The Traders Journal

Tensile Trading: Stage #7 Strategic Profitable Buying versus Impulsive Expressive Buying

CarWhen I go to the Barrett-Jackson car auction in Scottsdale each year, I get literally glassy-eyed.  Just too many cars I want to buy.  But usually, I’m jarred back into reality by the acknowledgement that I ran out of garage space long ago.  I’ve known stock market investors who get this way, too, but fail to admit that “mental” garage space might impose any sort of limitation.  For them, buying equities is a joyful impulsive expression of their wealth.  They park dozens – or even hundreds – of equities in their portfolio just like the curator of a gigantic auto museum. 

I submit to you that if you wish to exercise your joyful impulsive side and express your wealth, buy cars not equities.  If you want to buy equities instead and want to do it profitably, read on.

When I’m feeling impulsive and about to buy a new car, I pull out my checkbook and glance over the balances.  Similarly, when I’m about to buy a new equity, I pull out my “buying book” which has only 12 checks in it.  Let me explain those 12 checks.

 


 

 

  1. The first step I always take is to quickly roll through my “Permission to Buy” charts.  This forces me to look at present market Trends, Allocations (whether the market is favoring Big, Mid or Small caps, growth or value, inter-market relationships), Breadth and Volatility, Sectors and Industries.  Its role is exactly how it’s titled.  If the market does not offer me permission to buy, then the finger comes off the trigger.
  2. The benefit of the previous step is that you know which sector is performing the best and within that sector, which industries are on the receiving end of institutional love.  If the big money is flowing into an industry, that is where you should be looking.  Within the best sector, you find the strongest industry and then generate a list of the best-of-the-best equities in that particular industry, thereby coming up with your candidates to purchase.
  3. Among the list of candidates at this stage (be they ETFs, equities or mutual funds), I dig into comparing costs, historical distribution dates, upcoming earnings announcement dates and historical seasonality trends.  Yes, I’m a chartist, but buying a mutual fund the week before an historical distribution date can be suicidal.  I had a student once who purchased FMAGX on May 2, 2006.  On May 5th, the new manager of Fidelity Magellan issued a distribution as a result of selling the previous manager’s stock positions.  The poor student received back $22.36 per share of his own money and suddenly had to pay a hefty capital gains tax on FMAGX shares which he’d owned for only 3 days.  Costs, earnings dates and seasonality all have similar stories.
  4. The next check is to look at whether the candidate stacks up appropriately against my “Battle V” methodology:
    • B  =  Breakout in Price.  Has there been a price breakout?
    • A  =  Accumulation.  Is the stock showing accumulation?
    • T  =  Technicals.  Are there positive technicals?
    • T   =  Trend.  Is the trend positive in the markets, the sector & the industry?
    • L   =  Leadership.  Strong relative strength stocks are the best of the breed.
    • E  =  Earnings per share.  Is the company’s EPS growing?
    • V  =  Volume.  Big volume indicates demand.
  5. If my candidate has made it through the previous gates, I then explore how it would fit within my trading plan’s boundaries.  This check is from a strategic perspective – asking questions such as how this allocation would fit within my present allocation, how much I should buy, and for which accounts.  If it makes sense strategically, we move forward.
  6. Now we’re getting excited!  And because of that excitement, this is where we must exercise discipline.  I never jump into a position with 100% of my allocation.  I pyramid in by buying a percentage and letting the market prove me right before buying a second position.  I never allow myself to buy a second position for less than my first.  Over the years, it’s a discipline that’s shown itself to reduce risks and lock in profits.
  7. Market wizards will tell you that a significant portion of their mastery results from the understanding and implementation of their personal written money management rules.  This is where I coordinate my buying with my own money management rules.
  8. Before I pull the trigger, I want to know where my exit is.  I formulate both bullish and bearish scenarios for the equity so that I am emotionally prepared for whatever the market serves up.  My stops are entered on my own matrix – not with the broker’s – but they are entered before I execute my buy order.
  9. The mechanics of the buy involve reviewing daily bid ask spreads, using minute-to-minute charts and time-of-day plus day-of-the-week factors.  Multiple monitors and live data are essential here.
  10. Now you talk to the market.  What language will you use?   I find little cheat sheets are helpful that outline the accounts, passwords, number of shares per account and specific order entry instructions, such as limit order price timed as fill or kill.  The language is not complicated, but if all you know to say is “market order”, you’ll be costing yourself serious profits.
  11. Stay calm, be steady, pull the trigger.  They call it execution for a reason!  In your case, make sure the execution is referring to the preciseness of your equity purchase and not your own martyrdom.  I like to track executions by the brokerages closely.  Without upsetting anyone, all brokerage houses are not created equal.  Trial and error will determine which performs best for you.
  12. As soon as the markets close, I deploy my “sisters” strategy and assemble the appropriate chartlist.  For example, if I bought JNJ (Johnson & Johnson), the list would include XLV (the healthcare sector), $DJUSPR (the pharmaceuticals industry group) as well as ABT (Abbott), BMY (Bristol Myers), MRK (Merck).  I would seldom look at just a single price chart of JNJ.  I look at charts I’ve laid out that show me how JNJ is performing not just relative to the market but relative to its sector, its industry group and its sister stocks.

The bottom line here is that glassy-eyed impulsive behavior may have a place at the Barrett-Jackson car auction, but it has no place in your investing.  This behavior is not appropriate for you as an investor.  In your previous life, you might have already purchased your entire portfolio by now.  But contrast that former impulsivity to your new life as a Tensile Trading investor.  You’ve built a solid foundation based upon the first 6 stages, and now your equity purchases will be empowered and endowed with much higher probabilities of making money for you and of growing your assets.

Trade well; trade with discipline!
-- Gatis Roze

 

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Can you recommend a sensible rule for determining how often you should sell short versus buy in attempting to maximisee after tax returns.
Michael, Thanks for your interest in my blog. With respect to short/long trades, I personally choose not to go short any longer simply because financially I don’t need to and I hate the mental bearishness and baggage that goes along with it hence I am not the one to ask about these sorts of trades.I’m either bullish or out in cash.I will also tell you that I’ve found trading with an eye on taxes and short or long term gains is a can of worms. If the chart says sell… listen to the market not the tax man. Cheers,Gatis Roze
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