Thursday, August 13, 2009

Finding Your Trading Sweet Spot

Van Tharp Institute
By D.R. Barton, Jr. of Van Tharp Institute

Finding Your Sweet Spot in Today's Market Environment

Click here for Dr Van Tharp's 2009 Trading Workshop Schedule

“The only man I know who behaves sensibly is my tailor; he takes my measurements anew each time he sees me. The rest go on with their old measurements and expect me to fit them." George Bernard Shaw

My son Josh is becoming a fine golfer. After playing for his high school team as a freshman, he’s continuing to improve. I expect him to break 80 regularly by the end of the fall.

Watching with admiration as he worked on his game, I have seen him develop two specific behaviors that are beneficial for trading as well. First he has begun to make really good on-course adjustments. If he starts pushing the ball right or tugging a little hook to the left, he is making the changes within a swing or two to split the fairway again.

Every good trader or investor has to make similar adjustments to their game in the markets. It doesn’t matter if you’re trading a purely mechanical system or a rule based discretionary system, or something in between. In any case, you need to make adjustments at prudent intervals as your trading systems provide you with feedback relating to the dynamics of the market environment. “Set it and forget it” systems are a myth; the markets are way too sophisticated for that approach to work.

The second thing that I see in Josh is his ability to consistently perform in certain situations. He is uncanny with putts from about 4 - 5 feet. He has developed a great instinct on draining those putts, which comes from many hours of practice. I know that when he gets in that situation he has a definite advantage.

In a similar way, certain strategies have distinct advantages in certain market situations. And right now, swing trading strategies are finding a definite advantage in the current market conditions.

In the hyper-volatile markets of last fall, many swing trading strategies had difficulty working well in the extreme volatility. Many of the best designed swing trading strategies gave fewer entry signals because the market conditions were less than optimal. Others had to be completely “switched off” when volatility reached almost 2x the highest levels ever seen before. At that time, day trading was the way to go as most intraday strategies feast on volatility.

On the flip side, extremely low volatility periods generally produce fewer opportunities for quality moves. In many swing strategies, these conditions also usually mean fewer quality signals. This happened in the June 2003 – January 2007 time frame, though there were several interspersed periods of moderately increased volatility.

Swing strategies typically thrive in moderate volatility climates like we have right now. Since mid-spring, volatility has been contracting and has produced an almost ideal climate for swing traders.

So what characterizes swing trading? Swing trading can be roughly defined as catching the “swings” in market price in a time frame that is between an overnight trade and 10 – 20 days (depending on who is doing the defining). In short, swing trading looks to catch swings within the larger time frame trend. This means that swing trading concentrates on intermediate trends or intermediate reactions against larger trends.

While swing trading happens to be in the market condition “sweet spot” right now, it is also one of the hottest developing areas of trading. The swing timeframe is growing more attractive to a large number of people for several reasons:

• Swing trading strategies can fit into almost anyone’s schedule. Screening can be done and orders can be placed or adjusted before or after market hours.

• Many consider swing trading to be the timeframe that provides the most efficient use of trading capital.

• Swing time frames can present many more opportunities than longer term trading.

• Transaction costs in swing trading are lower than day trading.

• There are swing trading styles for almost any type of trader: trend followers, breakout players, pullback traders, counter trend players, channel traders—the variety is almost endless.

I’m excited that the markets are cooperating so well with the timing of our swing trading workshop in September. I’ll be teaching Tactical Pro Swing Trading along with Christopher Castroviejo. We’ll show the tactics that he and I have developed and used in a combined 60+ years in the markets. We’ll be digging into mechanical strategies while adding some street smart savoir faire to the mix. We also have a great section on using options in the swing timeframe that can add a “power” tool to your systems toolbox.

Christopher and I will teach all of the key swing trading steps in detail at the workshop, but I’ll share a few with you here:

• Learning curves can be shortened but there’s no substitute for spending time studying the markets and the sectors with their individual characteristics. Make it your daily practice to look at charts of the broad indexes as well as the sectors and individual stocks that interest you. Every swing trader that I’ve talked to or modeled does these daily reviews with a disciplined zeal!

• Keep your stops with a ruthless determination. In every workshop we hear horror stories from traders who knew better but still violated this key rule of trading survival.

• Know the beliefs behind your trading strategy inside and out. The better you understand why your strategy has an edge, the better you’ll be able to extract profits from the market based on that edge.

In addition to the three day swing workshop, we are going to teach an optional fourth day specifically dedicated to band trading. These powerful methods are an excellent complement to the three days of swing strategies taught at the workshop.

For example, band trades are setting up very well right now. A quick glance at the chart of Nvidia (NVDA) below shows that it is following the broader market’s volatility contraction and that standard Bollinger Bands are containing the price action quite well.

Viewed as a broad 'style' of trading, band trading and the other swing systems we teach can be rewarding from several perspectives. For a lot of traders, swing trading fits into even the busiest schedules. Swing trading offers numerous opportunities to catch lots of moves that the longer-term players miss. It also helps you get out of the way of some of the more dangerous market moves.

Attend the Tactical Pro Swing Workshop and you’ll leave with the confidence to trade profitably at a whole new level.

We look forward to seeing you in September.

Great trading, D. R.

About D.R. Barton, Jr.: A passion for the systematic approach to the markets and lifelong love of teaching and learning have propelled D.R. Barton, Jr. to the top of the investment and trading arena. He is a regularly featured guest on both Report on Business TV, and WTOP News Radio in Washington, D.C., and has been a guest on Bloomberg Radio. His articles have appeared on and Financial Advisor magazine. You may contact D.R. at the Van Tharp Institute