Quote for the coming week.

This weeks trading related quote for the week:

“Never let the fear of striking out keep you from playing the game!” - Babe Ruth.

 Past Quotes for the Week.
 "Predicting rain does n't count, building arks does." - Warren Buffet’s Noah Rule.

• “Everybody gets what they want out of the market" - Ed Seykota.
• “In Sales, There Are No Rules and You Have to Know Them All”
• “It is not the mountain we conquer but ourselves.” - Sir Edmund Hillary.

We're for ever blowing bubbles. - Apple

'I'm forever blowing bubbles' is a song written in the 1918, that became a staple of big bands and major singers in the 1920s, these days it is more closely associated with the perennial under-achieving but always exciting East London Football (Soccer) Club West Ham United. - The title of this post 'We're forever blowing bubbles' is a slight variation on the name of this song, and refers to the nature of financial markets throughout history, which time and again seems to forever throw up new bubbles, and seemingly with greater regularity these days than ever.

Below is a set of graphs showing some historic bubbles through time, together with some more recent familiar bubbles, together with one final chart of Apple shares and a great big question mark.

Finally - As a favour to my many long-suffering friends who follow the Hammers (West Ham United); something for you:

EURUSD - Not a Head & Shoulders Pattern

This is NOT a Head & Shoulders Pattern.

Nor is this:

Yesterday I was sent some research from a Tier 1 investment bank that went as follows:

EURUSD: Breached the head and shoulders neckline at 1.3037 and is also threatening to take out important support at 1.3004 (breached intraday already). A close below 1.3004 would confirm this bearish break and suggest a move down to the 1.25 area. 

Many years ago, I worked with a brilliant Technical Analyst who would react with fury on an almost daily basis to traders coming up to her telling her that they had found a Head & Shoulders pattern and had loaded up a position on the back of it.  When she looked into the pattern she would advise them that in nearly all cases these were not H&S patterns, and that their rationale for the position was incorrect, in most cases she was proved right. The biggest mistake she would point out was the Head & Shoulders patterns are ‘End of Trend’ patterns, they occur in the wake of a significant trend, and are usually relative in size to that trend. (There are of course other qualifying criteria this article here covers this nicely).

I was I admit quite surprised to see this investment bank sending out a report with such a basic error in it. – I do not dispute the overall bearish nature of the EURUSD at present, however the tendency to look for patterns in markets to supports one’s view rather than observing price action and data objectively are fundamental analytical flaws, more generally known as ‘confirmation bias’, it is also lazy analysis. 

I am not being pedantic here (ok maybe I am slightly), but from my experience mis-labeling of patterns can create a false sense of confidence. I do not disagree with the fundamental premise of the analysis, a close below 1.3004 would be bearish, however the readers attention would have been drawn to the initial comment about the neckline of the Head & Shoulder being broken, this may have led them to false conclusions more so than the qualifying comment which followed it. 

 

To finish I would like to present some good examples of Head & Shoulders patterns: The chart below shows the SP500 over the past few years, with three major ‘Head & Shoulders Patterns’, two successful and one failed. – The two successful ones proved spectacularly effective at signalling sharp moves ahead, the other one not so, however even failed patterns can prove useful, in that their failure can often signify that the prior trend is likely to re-assert itself. And note how the failed pattern itself ended in a perfect inverted Head & Shoulder Pattern.

When Head & Shoulders patterns work they can be spectacularly successful signals for market direction, however the world is littered with failed traders who spent too much time looking for patterns which aren’t or weren’t really there.

USDJPY call may be a failure.

My recent call for further significant further upside for USDJPY, based off purely some technical aspects, appears to be on serious life-support, after moves of the past few days.

The original call with charts was here. It called for some consolidation over a few weeks around the 95 week moving average (I have used 470 day as a proxy on chart below), ideally however it would remain above the 95 week on a weekly closing basis. Although, the close below the 95 week SMA was only marginal at this stage, in none of the previous 4 examples of this did it close back below the line on a weekly basis.  If it is to return back to the recent highs, and move higher, it needs to make a move and a big one this week, currently I would say there is a high risk that this call turns out as a failure.

Quote for the week - 16 April - 22 April

“Everybody gets what they want out of the market" - Ed Seykota.

A look at EURAUD FX.

This currency pair has been one of the more interesting trading currency pairs in recent times, with plenty of movement, direction, and liquidity. A few weeks ago it made a breakout of a daily basing pattern, this week it has retested the breakout of this pattern, and bigger picture it resides close to some potentially key pivotal points. - At present this makes it in my opinion a relatively cheap option to get long, however there are a number of forces at work both macro and technical which have the ability to push the market either way.

The first chart I will look at is the spread of short-term rates, both nominal and inflation adjusted, on AUD and EURO. The rate differential between these two has been a favourable argument for being long AUD versus the EUR in recent years, currently the pick-up in carry is 3.25% in favour of the AUD. This is a powerful incentive to favour holding AUD, Looking at the charts below, which shows this in negative terms, in order to match the quote terms of the currency pair, and comparing these spreads to the charts, it is easy to see how this aspect has heavily influenced this pair for some time. - However, it also appears that the last move lower in recent months is a bit of a discrepancy in this relationship. I would also like to add that there seems a high possibility that the spread may start to move higher soon, both nominally and inflation adjusted, RMDfx has posted a good article highlighting the risk of this, which can be seen here. Whilst the EURO debt crisis has the ability to unhinge the EUR, as per yesterday's post (See here) the EUR continues to show resilience.

Looking at the technical picture, a couple of things jump out at me:

The monthly chart above shows a potential bullish 'Morning Star' type pattern over the past few months, though follow though this month would be needed to keep this alive. 

On the weekly picture, there seems to be a number of potentially bearish developments, but also a potentially bullish pattern, which highlights the current pivotal nature of price action. The chart below shows the weekly picture. I have highlighted the major descending trend-line, this recently capped the move higher in the currency pair, and also the consolidation band through last year, which acted as significant resistance on the recent rally. The recent rally has also highlighted a potential 'Bearish descending scallop pattern, (I have included an example of this below), however this could also be a Bullish ' Rounded-Bottom' basing pattern. (example of this below also).

Finally looking at the daily chart (See below). - The current pullback has also extended to some key pivotal areas: Noticeably the peak in February at 1.2618 which once broken then became support, the 28.2% retrace of the February to March rally at 1.2613 and what appears to be an approximate rising trend channel base, though this is still not mature enough to confirm as a true trend channel in my humble opinion.

Summing up: I believe this may soon start to continue its recent upside move at some point soon, however the caveat for me is to not make a meaningful break below 1.2600 as there remain some strong bearish pressures still, I believe a negative breakdown through 1.2600 may bring these back into play. - On a risk/reward basis, I believe makes the long trade here a relatively cheap trading strategy, if one considers using a relatively tight stop below 1.2600. - Te upside may struggle as it runs into resistance, but a break above 1.2910 recent high, could propel this much higher, particularly if the RBA soon take a more dovish stance.

EURUSD v Debt crisis

Over the past couple of weeks, with the latest leg of the on-going European Debt crisis hotting up, I have heard from a number of traders telling me that the EURUSD is about to collapse, a view which I must admit I have had some sympathy to. However, despite the market throwing the proverbial kitchen sink at the troubled Euro, it has once again seemed to defy the wishes of many and shown remarkable resilience.

I decided to see whether there has been a decent visible' correlation between heightened European Debt fears or not over the past year.  The chart below, shows the EURUSD (top), versus Spanish 10 Year government bond yields (bottom). - What seems apparent is a lack of any visible correlation between panics on Spanish debt (yields rising) and the value of the EUR versus the USD over the past year. -  During the summer panic the EURUSD remained sidelined in the low 1.40s, during the October - December Panic the EURUSD started and finished in the low 1.30s, but did spike up to over 1.4000. It would seem that the damage to the EURUSD tends if anything to follow in the wake of action taken to allay the panic. The current panic, whether it is over or not, does seem to be following along similar lines so far, with the currency remaining resilient just above 1.3000.

How do you see yourself as a trader?

SP500 - Behavioural pattern similarity suggest this may be consolidation period.

A  few weeks ago I highlighted a pattern of behaviour which may be occurring on the weekly SP500 which appeared similar to price action which had occurred a number of times in recent years. (That post can be seen here as part of a larger posting). So far it seems to be playing out in a very similar way. The chart  shows this (You may need to click on the chart to see the wording more clearly).

As usual I always offer the caveat that forecasting anything in the financial markets is fraught with danger, and there are no guarantees that current price action will repeat or resemble previous action, also that any number of possible other scenarios could be unfolding, particularly in light of last weeks large 'Bearish Engulfing Weekly candle'.

Quote for the week.

"In trading, there are no rules, and you have to know them all."

Following the trading herd - Candid Camera show us how its done.

I was going to write a short article about traders and investors 'following the herd', and 'causing trends'. - But then I thought 'If a picture's worth a thousand words how much is a video clip worth'. - Over to a classic candid camera clip:

Keynes, His Beauty Contest, and How Mental Models Help Reduce Trading and Investing Complexity.

It does not matter what the analysis, fundamental news or evidence suggests, in the short-term, it is always the weight of buyers and sellers, and their positioning, that determines where markets head.

One person who understood this perfectly well, but only after struggling in the markets for a few years, was John Maynard Keynes.

Keynes realised that markets rarely conform to what appear to be ‘the facts’, but rather it is human emotions that drive markets.

He used the term "animal spirits" to describe how human emotions drives crowd behaviour and markets.

Keynes the failed but ultimately successful fund manager

Keynes' own experiences as an investor were a key factor in helping him come to these conclusions.

He had been responsible for managing the endowment fund of King's College at Cambridge.

His early experiences as a 'fund manger' were less than impressive.

From 1924 to 1932 he only marginally outperformed the under-performing UK stock market.

This was despite Keynes being the most informed person on the entire planet on anything and everything macro-economic.

Post-1932 however, Keynes's investment record was a different story.

The table below is reproduced from a Wall Street Journal article



Keynes the first Value Investor!!

From 1933 onward, Keynes abandoned his practice of looking at the big macro factors to help determine value.

It was during this time that Keynes became the pioneer of what was to become known as 'Value Investing'.

He had come to believe that truth based on objective assessment of data, was less important than trying to understand what 'moved' people to value an asset.

If he could understand people's motivations for valuing an asset, then he could improve how he picks stocks.

Keynes thus adopted a bottom-up ‘value’ approach to stock selection, though of of course macro-economic top-down was always improtant context. - In effect Keynes became the world's first 'value investor'.

The Keynesian Beauty Contest

To help describe his approach, Keynes came up with the concept of the 'Keynesian Beauty Contest'.

Keynes compared selecting investments to the way people made choices in newspaper beauty contests.

These contests involved Newspapers publishing photos of hundreds of beautiful women.

They would then ask readers to send in their opinions of which women were the most beautiful.

The reader whose choices most closely matched the six most popularly selected women, would win a prize.

Keynes wrote:

“It is not a case of choosing those (faces) which, to the best of one’s judgment, are really the prettiest, nor even those which average opinions genuinely thinks the prettiest. We have reached the third degree where we devote our intelligences to anticipating what average opinion expects the average opinion to be."

In other words, you could win the context if you could correctly guess what every one else thought, not what you alone thought.

Keynes 'Beauty Contest' concept was in effect a mental model.

Financial Markets as Complex Systems.

You can have the greatest brain and best information in the world, but the most important thing is understanding how markets work, then creating models which helps you monetise that.

The early investing experiences of Keynes demonstrated this. In effect, his Keynsian Beauty Contest concept was a 'mental model' that Keynes had created.

Mental models help one to make sense of the world, they enable us to reduce complexity and filter out noise.

All our perceptions are based on mental models. What we see through our eyes is not an actual representation of reality, but a filtered version.

It is all too easy confuse more knowledge with better knowledge. This is the fallacy which leads many people to think they can predict what will happen next. 

It is unnerving for many who enter the field of trading and investment to think it is not a science but an art. It's underpinning's may be scientific, but prediction and trading are very much an art. This is we talk about great traders being masters of the best guess.

Two centuries earlier, another British academic giant, whose status dwarfs even that of Keynes, was to suffer a more dramatic fate.

Isaac Newton having lost almost his entire fortune in the South Sea bubble, is reported to have said, 'I can calculate the motion of heavenly bodies, but not the madness of people'.

Article by Steven Goldstein

Steven Goldstein is a Performance, Team and Executive Coach who focuses on helping improve the 'mindset' aspects of Risk and Financial Markets' people and businesses.

Core to Steven's work is the belief that everyone has the potential, often latent or hidden within them, to surpass where they are and to grow into what they want to be. He views trading as two concurrent battles, one a person has with the markets and one they have with their self. To succeed a person must win both. As a coach, Steven works predominantly on helping his clients win the battle with their self.  

Prior to becoming a coach Steven worked for more than 20 years as a Rates and FX trader at some of the world’s leading investment banks. See Steven's Full Profile.

If you are curious about how Steven could help you or your business, please email him at info@alpharcubed.com. or call +44 (0)7753 446097. 

To know more about the work of AlphaRCubed and their broader performance and growth development services, please view their brochure at this link, or by clicking on the advert below. 

About AlphaMind

AlphaMind is a joint venture between AlphaRCubed and the Mark Randall Consultancy which seeks to help people develop and cultivate optimum mindsets (An Alpha Mindset) for trading and investing success. We offer workshops, group development programmes, and one-to-one coaching to people and individuals in Financial & Commodity Markets

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EURUSD – Update: This week could be a key turning point.

Yesterday’s FOMC release was the catalyst for a sharp fall in the EURUSD, taking it down from a day’s high of 1.3368 to a low of 1.3213. However there is a possibility that yesterday's move carries greater significance longer-term, and could be the early stages of a more significant turning point in the EURUSD towards a more bearish trend.  

Two weeks ago I posted a rather speculative article (what article is not speculative when forecasting markets!) about the EURUSD which I termed ‘Clash of the wedges’ (this can be seen here).  This article favoured a move towards 1.34/35 which would then be a pivotal zone, with the favoured move back lower from there, and possibly much lower if it could start breakin through 1.3000.  

This update adds the weekly chart of the EURUSD to the previous analysis. As you can see this has made a rejection of the upper line of the major EURUSD downtrend in the past week.  I feel that the scenario is starting to favour the downside again, in fact it seems that the fundamental and technical picture may be starting to align - bearishly. A clear break through the recent low at 1.3134 would increase the odds this process is underway, with a meaningful break through 1.3000 hinting at much lower levels over the medium term. The alternate view for upside potential is not completely written-off yet, but I feel that the tide is turning strongly against this option, which would require a solid break through the upper trend-line at 1.3380 to bring this back into play. 

Sunk-cost Fallacy : Distorting your objectivity.

 The 'sunk-cost fallacy' is best summed up by the phrase "throwing good money after bad". It is one of those biases which have their root in people’s aversion to losses, and like all these distortions in thinking and judgment, exists just below the level of our consciousness, setting a ‘trading trap’ with the ability to seriously undermine one's performance.

‘Sunk-costs’ are typically unrecoverable costs: In a trading and investment sense they are only unrecoverable when a position is closed out or an investment disposed of. However, this ignores the many other aspects of trading, investment in emotional capital or a particular belief about a market, time invested, cost of running a position (funding/liquidity), and opportunity cost. However, it is often the emotional investment we have put into these which can cause us to avoid closing out/cutting a position.

From a practical perspective how does the ‘Sunk-cost fallacy’ impact traders and investors?

Assume that you own a stock in the belief that it would go significantly higher over a period of a few weeks. Unfortunately, a few weeks later the stock is slightly lower. You have done your homework, you trust your own ability, and all the news since has convinced you more than ever that this is going higher. Thus to back-up your conviction you decide to buy some more. A few more weeks pass and the price is lower again, meanwhile the rest of the market has rallied strongly. At this point on a revaluation basis you are losing money, also you have suffered an opportunity cost against other stocks, you have suffered a time-cost in running the position, and significantly an emotional cost in your ‘emotional capital’ invested in this position and your view. – To close the position now would not only crystallize a loss, but in your mind it would also feel like time, effort and energy totally wasted. – This is where the trap lies, instead of cutting-out, you decide to continue with the position in the hope it will turn around, based purely on how much time, effort and energy you have already put into this for no return or a loss. - What you did however was to base your decision on the effort and resources you have put into the trade, rather than an objective future outlook. Re-stating this another way; your future outlook for this trade is based on what your currently feel about the effort and resources you have put into the trade, and not a clearly thought out perspective of the trade and the market.

As with many behavioural biases, the ‘sunk-cost fallacy’ is really the result of combination of other biases. In all cases ‘loss aversion’ will be a factor, as will the ‘endowment effect’, other factors also affecting individuals could be over-confidence, over-optimism, and 'cognitive dissonance'.

How can one combat the ‘Sunk-cost fallacy’?



This is the tough part; the causes which lead to the beliefs and behaviours which we term behavioural biases are human traits which are part of our make-up, they have helped us thrive as a species, and in many cases helped us at times as individuals. Further to this they typically reside in the sub-conscious and thus are part of our non-conscious decision making and behaviour. Nonetheless, there will be times when they are highly detrimental to our thinking and decision making, particularly in the unnatural environment of the financial markets. Identifying and recognizing when you are succumbing to the pull of biases and irrational and self-defeating behaviours is incredibly difficult,. Traders should however try and develop their ability to be on the lookout for these biases, and an aptitude for reflection and introspection is an extremely useful tool to develop. Keeping a trading journal or diary is one step you could take to help you hone this ability. Traders should also try to question their actions thus allowing a more objective assessment. Discipline and planning are of course great allies; had the investor, in the above example, written out a plan pre-committing to a certain course of action and with various what-if scenarios, he may have had a rough blueprint to guide his actions and thinking. Finally a rule base or at minimum guidelines can keep you out of trouble, this is always a slight conundrum for traders and investors, because too much rigidity stifles creativity and intuition, however good traders develop a sense of when to act in a certain way and when to adhere to their rules/guidelines.

USDJPY FX Update - Big Picture Update

USDJPY continues to consolidate just above the 95 week moving average. Previous posts (See initial post here) have highlighted how on the 4 previous occasions in the past nearly 3 decades that USDJPY has broken up above the 95 week simple moving average, it made significant further gains in the ensuing months. 

 

In all cases a consolidation first occurred around the break lasting around 4/5 weeks before the larger rally started to occur. - The current consolidation which started around a week before first breaking through the SMA has now filled this consolidation criteria pretty much (See charts below), which may mean we are close to further significant gains in the weeks/months ahead. However I still would not rule out some further choppy action with a possible re-test of this 95 week simple moving average in the mid 81s.(Particularly as I still favour some consolidation over the next few weeks on the S&P, with a possible test into the 1370s, before further likely gains), 

 

I always have a caveat, and that is that previous performance is no guarantee of repeat behaviour. My stop on this would be a meaningful break back below 80.