my opinion.
If, for example, you're trading eminis, you're long at 1480 and it breaks
a support level, are you not better off closing and possibly reversing
the position compared with adding to the losing trade? We have to take
into consideration things like the VIX (CBOE volatility index), recent
price and market movements, premium/discount to fair value, and many other
factors.
New traders would more often than not be better off closing a position
vs. adding to the losers. Treat each entry/exit as its own event, based
on the overall reading of the market. (I could go on and on, but I'll spare
you -- just an overview from my perch!)
E-mail your questions for Bright to Editor@Traders.com, with the subject line direct to "Don Bright Question."
Originally published in the October 2007 issue of Technical Analysis
of STOCKS & COMMODITIES magazine. All rights reserved. © Copyright
2007, Technical Analysis, Inc.
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