Warning: This article may a bit disjinted, and read a lot like the classic Justin Mamis “Stream of Consciousness” fax that he periodically sends to clients.
Leave it to another Justin, Justin Lahart — my favorite columnist at WSJ.com — to write this provocative story.
Your Portfolio on Autopilot
One of the most powerful and risky investment tools available — software sophisticated enough to actually trade on your behalf — is starting to trickle down to the little guy.Previously, tools like these were the exclusive domain of whiz kids with Ph.D.s hired to design complex trading algorithms for hedge funds and giant institutional investors. Known as “quantitative” strategies or “program trading,” it involves setting up specific sets of rules — say, buy 100 shares of Stock X if the Dow rises a certain amount for several days in a row — based on intensive data-crunching.
But now, in a race to keep up with the pros, a host of brokerage firms are starting to offer services like these to regular investors. The most elaborate can execute complex strategies involving stocks, options and currencies all at once and without any human intervention, which makes them not only powerful, but potentially dangerous if the investment strategy is poorly designed. — WSJ.com (by subscription)
You may have noticed that as time goes on, I have less and less to say about the market. And you would be correct, because as far as I’m concerned, the sport of opining doesn’t help much. I’m thinking about issues. I care alot about performance numbers now, particularly how much risk one took to obtain their reward.
For example, if someone opines that the market is going to go up, what should you do? What should you buy and how much? How would these new purchases fit in with your existing portfolio? How much risk would you take? How much risk do you assume? And would all this work outperform buy and hold? The flip side of this are the Chicken Littles. Year after year, it’s the same shtick: “THE SKY IS FALLING; BUY GOLD!” Well, construct a Chicken Little portfolio and show us what kind of returns can be generated!
Yes, I have been assimilated. I guess it was inevitable
from the day The Quant came to work at the office back in 1992. At the
time, his work didn’t apply to me because I was a trader of chart
patterns.
I tended to trade the stock du jour, so it was easy to surf the sentiment cycle for money. I also took a couple of big bets early in my career and got lucky. Either way, I did not have — or need — a portfolio per se, so I buried my head in the sand for a long time, thinking that it would never come to this, that I would never have to write a line of code. But deep down, I knew the day would come someday.
My early training in life science fostered the dormant but insatiable curiosity that eventually overcame Confucian conditioning in filial piety. Then again, it was probably destiny that I would, because I don’t see how I could have come out of the other end of my Dad’s gold trading episode and still believe. Throughout the whole brokerage business ordeal, I managed to keep the inquisitive heart and head of the scientist alive. Trust me, it wasn’t easy.
For me, converting to the dark side means having the ability to simultaneously trade more markets, make more money and reduce risk. Quantifying what I have learned over the last 20 years has been so much fun, not to mention intellectually stimulating. At last, my idea jar is being filled again. It’s cool to work with amazing people such as Mark Mills from TradeStation, Chris Kryza from Divergence Software, and the group from TSsupport.com. It’s so good to solve problems for real people! I feel alive! And I’m only getting started…
I remember doing the old Saturday Summits back in 2002. They were fun, and my big theme at the time was, “If you think a falling market is bad, wait until it’s over. Then it willl be dead.”
Why did I know that? I learned from experiencing hundreds of mini-bubbles. And this one was no different, just more zeros tacked on to the losses for investors, followed by death by a thousand cuts for traders that did not know the game had left town.
Take a look at the chart above. It tells us that the market is now back
to the deadness that it once was, back in the early 1990s. There is no
action going on in the S&P 500, and of course, that is bad for
someone who made a living trading the S&P futures.
Ditto for the NASDAQ 100 index. The 2-MONTH average true range in
percent shows us that the action is just not there.
Ok, this might be sort of an exaggeration, but I think there are two good reasons for the apparent consolidation in the industry and the functional demise of many charting services.
First, the net is full of free charts. They’re just a widely-available commodity now. Charts that don’t help people make money are quite useless, so why subscribe? The net effect is that there are many, many charting software companies that appear to be in business, but they’re no longer upgrading the product, just milking the income stream from the ever-shrinking client base.
Second, charts alone cannot help the masses to make money. When the market was going up, the rising tide probably lulled many newly minted chartists into thinking that their foo was working when it was just luck coupled with big cajones. Because if they could actually read the charts, they wouldn’t have lost all their money on the descent. Whatever.
Vladimir Ivanov, an auto mechanic, decided to try his hand after he took evening programming classes and found several Internet sites where programmers discussed strategies like these. He opened an account at Interactive Brokers and at first made money in a program he designed to buy and sell groups of stocks at once, a so-called “pairs” strategy.
But those profits dwindled, he says, as more traders flocked to similar ideas, so now he has switched to a newer program based on stock volumes. Mr. Ivanov won’t disclose his earnings, but wrote in an e-mail that he makes “a few times more than I used to make in the garage,” working on cars.
Mr. Ivanov’s biggest fear: Losing a bundle of money based on a programming error that buys or sells far too much stock. — WSJ.com (by subscription)
Now that it has been established that charting is not easy, enter automated “quantitative” trading for everyone. I can’t think of a faster way to blow oneself away.
It seems to me that the moral of the story is that there is no reason to believe that one can make money from the market without knowing anything. I mean, if a casino decides to dispense more alcohol per free drink, the house will most likely make more from increased business, but will the end result will be any different than before for the gambler?
So for all you Dads (and Moms) out there, don’t forget: Your kids are watching.