Tuesday, October 31, 2006

Information Overload

Do you ever feel overwhelmed by the sheer amount of information you have to process in your work day, or to be more specific, in the information you must process to determine your investment and trading decisions? As the pace of change continues to accelerate, and as market volatility perceptibly increases over time, I personally feel an internal nagging that I'm missing something. I'm not quite sure what it is, but I'm afraid I'm missing it - whatever "it" is. In my job guiding fellow investors and traders, I suppose for me it's the fear of missing the next big move in the markets. But I know that this fear is omnipresent, and decisions must be made with less than perfect information. My goal here today is to suggest some strategies to get back to the basic priorities that can help convert data into knowledge, while proactively cutting away the chaff that we cling to which really is just clouding our vision and focus.

It seems that the core problem is an increasing supply of information coming at us, without a defined set of filters to sort out the hidden nuggets of wisdom from the majority of data that serves to muddy up our thinking. The explosion of the Internet has put more data at our fingertips in a day than prior generations could access in a lifetime. But we must define the quality of the information we receive and not be consumed by the quantity.

Here are several core ideas for Proactive Strategies:

1) Preparation before entering a market in motion is critical. By doing your homework and creating a focus list of 5-7 names you will trade at a maximum (why do you think phone numbers are capped at seven digits?), you can come in to each trading day with a plan. While news may change during the trading day, I personally seek to let the market or stock reaction to news tell the tale of whether I should enter, hold or exit a position. By trading what you see in a stock's price action, this is the reality of whether buyers or sellers are winning the war, regardless of extraneous news. The last thing I want to do is come in unprepared and then be reacting to various news headlines without an understanding of the underlying structure of a stock or market.

2) What filters are effective at tightening your focus on the best or worst stocks? I have to give credit to Bill O'Neil at Investors Business Daily for two of the best filters: relative strength and volume filters. Relative strength gets the trader focused on the top longs and shorts to then apply other filters like volume to further narrow the focus on the most attractive situations. IBD shows you the top stocks according to their Relative Strength system, and this excellent paper also shows stocks breaking out on higher-than-average volume. In a database of roughly 2000 stocks I follow, if I focus on the top 1% of stocks for potential buys, that immediately narrows my buy list to 20 stocks. Further examination typically culls that list to less than 10 stocks.

3) Look past the traditional sources of market analysis to get a more focused view of outperformers and underperformers. For example, if I looked for every stochastics crossover each day, I would be faced with hundreds of stocks to sort through in my database. But if I instead search for stocks which are staying overbought over 80% or staying oversold under 20%, I get a more focused list of select situations where these stocks are trending longer and stronger, up or down, than most traders would expect.

4) Get organized. It's a fact that the more clutter you have around your workspace, the more stress you will feel from projects that are literally calling for your attention. This is called "subliminal screaming" and it will not help your trading focus. Get your open projects filed in order you will address them outside of the defined hours you will trade.

5) Boil down your indicators to truly value-added methods. If you're looking at both stochastics and the Relative Strength Index (RSI), you're really looking at the same overbought and oversold methods twice and should seek to eliminate one of the overlapping techniques. In contrast, volume indicators can add value to a traditional price-based indicator, since it offers a new piece of information to most price-following methods.

I suppose I could go on with other ideas to help you manage information overload, but then I'd be overloading you with too much information, right?! The bottom line is you should seek to boil down your indicators and sources of information to those that help you perform in a simple and effective fashion.

Good day and good trading!