The NASA effect

From mid January, James and I will again trade together, full-time. His contribution is to: (1) reduce mistakes made and (2) maintain our focus.

Of course there is more to it than that. Each trader has to be similarly trade competent and knowledgeable. When that comes together, however, trading together really helps.

Mistakes:

In the pilot world it is known as crew resource management or CRM. During the late 50’s too many Comet aircraft were crashing and too many of those were due to pilot (or crew) error.

NASA had a look and devised CRM; its success, throughout aviation’s history since then and the space program, was staggering. CRM is a method that prevents egotism.

The movie ‘Sully’ quietly shows CRM in operation. Each move by either the captain or the co-pilot is confirmed and checked by the other. It’s an accepted way in the aviation world.

So much so that it has made its way, under different names, into the hospital operating theater.

Concentration

Distractions clearly affect performance on the job. In a recent essay, Dan Nixon of the Bank of England pointed to a mass of compelling evidence where constant interruptions accustom (us) to distraction, teaching us, in effect, to lose focus and seek diversions:

Conducting tasks while receiving e-mails and phone calls reduces IQ by about ten points relative to working in uninterrupted quiet.

That is equivalent to losing a night’s sleep, and twice as debilitating as using marijuana.

By one estimate, Nixon says it takes nearly half an hour to recover focus fully for the task at hand after an interruption.

The day-traders world (not as dramatic as aviation – our feet are on the ground for a start) very much demands our total attention.

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Margin, a big deal?

Margin, or deposit requirement, in financial trading, is the good faith amount that we need in our trade account to cover a deal. The margin is not a loan, but rather a means to cover a loss.

If we wanted to purchase a stock or share from a traditional broker, and the value of that purchase is £5,000, then we’d need £5,000 available in our account to complete the deal.

A financial spread bet, or derivative based account, is a leveraged account and only a ‘margin’ of the full-trade amount is needed.

Take Sterling versus the dollar for example, a trade of £5 per pip, at the current value of this market, without a leveraged account, would cost £67,500.

However, we are only required to cover the broker’s margin.

(A margin rate of: 0.5% to 1.5% is common in FOREX and 5% in stocks and shares; but each of these can vary significantly if a market becomes non-liquid or volatile)

A margin rate of say 1% would require an account to hold £675 for the £5 per pip example.

£5 x 13500 x 1% = £675 margin (This is a non-stop calculation, a with-stop calculation reduces the amount)

If the trade goes against us, however, the margin requirement increases. Therefore, a good amount more than £675 is required to comfortably cover the trade.

It is easy to see how novice traders could get into financial trouble if they lose sight of the overall risk of such trades.

Probably why margin rates are on the increase to retail traders.

The Long, the Medium and the Short

There are many different views, for lots of good reasons, as to what defines a trade period. But let’s try this:

Day trading, as the word suggests, is a trade that is entered and exited within the same day. Mostly this will be technical trading, but could be news or event based.

Short-term trading is again primarily technical; but could include fundamental, news and event based criteria. Usually one day out to several months.

Medium term could be 9 months (as defined by Peter Lynch as the period beyond which fundamental information provides all the influence) out to several years.

Between medium term and long-term we see a gap. A sort of no man’s (or women’s) land.

A large correction, substantial pull-back or crash (call it what you will) happens between 7 and 15 years. Historically not before 7 years, but could be more than 15 years.

So, lets take 15 years as a guide. For our ‘long term’ investments to survive, to grow, they may have to outlast a couple of crashes. That takes the longer term to 30 years, or thereabouts, depending on the date of purchase of the investment relative to a previous crash.

It makes sense therefore that investment money that is needed for a pension ought not to be invested over the medium term some 7 to 15 years from a previous crash.

2008 was our last crash, so between 2015 and 2023, or until the next one, it might be prudent to only invest short-term or longer term.

And, we would say long-term only with excellent value equities probably purchased prior to 2015.

The super tanker of markets

Can we move the market? Possibly, certain markets. But we want to trade a market that has particularly high liquidity. In other words, the ability to buy and sell an asset easily and quickly.

We trade major currency pairings for this reason. But how big is the currency pairing that we trade, and can we influence it a bit?

If we consider the market we trade as the biggest super tanker – the one that is more than four football pitches set end to end – then to move this super tanker the retail trader is as if spitting (horrible habit) at the hull.

Ah, but now we are a professional trader surely we have more influence at the level we trade. Yes, we do, we now don’t spit too often, we have graduated to a feather duster.

To move our chosen currency pairing market, (particularly during the period of the Frankfurt, London and New York trade times where several trillion are traded daily) there are probably millions of spitters, many thousand feather duster types and everything in between right up to dozens of tug boats.

The tugs, in this analogy, represent the financial institutions – banks, pension funds, big hedge funds and the like. A few tugs need to push or pull in the same direction to move the market.

Our job is to determine, before hand, which way.

Can a trader swim?

I remember reading ‘Total Immersion’ by Terry Laughlin some years ago.

Good over short distances, personally I had trouble maintaining swim pace anything over a couple of pool lengths.

I was looking for swim inspiration and feel that I probably got something else. My swim result, although improved, is still poor but I was fascinated by Laughlin’s philosophy.

He had phrases such as ‘worry less about the power of your engine, and more about the sleekness of your fuselage’.

And,…. ‘aim to glide through the water, concentrating on balance, fluidity and relaxation, delaying exhaustion by using just the muscles you need, and only when you need them’.

But it was his reference to Kaizan that caught my attention. The secret, laughlin reckoned, was the Kaizen principles at the heart of Japanese manufacturing: continuous incremental improvement ‘through cleverness, patience and diligence’.

………and then the achievement of ‘unconscious competence’.

That is a state I’d like to achieve in my approach to trades.

Terry Laughlin, a swimming coach, author, died on October 20th, aged 66.

Margin to increase for retail traders

We have been awarded professional client status by our brokerage.

To be classified as a professional client the qualification is 2 out of the following 3 statements below:

  1. Carried out CFD, spread betting or forex, in signicant size, at an average frequency of 10 per quarter over the previous four quarters
  2. An investment portfolio (including cash deposits and financial instruments) exceeding €500,000
  3. Work or have worked in the financial sector for at least one year in a professional position, which requires knowledge of CFDs, spread betting or forex

Why is professional client status a big deal? Because margin requirements will increase substantially for ‘retail traders’; for professional clients they will not.

What is ‘margin’?

  • It is a good faith deposit that a trader puts up for collateral to hold open a position.
  • It is not a transaction cost, but a portion of our account equity set aside and allocated as a margin deposit.
  • When trading with margin the amount of margin needed to hold open a position is determined by trade size. As trade size increases, margin requirement increases.

This has no effect, however, on our usual spread payment: which we consider as a true identification of a retail trader. If we pay a standard spread then by definition we are retail traders.

Institutional proprietary traders (or ‘prop’ traders as they are known) trade the firms money (not clients money) and often at a reduced spread cost, or no cost at all. They are, to our mind, non-retail traders.

But to be considered a professional client, and thereby maintain a desirable margin commitment, is great.

Do we trade the news?

Finding the right currency pair to trade is key to success. We want steady movement of price but not unpredictability or undue volatility.

We also don’t want to move between currencies too often because, as a short-term trader, we get familiar with the flow (the news) of the currency.

We traded GBP/USD up until Brexit and then moved to USD/JPY. Since the recent North Korean influence we moved back to GBP.

In what detail do we follow the news of a currency? here’s an overview:

  • Since November 2015 the pound (GBP) has depreciated by over 15% against other currencies, mainly because of worries caused by last year’s Brexit referendum.
  • As the cost of imports has risen, inflation has jumped.
  • At the last release, Consumer-price inflation (CPI) was 3%, the joint-highest level since 2012.
  • But inflation may soon be on its way down again.
  • The annual rate of CPI has averaged almost exactly 2%, in line with the bank’s target.
  • Of note, as an open economy with a fairly volatile currency, GBP is prone to short-term spikes in inflation.
  • The effect of the GBP plunge last year will, it is considered by reports, soon fade.
  • Import prices will therefore not continue to rise sharply.
  • There has been a close correlation between movements in sterling and the “core” rate of inflation (a measure which excludes the most volatile components). If that correlation continues, then within a few months, reports suggest, the headline rate of inflation should near 2%, assuming sterling holds steady.
  • But the pound suffers whenever there is bad news about Brexit, and there is a fair chance that the months ahead will contain plenty of that.
  • But for now, at least, inflation looks more likely to fall than to rise much further.

News is the first consideration on our pre-trade list. For a news release that we consider could provide volatility or unpredictability we are trade ‘flat’ a few minutes before release of the news, and usually much earlier than that.

We have an awareness of the news and importantly the possible volatility a certain news release can provide.

But we do not:

  1. second guess the effect of a news release, or
  2. trade with a certain trade direction in mind due to news or fundamental considerations.