A better way to think about bear markets
The beauty of long bear and sideways market periods is that they are almost always followed by long rising market periods. The majority of the time, the longer and stronger the bear market, the longer and stronger the bull market that follows. This is how consistently successful traders think. Winning, whether it be in the markets or elsewhere, is a state of mind, as is losing. Winners see down market periods as impending opportunity. Losers put a significant amount of focus on the monetary drawdown that they suffer during down market periods and are blinded to the imminent opportunity. Often they withdraw their funds and miss the complete upturn performance when the market takes off again.
So, look upon a bear market as an opportunity—the opportunity for the market to catch its breath and to set up for the next rising market. See the lead up period to the next rising market as the period in which trades will be signalled that will take your portfolio out of drawdown and recapture what may have been lost during the drawdown period.
The mechanical methodologies that I have traded and continue to research show that every drawdown period has been followed by a new equity peak, thereby making a new equity peak a high probability outcome. By thinking from the market’s perspective, you think in probabilities, which means that you think in terms of your edge and the drawdown trading statistics will revert to the mean of the long term researched statistics of the edge. Then you should be able to consistently execute the processes of your edge without reservation or hesitation, believing that anything can happen and that you do not need to know when the next bear market will be or how long it will last.
Summary
Is this the only way to train yourself to become a successful trader?
Probably not.
But it is a high percentage approach that, if completed, will result in a high success rate of people who complete it because people change who they are. You become a trader rather than a market observer, a chart reader or just an analyst. Broking firms employ chart readers and analysts who are very good at their job, but they are not traders—there is a massive difference between the two.
If you want to join the discretionary ranks from the very beginning, in an attempt to become a successful trader without using a mechanical system to assist with retraining your mind, you may come out the other end as a successful trader but the probabilities are much lower and the failure rate is much higher.
Those who embark on the discretionary pathway do so mostly because they are ignorant of another way and don’t understand how their mind works or they have a large ego that urges them to take the most difficult pathway. Their big ego will take care of the outcome all on its own.
Life is a percentage game as are all sports and games that human beings play. Follow the high percentage route and resist the high ego route. Play the par five like a par five and you will, over a large sample, have a better average score than the big ego hitter that tries to play the par five like a par four and birdie it every time.
But at the end of the day, your subconscious is not tested until you play the game with your money.
While I think the theoretical or psychological aspects of trading are important, may I suggest a practical approach under the heading: how our SPA3 system beat the buy and hold investors for the following stocks over the last 5 years: BHP RIO CBA Woodside WOW westfarmers ANZ WBC NAG TLS. During this rollercoaster period there surely must have been a number of buy and sell signals for these big stocks, and if you can demonstrate that even super conservative investors who would never invest outside the top 100 ASZ stocks would have done better following you Garry then you would be able to tap into a pretty large market
Yours truly
Fred Kroyherr
If a mechanical trading system is able to increase equity in all market conditions including sideways and bear markets, and not just trending bull markets, then it wouldn’t matter what direction the market is moving. This could be achieved by using negatively correlated and diversified trading strategies such as trend following combined with mean reversion for both long and short trades (or inverse trading instruments).
Response to Comment by bg:
Very difficult to achieve. You have just described the holy grail of mechanical trading and would require a lot more than just one mechanical system and systems that trade instruments that the great majority of investors wouldn’t understand, let alone trade.
We’re working on it, at least with instruments that are in reach of most retail investors that don’t take hours a day to trade.
Regards
Gary
In response to Roger.
” “When things go against you”, you state that “down markets are a necessary part of market behaviour in the future and just as tradable as low market risk periods.” “
Where does Gary’s Blog posting state “….in the future and just as tradable as low market risk periods.”?
The point made in the Blog is that the mindset of a winner differs dramatically to that of a loser. The statement “winners see down markets as impending opportunity” does not mean that there is necessarily opportunity to make money on the downside rather a winners mindset allows a belief of impending opportunity. A losers mindset focuses on the outcomes associated with a downward market, an unfortunate but natural occurrence when trading the market.
So a down market may not necessarily be tradable and if so may not even be profitable, but there is an extremely high probability of it being followed by a new high. This is the opportunity. The unknown is, when will the down market end and the opportunity begin.
In response to Fred Kroyherr:
Yes Fred – for the 5 years to 30 June ’10 there WERE a number of SPA3 Buy and Sell signals for the 10 stocks you nominate. Ignoring both pyramid and lighten signals for already open positions, there was somewhere in the order of 76 completed trades. But to try and use SPA3 limited only to only the top 100 (or less) of the ASX would be somewhat myopic at best. The reason is that this is completely contrary to what SPA3 was designed and developed to do (square peg and round hole stuff), and you would only end up significantly under-achieving the researched and back-tested SPA3 “edge” if you were to take this path.
I’ve taken a look what sort of returns I’d have gotten over the past 5 years if, starting with $100,000 initial capital and allocating $10k across each of Fred’s Top 10, I were to:
a) buy and hold for the period,
b) apply SPA3 to just Fred’s Top 10, and/or
c) apply SPA3 across the breadth of the market the way it is prescribed.
The overall return results (excluding dividends and interest) were as follows:
a) +25% over that particular 5-year period;
b) +18.1%;
c) +92% (which is the results of a publicly traded SPA3 portfolio).
Kind of a ‘no brainer’, you might say.
Super conservative investors who choose to never invest outside the top 100 ASX stocks, tend to reap the sorts of reward levels that go with that risk/reward set. Nothing wrong with that. But looking to employ the likes of SPA3 in a very very shackled way (ie limited to the Top ‘x’ty or 100) isn’t, I suspect, going to wring out better reward for the conservative risk parameters that you’ve chosen to adopt. In fact, maybe even on the contrary, as indicated by the results for a) and b) above.
Cheers,
Dave Moran