I skipped last week’s update. Not a lot of trades, got killed on my shorts, and busy in real life to the point that I couldn’t commit the requisite ten hours a week or so to trading. But here are some quick updates of the blunders of the last couple of weeks.

Crushed on BBY and FAZ

Totally missed out on the chance to cover all my BBY positions (the shorts and the puts) back when it was at $25, only to see it rise to $39 in a squeeze. I’m still short, although I can’t carry this for much longer. Their ad campaign (i.e., “I must not be cool enough for a Mac”) and their IT to me means that there’s a good company in there somewhere saddled to a failing business model. I did average down on the puts, which I think are a losing cause, so those will be the first to go.

I took a big one day hit on FAZ, but luckily bailed before it lost even more, riding it from 43 to 27. Stupid, stupid, greedy, greedy.

I also had some SPY puts that I need to pitch—well over my typical loose stops. I recovered a little today on all the weakness, and despite the futures looking up for tomorrow, I think I can sit it out a little bit longer. A lot of the government’s actions, working or not, seem to be improving sentiment, so this comes down to whether my desire to fight a trend is stronger than my trading account. Maybe the two weeks of goosing was just there to give cushion to this weekend’s firing of Wagoner. Although come on. Are corporate structures really working if it requires the government to step in and fire a guy who lost $82 billion under his watch? We’re not even talking market cap loss. $82 billion in losses. You think after the first, I don’t know, $40 billion or so they maybe think about “going in a different direction”? No one who gets fired after losing $82 billion is a “scapegoat”.

I’m within about 5% of the largest cash position I’ve had in the last six months, so being a little short isn’t hurting. It’s just hard to find things to bet for or against at these levels.

The Big Lesson These Last Two Weeks

If life events interrupt, set stops or get neutral before checking out.

Upcoming

The end of the quarter is near. I still hold some SRS, the BBY and SPY puts, long AMZN and sitting long INTC. Sometime this week I’ll sell April calls into whatever trend continues—either the INTC and ATVI on strength, or the SRS on weakness. I really need to get back to neutral and recalibrate for more limited attention. StockTwits has fallen by the wayside for the time being, although armed with TweetDeck, I’ll make another run at it in the second quarter. Apologies to the people in that community whom I’ve forsaken. I shall return. I may just be focusing a little more on the Code and Literature, and a little less on the Money.

“CNBC could be an incredibly powerful tool of illumination for people that believe that there are two markets. One, that has been sold to us as long term. Put your money in 401(k)s, put your money in pensions, and just leave it there. Don’t worry about it, it’s all doing fine. Then there is this other market – this real market that’s occurring in the back room, where giant piles of money are going in and out, and people are trading them, and it’s transactional and it’s fast. But it’s dangerous, it’s ethically dubious, and it hurts that long-term market. So what it feels like to us – and I’m speaking purely as a layman – it feels like we are capitalizing your adventure by our pension and our hard earned [money] – and that it is a game that you know is going on, but that you go on television as a financial network and pretend isn’t happening.”
—Jon Stewart

And that, my friends, summarizes the motivation for 6 months of active trading in the market.

Before September 19, 2008, I was a buy and hold investor. I picked stocks, held them for too long, reluctantly sold, because in the long run, stocks went up. And I was extra dumb because I bought individual stocks instead of index funds, so the odds were against me since about 2/3rds of stocks (as do 80% of mutual funds) underperform the market.

Then I wanted a MacBook Pro.

Invest in tools. Invest in yourself. That’s what took me into that first short term trade. AAPL was down too much, into the $120s and I knew that it had to pop. So I bought calls, put in a limit order to sell at a profit, and bam, made a cool $1700. I didn’t know anything about position sizes, I didn’t know jack. But it won. Then I won about 14 more, and I thought I had it figured out. When the building is burning and people are running away, run towards it. Buy when the spike down occurred, sell (and sell short) on the spike up.

Sure, I had up months and down months, but in the trading portion of my account, I was generating some serious alpha. And that’s when it started to become clear to me that passive investing is just a way of becoming a sheep to be slaughtered for the active investor. In poker, there’s a saying: if you look around the table and can’t find the fish, the fish is you. I’ve shown that time and time again over the last six months.

My money is split into two pots: my “buy and hold” account which operates under the same premises as it did for the 15 years prior, and my trading account, which I actively enter and exit positions in under timeframes ranging from hours to days.

Since mid-September, my buy and hold account is down about 25%. My trading account is up 220%.

Lesson learned.

But it sucks. I’ve been able to generate these decent return, at the cost of about 10 hours a week at night and on the weekend studying and following up tweets and links and StockTwits threads and participating. The opportunity cost is that “investing in myself” has turned into “managing my money”. I’m not necessarily creating new value, I’m trying to salvage the value I had before, swimming against a current of bad news. I’m learning a lot, no doubt, and due in no small part to the relationships I’ve established through StockTwits. It’s not enough to make a career of it, but it’s also enough to keep me from giving it up and just resorting to mutual funds and CDs.

So I got my MacBook Pro with the proceeds I earned. And it’s paid off several times over. So score one for investing in tools, investing in yourself.

Trades: Out of INTC, AAPL calls

Earlier I had purchased two lots of INTC calls for a cost basis of around 0.36 per contract. The first batch (about 60%) sold at 0.50, the second batch (about half the remaining) sold Tuesday at .55 and the final batch went this week on Thursday at .64. My thesis back in week #7 of the StockTwits experiment was that INTC was a bargain at 12.75 or below. The whole trade ended up being a 51% gain. Not bad for catching part of the turnaround.

The AAPL calls I had purchased at 12.50 went for $17 on a limit order Thursday for a 35% gain. Could have let those run a bit more. I still think there will be several opportunities for AAPL in the 80s, although the low end of the range seems to be creeping up. Previously it was a no-brainer to go long in low-80s and short at 97. That range may have shifted up about 5 bucks.

Puts on the Pop: BBY and SPY

While this may end up being a mistake, I took the opportunity to buy more Best Buy and SPY puts with the proceeds from the closed calls. These are fairly minor positions. I’m just going to continue playing this back and forth of buying on weakness and selling on strength until it starts to fail.

The funny thing is that I missed out on a lot of upside by holding the existing BBY and SPY puts as the market rallied. The BBY is especially interesting because it’s the second time that I wrote a long post being negative on a stock only to have the market prove me totally wrong in short order. The first time was when I panned Mastercard; this time, I was talking down BBY at 24.50 just before it rallied to 28.50. In both cases, I lived up to the idiot retail investor moniker. Treat me as a contrarian signal when I’m talking something other than tech. I’m not sure whether it is just coincidence, or whether some subliminal survival mechanism kicks in that starts a rationalization process, but it’s something I’m going to watch.

Long Term: AMZN

The Amazon I bought last week turned out to be a good buy. I’m staying long AMZN. If you didn’t catch my Kindle 2.0 review, be sure to check it out.

Last night I watched the schlocky film 10,000 B.C. as part of my research for life skills in the time of Dow 1000. Consequently, this week I’m going long mammoth pelts and have began careful study of the art of curing meat on a clothes line, Andy Swan’s optimism be damned.

I call this “investing in myself”. While I’m not accurate with a spear honed from a wooly mammoth femur, I did take some money off my wife and kids on a bet Saturday by draining a wicked three-pointer, so there’s hope that those skills may transfer to hunting.

On the off chance that we aren’t headed for doom, I did begin to start taking short money off the table, and established a couple of new base long positions.

What’s different for me this time was that in the past, when I’d close a winning position, I’d close it out completely; lately I’ve been staging my exits in chunks, trying to take profits off and keep the positions in balance overall. So far, it seems to be working out well. As I looked back over my monthly performances for the last six months, things seem to be going slightly better—less variance, and fewer huge mistakes. (For what it’s worth, here are the monthly numbers. Sep 2008: +27.4%; Oct 2008: +107.6%; Nov 2008: -7.1%; Dec 2008: +15.96% Jan 2009: -5.81%; Feb 2009: +10.71%; March to date: +19.8%. The great returns in September and October were due to flat out gambling and taking positions that were about 60-70% of my total trading account at the time. Better to be lucky than good.)

Started covering SRS

Monday I wrote some March 100 call premium on SRS on half my position. By Friday, this looked like a bad trade, with SRS at $111, but it feels like it’s time to get out, and I sold 1/4th of my SRS position at $104 on Friday for a 21% gain. I get the sense that its run is over (as @thehawaiitrader says: “$SRS takes the stairs up, the elevator down.“) Consequently I make be looking for an exit on the other quarter of it, and then see if the rest gets called away.

SRS is a trade that I did just about everything wrong on—too big of a position, held an ultra ETF for too long, averaged down. If I can unwind it entirely at these levels, though, it’ll end up being a fairly profitable mistake.

Closed out the Mastercard Put Failure

Finally got out from underneath this put position as Mastercard tanked this week. The right trade might have been to assume my timing was poor and let it fade some more, but from what I’ve learned, this was just trying to turn what might have been a 60% loss into a 36% loss, so I can use the money for better trades.

BBY Starts to Flame Out, and Pay Off

I’ve had a long running short position on Best Buy with a cost basis of around 26.40, but rather than adding to it as it showed strength on the way to $30, I bought puts. Going into this week I was sitting on a pretty good pile of profitable June 25 puts; on Monday I closed 40% of them for a 29% gain, then eased out of 30% of the overall position for a 45% gain on that lot, and took down 1/4th of the short position.

BBY is still my second biggest short position (SRS is first by dollar volume, and SPY puts are third.) I went to Best Buy this weekend and while it didn’t seem as empty as some of the home improvement stores I’d been to, the kind of stuff I saw people walking out the door with were fairly small ticket items. Keyboards and $200 video cameras. The DVD area is wasted space, the TV and appliance areas are empty, no one buying phones. The only area with anything going on was the video game section, which they’ve smartly moved to the back of the store.

Closed out NDAQ Puts

The other big short I had working, and perhaps the first trade where I showed discipline and awareness of the charts, closed out Friday for a 60% gain. I had a small position of NDAQ puts with a cost basis of $2.50 that went off for $4 as the stock dropped from the $24 range to $18.50 over the course of a couple of weeks.

Bought More SPY Puts

On the strength Wednesday morning, an order for Sep 56 SPY puts filled, giving me two separate SPY put positions (the other is Sep 64s) that are up 15% and 40% respectively. Beanieville had a great post on simplification this week, and in retrospect, getting rid of the exotics like SRS and limiting exposure to specific stock shorts might be a good idea, so these SPY puts are perhaps a better way to go with the flow as the market trends down.

Started Longs with AAPL and AMZN

Before Apple imploded late in the week, I bought some July 85 calls. Sentiment would seem to tell me I’m flat out wrong on this one, and that AAPL might not be a leader, but Andy Swan’s optimism gives me a moment of pause, and I want to be in some leaders if things turn around.

I’d been trying to get into AMZN for awhile, and finally entered a small position at 60. Although this morning, reflecting on things, as much as I love Amazon, how can anyone think we’ve hit a bottom in either the market or the overall economy if Amazon is still at 60? Won’t it have to be punished in a sustained way for some time? I went in thinking this was an investment, but now I’m wondering if it is a short term trade.

Other Positions

Still hold some of the initial INTC calls I started taking down last week. I’m less enamored with these, but it’s part of my Bear Rally Early Warning System (BREWS) and a buy on the dip kind of move. It’s weakening though, so my patience is getting thinner.

Keep Your Spears Sharp

If there’s one thing I learned from “10,000 B.C.”, it’s to keep your spear sharp. Both ends. The volatility is back, both sides are trying to punish the other, and in the course of a single week, both sides can claim victory. Stay agile.

In this week’s StockTwits for Idiot Retail Investors, I wanted to talk about postmodern investing.

Louis Menand had a great review of Donald Barthelme’s writing in a recent New Yorker. Early in the piece, Menand gives a lesson in the two meanings of postmodern. The first meaning of postmodernism comes from the belief that “modernism won” (i.e., “mission accomplished”) and that a postmodernism movement is a declaration of victory. The second meaning comes from the sense that modernism is over, and we’ve moved on to something entirely new.

I thought about these definitions quite a bit with regard to the market and the economy. In which sense does the whole investment ecosystem rising up around social utility services such as Twitter, StockTwits and disqus feel postmodern? It’s not as easy an answer as it seems.

First, we need a definition of what modernism is. I’ll define modernism in investing as the disintermediation of layers and the reduction of friction between investors and markets. It started with Schwab and the rise of the discount brokers, continued as discount brokerages drove down transaction costs, the progression in access to data from the Wall Street Journal through O’Neil’s Investor’s Business Daily and Bloomberg terminals on through to the AOL-era Motley Fool and Yahoo Finance, fueled by the market of the 1990s, cresting with the internet bubble.

Given that definition of modernism, you can think of postmodernism (in the first sense of “mission accomplished”) as what’s going on when social networks and investing intersect. Schwab began the disintermediation of the broker, the internet continued the process, reducing friction, the intersection of advertising models and the internet disintermediated access to market data, and sites like the Motley fool disintermediated the need for paid analysts and blew up the mystique around mutual funds. Modernism won, and now it’s time to see what’s next.

The second sense of the term would indicate that there’s something beyond that modernism, that what’s going on with social networks is truly something different, that it’s not just a continuation of those initial changes.

My take is that the first sense is a better fit. As transaction costs have fallen, and information has become more free, the last pillar is the demolition of the illusion of expertise.

What struck me this past week, reading the wide variety of wisdom available for free on the internet, is that the notion that anyone can charge for a newsletter or trading model or any kind of educational material for any significant period of time is over. Blogs and crowd-sourced financial services provide for free what paid portals and paid expertise did in the past.

Over on Gregor Macdonald’s site, I put it this way:

E.M. Forster: “How do I know what I think until I see what I say.” Your last sentence seems to convey the same sentiment.

I have a blog post that I’m working on that proclaims the death of the newsletter. My basic theory is that as more voices emerge, for every paying newsletter writer, there will be 10 up-and-coming analysts giving it away for free to make their marks, devaluing (in the long run) the paid analysts. This cycle will repeat, and names will continually turn over. The social filter will replace the editorial filter; there will still be value in finding the new and relevant voice instead of relying on the previously relevant established voice.

The good news is that the right voice at the right time, properly amplified, can capture value for the content creator, but only for a limited time before circumstances and competition displace it. The numbers are against any single content creator having a long run.

What may happen then, if you can’t amplify that value into other venues (e.g., books, paid media appearances), is that your last observation in the post also becomes the primary value to you, the author—that the clarity of thought of working in the open results in the production of personal clarity of action, and you end up profiting far more from the direct use of your better (and more honest) thinking than from selling it.

And that evolved into the eventual conclusion I posted the other night about the free content creators and people like Gary Vaynerchuk having to move from just producing the ideas to becoming the performers that amplify their free content.

With Cramer launching his VIP service, you see him on the wrong side of it. He’s a performer who has amplified to 11 who’s now running in the wrong direction. Instead of giving more away for free and focusing on amplification (can Cramer really go to 12, one higher than 11?), he’s attempting to cash in directly on his voice, which I guess is all a fading star can do. It’s time for some turnover. That voice has run its course.

When it comes to learning about investing and where to invest at any given point in time, cost-effectiveness for the consumer comes down to whether you can learn—and I mean actually learn—these lessons better and in less time from a course or subscription or book than you can from any of the bloggers and tweeters giving it away for free.

The challenge now is how to deliver the best stuff in a way that reduces the cost for the consumer. How do you quickly find the good stuff? We’ve got the reduction in friction on sharing ideas, we have crude tools for filtering, but how are we going to ride the wave and find the ever-changing set of experts?

StockTwits is one tool that can help…but there are others out there. If you’ve got any kind of entrepreneurial itch at all, you’ve got to be thinking about these postmodern investment problems and postmodern investment tools and opportunities that the StockTwits ecosystem is enabling.

Exciting times.

Week #8 Trades

Three trades this week. On Monday, I got averaged down on INTC July $17 calls, bringing my cost basis down to a little over 35 cents. I had a limit sell of a portion of the overall position which partially filled on Thursday at 0.50, for a 40% gain. My current INTC long position in the calls is about half the size of an average unit, and I may try to average down again as it gave back a lot of the gains this week.

On Tuesday, I established a small position in SPY September 64 puts which were up and down over the course of the week. I tried averaging down during the rallies, but didn’t get my price, so I’ll stick with the small position.

Finally, on Wednesday, I flipped FAS for 10 pennies, in a wild ride. On the short term chart, I bought in as it started to break out at 5.55, held it as it went to around 5.67, then rode it down to the low fives where I just about got stopped out, and finally settled for a 10-cent gain (even though later in the day it could have been a 50 or 60-cent gain.) Once again, messing with financials, day-trading, but learning. Unlike past failures, I did show a little more discipline here, but instead of an “F”, I’d probably grade my performance on that one as a D+.

Other Positions

I still have NDAQ and BBY puts that are slightly profitable, although I had sells in for those that didn’t fill during the week.

I should have sold my failed MA puts when the stock dropped early in the week, but didn’t. I’ll most likely punt those this week and chalk up the big loss.

Still long SRS, which I will most likely kick part of this week on any spike up. Since this has been my primary hedge (for all the wrong reasons) during January and February, I’ll need to replace it with more SPY puts once I take it off.

And finally, I still have a long-running BBY short that I’m about to give up on due to the stock’s strength during the turmoil of the last few weeks.

This week was mixed, marked primarily by a desire to get smaller. I started the week by closing a couple of bad long positions I had entered the week before while anticipating a bigger rally, and ended the week covering a ton of successful shorts. I’ll start with the bad, end with the good.

Rhymes with Ass and Ack

Tuesday I closed out two of my failed trades. The week before I bought FAS and Bank of America BAC May 10 calls as long insurance against my massive shorts, playing the news cycle. What I failed to pick up early enough was the depth of the outright hostility there was to the bailout news of the last couple of weeks. FAS ended up being a 38% loss; BAC a 52% loss. With the discipline of small position sizes, this hurt, but not fatally as it might have hurt later last year when I was routinely taking positions 4-5x the size I should. The silver lining is that I acted decisively Tuesday morning and avoided further huge losses. As someone still saddled with a buy and hold mindset, this was a bit of a breakthrough to actually cut and run when the tape was so clearly against me.

In examining this, there were several problems, and several points of hope. First problem: the initial idea was wrong. I had seen several times that Congressional action had temporarily revived an industry, but this time it was different; the looming threat of nationalization gave no bounce. Second problem: execution of the idea. Rather than go into something broad (like the FAS), I traded too much. I had to hope that there was a secret surprise in there for BAC. That’s just gambling. I would have been better off trying to ride FAS up alone. Complexity kills. Finally, had I maintained some discipline around stops, I could have saved some of the BAC loss. What started as a quick trade (averaging down too early) turned into a longer duration trade, and I was adrift. Proven wrong, I at least acted decisively when it was clear I was wrong.

Conviction Closed

One of my long underwater put positions, US Steel (X), finally got back above water, and I quickly pulled the trigger, selling all calls for a 21% gain. All the profit came from the puts I bought when I averaged down. Had I waited another couple of days, I could have increased this gain to around 35%, but I was happy to salvage the bad initial buy at the transaction cost.

The lesson I learned from this one is that there are different classes of people I follow on StockTwits. There are those who generate good trend ideas but whom I may not want to treat as signals for entry points (e.g., BuyOnTheDip on this X call, although he falls into the next category on a few of his recommendations.) There are those who generate ideas and make their entry and exit criteria clear from an intraday perspective (e.g., UpsideTrader and Mandelbrot at TwitterReality and fortune8 who uses a more Socratic method—complete with reinforcing visual aids of what a double bottom looks like—of teaching the method behind his entries and exits). And there are those who also make the most sense to listen to if you’re at your computer while the market’s open—again, UpsideTrader is one of the best.

So one of the new elements for my trading and following checklist is to classify the source of the ideas based on these characteristics; is the idea recognition of a trend that just hasn’t taken hold yet, or does it come with a source who gives a clear idea of when to get in or out?

Getting Clean on Tech

My other goal for the week was to close out my tech put positions as they moved into profitability. After spending a long time in the stratosphere (relative to where I thought it would be after the Steve Jobs announcement), Apple (AAPL) came back down to earth, and I eased out of those puts over two days for an overall 8.5% gain. Palm, which I had also averaged down on, went out Thursday for a 18% gain. These exits seemed to work out okay; both recovered Friday, so I might have been able to get a better day trade price, I’m happy to be sitting with the cash now.

Back into INTC

I’ve been watching INTC for some time. $14 a share didn’t seem sustainable, but $12.75 didn’t seem fair on the downside either. With an RSI below 30, it seems way oversold, so I finally bought some July 17 calls Thursday. The technicals don’t look that strong, and I may buy some more if they strengthen, but my goal with these small trades is to be satisfied with 10-15% gains.

The main reason I’m in it, and why I dumped my tech puts, is that from the last few weeks, tech has been surprisingly resilient in the face of all the bad news. Not quite immune, but poised to lead us out of this mess. I want to have a few quality longs in this space, since I see them as bellwethers and ways to profit quickly on any false bear rallies.

Tried My First Twitter Reality Recommendation

Picked the wrong one, but after seeing Mandelbrot’s record related to story stocks, I tried one experimental trade by buying AMED with a bid below the expected open on Thursday, catching it at 49, but getting out Friday at 48.60. In the past, I might have held this longer, but the conditions for those story stock trades is to get in and out on the same day, so I didn’t have any reason to hold longer than the extra morning. I may try this again, but only when I see futures being up and the stock recommendation hitting something I’m more familiar with.

SRS: Botched, or Not?

My cost basis on SRS is around $86; I’ve been selling premium on it for some time, and watched with glee as it climbed slowly back into the 80s. When it was in the 50s, I had sold some Feb $86 call premium at a fair price, thinking that if I got taken out, I’d at least have a couple of months of premium in exchange for the trade. On expiration day, SRS stood at around $82, and I considered buying back the calls to close to keep the shares. In retrospect, the right move might have been to buy back the premium and dump the shares entirely, since it closed at $72. I still haven’t decided yet whether to just write this one off, write some more premium, or let it play out as commercial real estate hits further pain points over the course of the year. Psychologically, I feel the need to make a profit. Classic irrationality. The shares are up 40% over the last couple of weeks; they make no sense to carry overnight at any time. Yet I keep doing it, rationalizing it by selling insane premium and bringing down my cost basis. There has to be a name for that. Reverse Martingale?

And the Big Winner: FAZ

As part of my foray into the financials, I started out with a buy of FAZ at $45 on February 6. Thursday it climbed to the $70s and I decided to take the money and run, selling at $71 for a 13-day, 57% win. Had I waited another day, I might have sold it at $81. The weird thing is that it must have sold after hours on Thursday—looking at Google Finance, it appears that it never really got to $71 during the day. Given that it closed after hours Friday at 70.99, I consider the exit okay. It could have just as easily gapped down Friday as up.

Who I Started Following this Week

I started following Michael Lazerow this week; I really enjoy his blog.

At the suggestion of @sorenmacbeth, I changed the tag line on these posts to reflect the real purpose—how an otherwise inexperienced retail investor can use StockTwits to make money. (Besides, I’ve maxed out the Google juice for the phrase “idiot retail investor”; maybe that’ll come in handy in the next retail investor bubble.)

This week’s trading didn’t turn out all that well, so I’ll cover that quickly and then dive into two other topics that I’ve been pondering: how I trade, and the whether averaging down works for me or not.

This Week In Failball

Going into this week I was way short, so I tried to get long financials prior to the stimulus hijinks. Unfortunately, that didn’t work out; my position in FAS was creamed (down about 30%), and my BAC calls are still underwater by about 30% even after averaging down. I also averaged down on both Best Buy (BBY) and Palm, two trades I expect to pay off well. I tried salvaging things on the financials by selling some premium, but was a day too late to get off some call premium on FAS and FAZ.

I’m still working on ideas for next week. My hold portfolio is all long (except for about 25% cash) so a bear rally next week doesn’t hurt too much, although there’s no denying that I was on the wrong side of a lot of financials this week.

The pain is no fun to talk about right now; I’m in denial. Let’s get to the good stuff.

How I Trade

I’ve mentioned before that the demands of my real job make it nearly impossible to day trade of follow the market on a daily basis. I tend to swing trade over the course of a few days or a few weeks, and sometimes over the course of a month or two. I focus on equity options, with a mix of equity positions. Over the past 5 months I’ve been primarily on the short side, although I have played AAPL, INTC, AMZN and DGP long trades. If I broke down the trades by dollar volume, it would probably be around 70% options (with about 15% index options), 15% equities and 15% ETFs.

On average, I’d estimate I’ve been putting in about 7-10 hours a week focused on the market and managing my trading portfolio. I typically start the night before by checking the stock futures on Bloomberg to help get a sense for what’s going on the next day. Next, I check after hours quotes on the stocks I’m following, as well as any new commentary that’s turned up on my StockTwits portfolio page. After that, I place my initial trades for the next day. Since the first 30 minutes and last 30 minutes of the trading day tend to be the time that market makers screw over the part-timers like me, I generally place my trades slightly outside the money, trying to snipe overreaction in sentiment one way or another. While this sometimes keeps me out of profitable trades, it also keeps me from some of the morning shenanigans. For the most part, this has worked in my favor.

The next morning about 90 minutes before market open, I take about 10 minutes to check the futures again and the pre-market quotes. About one in every ten or fifteen trades, I’ll adjust my bids/asks based on changes in conditions. That’s where I stand most of the day (on days I work) with occasional checks and adjustments over lunch or as time and schedule permits, occasionally checking my Twitter feed for any updates.

And the next night, it starts over again; hit my Twitter network, then the StockTwits main stream, then check in on the main blogs I follow for trading purposes:

• Howard Lindzon
• Upside Trader
• @mandelbrot’s Twitter Reality
• Buy on the Dip
• Brian Shannon’s alphatrends
• @fortune8’s Fade Me

There are about a dozen other blogs I kind of half follow (or catch up with on the weekends); but since I maybe have 30-45 minutes a night to review and get trades in, I can’t follow everything I want to (or should). Really, the crest of my Twitter network acts as the filter. Over the last 6 months I’ve come to see this as both a blessing and a curse. A blessing because I find good stuff I wouldn’t find otherwise; a curse because I tend to rely more on the network than on primary sources. And that costs.

So far, I haven’t set stops on my trades. Quite a few of my winning trades have been down 40% before turning around for gains. However, I think I can improve my return slightly with a couple of adjustments to this practice described below. The main reason I haven’t been setting stops is because of the extreme volatility; it seems like three times out of four, the trade will recover quite a bit from where I might typically set a stop. Because I can’t trade during the day, I almost always set an ask price outside the spread before the day begins and take it. I shoot for something in the range of a 10-20% gain, adjusting up and letting stocks run a bit if I have conviction. To a fault, I average down when I think my thesis is right but my timing is wrong. I talk about this a little more below.

And that’s it. I was lucky—really lucky— when I started in September in that I was making trades that represented about two to three units on AAPL and ran off a great streak that doubled my bankroll of sweep cash in short order. Believe it or not, I hit a streak of 15 winning trades right out of the gate (although some took a month or so to finally be closed out.) This came from a combination of tuning into AAPL’s volatility, going against Best Buy (BBY) per Lindzon’s blog posts and tweets, and trading a couple of other stocks I was already familiar with from my portfolio. I’ve come back down to earth since then, but I’m still doing okay, and tuning how I work.

I expect that a year from now I’ll have this workflow honed even further. Early on, I didn’t really have a notion of position size. Lacking discipline, I put too much at risk and lucked out in that it paid off. I didn’t pay much attention to beta-weighting or any kind of traditional balancing. If anything, I was successful because I took my trading account extremely short during an epic downturn primarily to hedge against my hold portfolio.

Workflow is important when you only have limited time. Since getting into digital photography several years back, and processing thousands of images, I’ve come to realize that when you’re learning, you go slowly and take many unnecessary steps and make unnecessary optimizations that just take time. With changing light conditions outdoors, you jack around with white balance on every shot, and adjust the unsharp mask on every shot. When learning, processing a series of 200 shots picking and finishing winners might have taken me 4 hours to complete. Yet after you’ve done a few thousand shots, you figure out what really matters and you can get through the same 200 shots in about 1/3rd to 1/4th of the time. I expect at some point, I’ll reach this with analysis. One key element will be always tuning the social filter.

Averaging Down

Last Sunday, fortune8 reminded me that averaging down is generally a bad idea unless you have a strong feel for an idea. Since I’ve started trading more actively over the past five months, I have enough data (113 trades) to see if that applies to me.

In the last 5 months, I’ve taken “initial positions” in securities 69 times, and averaged down on an initial position one or more times for 44 trades. Of those 43 trades, 21 turned out to be profitable, 12 turned out to lose, and 11 trades are still open. The net gain per trade on these trades is 9.69%. When I average down, 67% of the time I make money.

By way of comparison, overall I’ve made 113 trades with 66 winners, 26 losers and 21 trades still open with a net gain per trade of 7.86%. (For initial positions, I’m 45-14-10, with an net gain per trade of 7.38% with 76% wins.) Overall, that’s picking right 71.7% of the time.

Overall, I’m up a little over 6 “units” of my current average trade size. Until recently, I haven’t been that consistent on position size, in some cases going as high as 4 units, with most of the average-down trades on the order of 1/4th or 1/2 a unit.

Those numbers are eye-opening to me, even though I have no frame of reference. I think I saw that some systems assume that they pick right as little as 35% of the time, willing to take more losses to let bigger winners run (e.g., typical winner might be 2.5x the size of a single loss.) In theory, with such a system, you’d end up winning about 17% per trade over a course of trades.

The numbers I’m showing are about half of that in terms of return. And what comes to mind when I see that?

Poker. The classic amateur poker player is the one who’s the happiest guy at the table, pulling in the majority of the pots, winning almost every hand, frustrating other players as he sees each deal through to the river, grinding out low-return hands. And does that guy ever really win? No. The solid poker player lets the amateur harvest all those low return pots, content to sit back and play tight until it’s time to play loose and take the big pot.

Can I change my style and let my winners run? Is averaging down throwing money into a lost hand when you’re already beat?

At this point, I don’t think so. The data shows that for the most part, the primary difference between “initial” position trades and the “average down” trades is that the initial position trades tend to close out more quickly, and the average down trades tend to get more run. But in terms of success and return, there’s not a significant difference. In other words, for the most part, they should be thought of as independent events, even though psychologically, I tend to clump them all together, trying to “save the trade” as a single unit (e.g., referring to my “cost basis” rather than treating those as separate trades).

And maybe that’s the lesson: there’s no such thing as averaging down. Each trade is truly an independent event for a swing trader. Cost basis is interesting only for tax purposes. In trading, it’s simply a psychological construct that may inhibit appropriate decision making.

As I mentioned above, I go without stops and allow a lot of play when I have time. Based on the data above, I could probably improve my results slightly by setting a stop at something as crazy as 40%. Doing so would a) maintain my overall “initial position” winning percentage, b) cut my overall return slightly, but c) keep me “smaller” (as in too small to fail) by keeping me out of some of the long-running, large position trades. And in doing so, this might also allow me to get back to larger initial position sizes, which could make up for some of the loss in terms of actual trading units.

Focus on the Feel

The thing is: it’s not simple. Part of the reason I have so few trades is because I have such limited time. When I have a “feel” for a stock (e.g., AAPL and INTC), I can dial in and trade it with great success. Averaging down is a form of that, what I call “focus on the feel”. The areas where I’ve been killed have come from stocks outside the “feel” and in places where I shouldn’t have been. USO calls in the fall. The financials pretty much anytime. So cutting out the more profitable (but lower success rate) average down trades would be a bad thing if done on stocks for which I have a feel. But I could safely do so on stocks that are outside my comfort zone.

And this is all just a long way of partially agreeing with fortune8’s comment:

New People I’m Reading this Week

I haven’t done the StockTwits Saturday brunch yet, but thankfully we have @dakapbj’s great synopsis on Keep Unread.