Integrating Technical, Fundamental, and Psychological Factors

Discussion in 'Strategy Building' started by BinaryMan, Jul 2, 2008.

  1. It's been a couple years since I've been on this forum, and in that time I have seen many things and hopefully gained some wisdom. I would like to share some of my thoughts today. I'm not concerned with being "right", but rather having a more effective perspective of the markets. Perhaps something here can help you in your quest to be a better trader?


    1. I started programming and researching automated trading systems, ECNs, etc. when I was 12. I am now 25 and have yet to find a profitable method of daytrading (or raise $30000 to qualify for daytrading, but I run simulations); in testing many strategies and data methodologies I began to see some patterns. I've gotten quite a bit of data from free sources, although I know that other people have huge databases of high-resolution tick data. Disclaimer: Some people make money doing daytrading, but as far as I know most don't. Let's not argue over it; if you're making money doing it, you don't need most of this advice after all.

    2. Regarding optimal timeframe, what I have seen is that daytrading in general is too sensitive to transactional costs and noise; the ratio of the net trend vs. the noise is unfavorable here, with too many false starts and market maker manipulation (they have to make money too I guess). There is also risk due to long-term traders overcoming short-term traders (i.e., when actual net market movement in a direction occurs). I hear many complaints about execution problems and related problems, but slipage and execution aren't as important with longer time frames (because the magnitude of the trading range is higher).

    Consider: Unless you are doing a complex option play, you normally make money when the market moves in the direction you predict, right? Therefore, movement of the stock price is the source of profit for you. Longer time frames allow for net movement (the trend) as opposed to the noise of computer generated trades with no purpose or motivation. Emotional and reactional trading from the general population is the true driver of net movement usually and is somewhat more predictable than the daytrading noise (that's why it's called "noise").

    3. I consider the market "big picture" primarily by looking at what groups are trading and why; institutional investors and casual investors, which make up the bulk of it I think, trade almost entirely with long positions (one because of laws, the other by convenience or lack of knowledge of short positions). While the ability to trade in a more sophisticated manner is becoming more common, it doesn't change the mentality of the overall market. We can easily misrepresent who the "market is" because we are thinking on a more sophisticated level (automated trading, long/short trading, conditional orders, etc). I believe that the majority are still thinking in a more traditional manner when it comes to investing despite technology changes, or following their broker's lead.

    4. The buying/accumulation side of stock cycles is not the mirror image of the selling side. Option pricing reflects this. The thing here is that most people are long (ex: MSFT short ratio today is about 1%. Most stocks are 0-5%. This does not include all the hedging methods, but you get the general idea). Given no significant news or reason, stock prices tend to rise more gradually than they fall in this cycle; typically there is a trigger from news or events that creates a change, but not always.

    5. The market is not efficient. I don't need academic arguements to prove this (thought they are out there), just common sense. For example: "I am buying a house and need to liquidate my investment account for the down payment." The stock sales have no rational reason related to their underlying companys' performance. Some people argue that this is only one guy, but the behaviors during a selling panic or a price explosion are found in the whole of market participants because the reasons are emotional or simply self-defensive ("I don't want to be last").

    6. Markets, when you think about it, are about shuffling money between various assets and also between investments and liquid assets (cash for purchases/life). Simplifying it as a zero sum game to make a point, we realize that no significant net wealth is created here (even the brokers and middlemen take their cut at the expense of traders). The money flow causes a general market cycle, but there are smaller cycles related to other factors.

    7. Many of my new strategies involve the calculation of volume-at-a-price as well as the average market purchase price for the estimated float; also, using statistical methods to determine where the current price falls within the various layered market cycles. A general model for projection is that stocks have a "value line" based on their fundamentals and the people who trade based on this, and shorter-term traders will cause fluctuations around this in a cyclic pattern.

    8. If the fundamentals for a company are stable (value line is flat or stable angle), then rather than picking tops and bottoms it is possible to be more general such as "it is in the top/bottom 25% of the cycle". The amplitude and period of the cycle can be approximated, although it does change with market conditions. I think there is some merit to the concept of "price envelopes" using statistics to model it.

    8.5. Fundamentals don't really matter I've found, only the perception of them.

    9. Why would all this work? Well, if people are buying stocks then they will sell them when A) they reach a profit target, B) they reach a certain unacceptable loss point, C) they need the money for something external to the market (another asset, another use), D) they are responding to news or unexpected price changes. The price envelope is the aggregation of these factors for all market participants.

    10. Still want to daytrade? Then you might try taking advantage of the noise aspect of it with options (such as a Straddle). However, since options already have the price premium built in, it seems less likely to be profitable. You could always short the straddle as long as you limit the downside risk and you will take the option premium (well that's how the option writers make money).

    11. To visually make my point, consider the attached picture. The volume-at-price portion is basically a statistical distribution of trades for the period in question. The purple line is, approximately, the period of the accumulation cycle. For some reason it seems that the area under a cycle line is about the same as the area above it, but the actual price is "tethered" to this line. This is generally true for the economic cycle, the highest (longest) level stock cycle, and intermediate cycles.

    12. This "cycle in a cycle" behavior isn't that surprising to me personally considering that the physical structure of the universe appears to be a "bubble within a bubble" spacial structure (yes I know it *seems* unrelated, but the analogy holds somehow based on my other research).

    Well that's it for now. I examined technical and fundamental trading seperately and realized it's more powerful to consider both when trading. Exactly how to do that is an individual choice.
     
  2. hmm, need the file.