Gaps Get Filled

DIS gapped up pre-market on news of a CEO replacement. The obvious trade was to fade it.

Oh, well. Missed that one, because I wasn’t looking for it. My bad.

Traders --some anyway-- make use of the collected wisdom of their craft as has been codified into proverbs and rules of thumb, one of which is “Gaps Get Filled”.

If you look at a couple hundred charts, you’ll see that isn’t always the case. Sometimes, prices continue to fall to the floor or continue to rise to the moon with nary a retracement. But by and large, especially in these days of algo trading, every abrupt advance or retreat of prices gets faded. Hence, if you were lucky enough to benefit from a gap up, “the market” --meaning, some trading program somewhere-- is more likely than not to take back some of your windfall gain by offering out lower and some other program is likely to accept that offer.

With that thought in mind, I exited my trade on the $US at market close with a 2,361% gain (calculated exactly as the G BoyZ hypothecate and report their supposed gains), which is total BS of course, because annualized gains can’t be spent at the grocery store or gas pump, only actually achieved pennies and dollars.

So, let’s take a moment to think about reasonable rates of return, be they from ‘investing’ or ‘trading’ or just plain gambling. Historically, the gain from owing a diversified basket of equities averaged around 8% to 10%, which Buffet has explained as follows: Inflation + Div + Risk Prem.

That formula worked well enough in the pre-Greenspan days. Since then, our dear central bank and Treasury cartel has been backstopping financial markets, and stocks have been offering close to double that annually. However, their money printing and interest-rate suppression is unsustainable, never mind PE’s have gotten ridiculous, so much so, some savvy money manger project very flat returns for stocks over the next decade or two.

But projections are just that, projections, and their underlying assumptions can be questioned, and a smart trader can make money in any market, whether prices are up, down, or sideways. Not easily, and not with a lot of risk. But it can be done. So what should matter to each individual ‘trader’ --or ‘investor’, if he/she prefers to call themselves that-- is one’s own goals.

So let me explain how I look at goals. “The market” declares roughly 10 holidays per year. That leaves 250 market days in which trades can be done. If one averages 5 bps per day, the net result is an achieved 12.5%/yr, which is good enough for the girls I go dancing with.

5 beeps per day is tiny money. More likely, a day’s gain might be 50 or 100 or 250 beeps. But not every day offers that kind of return, and then there is the pesky, little fact that some losses are likely. But if one’s goal really is a modest 8%, 10%, 12.5% per year and some days offer a big gain, one can take the position off and park the money for the next month or two or three, because it’s done its job, and it has earned its vacation.

Money not in the market is money not at risk. (For sure, inflation is ever present, as are taxes.) Also, gains made with low market risk don’t spend any better (at the grocery store or gas pump) than gains made with high market risk. But they let one sleep at night , and they aren’t as likely to be taken back by “the market”. In fact, they can’t be taken back if the money is parked, which is a reason for “deleveraging” one’s portfolio. (More on that another time.)

OK. Back to the gains on my $US trade. I put the position on using an open-end fund rather than an ETF. But the one I used tracks the EFT version, UUP, nearly exactly, and its day-over-day gain was 87 beeps. So here’s how I look at that gain. I can park my basis in that trade for the next three weeks and still be on track to achieved my hoped for annual gain on that money. Or I can multiply that gain by 250 market days and claim an annualized 218% profit. Or I ignore the back-office nonsense, bank the gain, and just start scanning for the next opportunity, which is what I did by going short an asset class my scanner identified as a possible trade. Whether that trade works and how soon I exit it will depend on what tomorrow’s market does. Meanwhile, it’s time to rake leaves.

Hi Arindam,

A novice investor here…Would you mind expanding a bit on the trade you made…Would appreciate if you could explain your rationale and specifically, how you chose your buy and sell signals, thanks a lot.
Charlie

1 Like

Charlie,

I don’t mean to beg off from answering your question. But I’m puzzled by it and don’t know how to answer it, because the chart for the $US is so obvious.

Seriously, go to any finance website or portal that offers charting. Pick a stock --any stock-- or ETF, or mutual fund, or futures contract, or whatever. Pick a price bar type you like. (Quill likes OHLC bars. I prefer open candlesticks. Others advocate Heiken Ashi bars.) It just doesn’t matter, because all of them are depending on and displaying the same four pieces of info, namely, the open, high, low, and close for the day. (Line charts are the exception, and I like and use them, too.)

Next, pick a lookback period you’re comfortable with and that reflects your likely holding period. Add volume bars if you want and main panel and sub-panel indicators if you want. But none of the latter are really necessary. ‘Price’ and ‘volume’ is all you need, and Quill doesn’t even make use of volume. Next, move the chart back in time by some random amount and then start walking it forward, one day at a time, trying to predict what will happen the day yet to be seen. Some securities create charts that are an absolute mess and are hard to read. Others advance and retreat in rhythmic waves that it’s very easy to get in synch with. Those are the stocks, ETFs, or whatever you want to be trading.

Next, you really do need to do comparatives on its peers and pull its fundamentals --if possible-- so you’re not just playing an arcade game and being bedazzled by flickering lights. You gotta understand why the chart appears as it does. Yeah, sometimes prices go up or down just because prices are going up or down. But fundamentals and technicals generally complement each other and they often explain each other.

Aside: The very best site for the fundamental stuff is Simply Wall Street. Not cheap, but worth every penny. But if funds are limited, any broker offers more than enough news and fundamentals to make good decisions. What can’t be done at the brokers is to vet dozens of stocks in seconds. That’s the advantage of SWS and a feature I’m willing to pay for.

In the case of the $US, what’s going on? Why isn’t it crashing as it should be? Simple. It’s the least dirty shirt in the laundry basket of fiat currencies and them who really rule the world are manipulating the sh*t out of the price of real money, namely, gold and silver. Plus, the cypto scam is unraveling. So the dollar is being bought. Plus, though Russia, China, India etc., are doing end runs around using the $US in trade settlements, none of their currencies have the muscle (yet) to totally replace the $US, though the World Bank and its buddies do want to see the $US decline so they can replace it with SDRs or a CBDC. (Topics for another post that get into the repo market, shrinking credit, etc. i.e., heavy duty, mind-numbing stuff quite well covered by Dave Stockman, Paul Roberts or Doug Casey.

Lastly, if you really are a newbie to technical analysis, buy a copy of Stan Weinstein’s book and work you way through it, pencil in hand. Ditto Justin Mamis’ book, The Nature of Risk. Ditto the all-time trader’s classic, Reminiscences of a Stock Operator. Plus, do read Ben Graham’s book, The Intelligent Investor. What he has to say about the psychology of investing is necessary to understand.

Then set up a free account at BarChart.com and start charting any stock anyone mentions, especially those touted by the Motley Fool. What you’ll quickly discover is they are totally clueless as they advocate for stocks with negative shareholder value that have ready left the station but won’t likely become profitable in the next three years. Sad, but true. So, of course, they hate technical analysis, because it reveals what bad stock pickers they really are.

That, for the beginning investor is the true value to them of technical analysis. It’s the one tool --the only tool-- they need to keep themselves out of trouble. Or as Quill likes to say. “Charts don’t lie, but people do.” He’s taught his 6th grade nieces and nephews how to pull money out of markets, because the process is so simple. “Buy when price crosses above he green line. Sell when price crosses below the red line.” Wash. Rinse. Repeat.

Yeah, yeah. There’s a bit more that comes from having charted thousands of stocks and having done hundreds of trades. But that’s the essence of investing. “Buy low. Sell high”, just as Ben Graham said.

3 Likes

This is extremely helpful! Thanks so much Arindam. Really appreciate it and thanks a lot for so kindly and patiently explaining the process.
Charlie

1 Like

Charlie,

Thank you for your “thank you”. Under various handles, I’ve been posting in these forums for over 20 years, and it’s a rare person who ever takes the time to say “thank you.”

If you truly are a beginner, it’s likely you have small money in addition to small experience. So, if you don’t already have an account with Schwab, do this. Follow the link and open an account with them. Schwab Starter Kit™ | Charles Schwab

For putting up $50 bucks, they’ll give you five, SP500 stocks worth a total of $100. IMMEDIATELY chart them, and IMMEDIATELY sell any that are headed downward, which might be all of them. No hoping. Just Sell, Sell, Sell if they look to be in trouble.

But now you’ve done two things, #1. You’ve doubled your money. #2. You’ve launched your investing/trading career. So, do this. Learn how to use their stock scanner. Learn how to enter contingent buy orders. Learn how to set and trail stops.

Initially, you aren’t trying to make big money. You’re just trying to gain experience on their nickel while keeping yourself out of trouble.

Schwab is a decent shop that does most things well. Eventually, you’ll need to set up accounts elsewhere, such as at TD. But Schwab is a good place to make a beginning, and it’s the only viable broker if you want to trade open-end mutual funds (due to their low mins and absence of ST trading fees).

A

2 Likes

Once again, thanks a lot Arindam. I am going to do exactly what you said, and make an earnest attempt to learn. Thanks again for all the helpful advice.

Charlie,

DON"T do what I said. Instead, do what makes sense to you in your own specific situation, which is going to be different for each investor.

The mistake (nearly) everyone makes is to confuse and equate this investing/trading stuff with the whole of financial planning. Well, it ain’t. This investing/trading/gambling stuff isn’t even 10% of the larger picture, nor is it even a necessary part of one’s overall, total financial plan.

Worse, right now, national and global markets are a mess, due to decades of central bank money printing and decades of governments spending beyond their means. Some very credible people are projecting a crash ahead of us worse than 2008, worse than '29. If those warnings are credible, then one’s focus needs to be defensive. How translates to specifics will vary from person to person.

A

3 Likes

Well said and it is very wise of you to point out that this is not the only way. I totally agree. However, I have lost quite a lot in all my naivety this last year and a half…and I have a feeling that if I had learnt this skill of trading using TA/ mechanical investing, I could have at least significantly limited my losses.

And so in that regard, Yes, the most important thing that I wanted was to learn the process from whoever was willing to teach and I think I am in the right direction. I am happy to take baby steps and see where that leads me to. And it was mighty kind of you to send the info on Schwab kit…I have everything to gain there and nothing to lose, so thanks Arindam!

Charlie,

If you don’t want to lose big money, then don’t bet big. It really is that simple.

The pitch made to beginners about the best way to reduce risk --aka, losses-- is Diversification, Diversification, Diversification, which is a crock, because when markets are under stress, correlations go to 1.0.

Traders have a proverb that goes like this. “Amateurs look to their upside. Pros look to their downside.” Worry about what could go wrong and where you’ll get out, not how much money might be made. That means setting and trailing stops on every position. "Buy and Hold’ is reckless, irresponsible nonsense. You get in and you get out.

C