Monday, May 21st, 2007
Why I missed the recent big rally in the stock market, Part I
I never thought there would never be anything worse that watching one’s stocks crater in a short, sharp correction. But there is, and that’s watching a bull market melt up when you’re not fully invested.
That’s exactly what’s happened to me since November last year. The past 7 months or so has been a tale of poor organization and misguided bearishness causing missed opportunity. I’m reviewing what happened.
What makes it particularly painful is that everyone else is making money. I had coffee with a broker the other day and he’s minting it and his mate who runs a hedge fund is off heli-skiing to celebrate his market wins.
I want to note that this is not a sudden switch from being bearish to bullish on the market (sorry contrarians) but merely reviewing why I missed big gains.
It started when we decided to move back from London to Australia late last year. Because we were getting married the following February I decided to stay on an extra month and save pounds for the wedding. This was my first big mistake.
We left our apartment and I stayed with a friend. The pad was lovely and overlooked Primrose Hill Park, a leafy part of London. But the apartment had no internet access!
I wandered down to an internet café on the way to Camden Town to monitor the market each day, but it was dirty and I didn’t want to spend a lot of time there. My trading system requires filling in quite rigorous checklists before placing a trade and it was difficult to spend up to two hours in that café looking for trades then filling in the checklists.
In hindsight I should have returned to Australia straight away. The money I saved staying on is far, far less than I would have made had continued focussing on trading and stuck to my system.
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My other mistake was to become too bearish. For some reason I developed a fascination with monetary factors. Money supply was increasing around the world, which usually leads to inflation and then a ramping up of interest rates by central banks. I think I got this minor obsession after re-reading Reminiscences of Stock Operator and noting Jesse Livermore’s use of money market conditions to help guide his trading. As we all know inflation has remained under control.
At the same time I added another new factor in my analysis of the broader market. That was Dow Theory conditions as outlined by the stock market writer Colin Nicholson. This says that when you notice that speculative factors are entering the market you should cut your exposure. I thought there were signs of speculation (as witnessed by a surge in IPOs) particularly in the resource sector. I took that as a warning that the market was topping.
My system called for me to cut my exposure from more than 100% exposure to 80 per cent when the Dow Theory enters the third, speculative phase. That’s fine, but my bearishness overcame me and I cut back to 20 per cent.
The tragedy is that since November my market system has flashed a buy signal all along (except for once). But because I missed the initial movement I developed a ‘fear of heights’ and didn’t want to enter the market because I assumed that when I did I’d get caught up in a sharp correction.
This has been going on for months now. My market system remains on buy but I’m underinvested. The frustration this is causing has triggered this bout of self analysis. In the next instalment I’ll outlines some lessons I’ve learnt from this sorry saga.
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