Under fire

A lot of crazy shit has happened since my last post. I was sick, my grandfather passed away and I've had to endure some serious financial and personal attacks. Financially, hwo.to had taken quite a drop late last month into early December.  From what I could determine, there was no news released either directly from the company or its major customers that acted as the catalyst for the sell-off.  Just prior to the sharp drop I was noticing a large shareholder selling out his position quite eagerly (I later determined it could be a former employee) which in turn caused another large shareholder to panic and sell as well ( this one trades using BMO Nesbitt burns who has had a history of flash crashing and flash spiking the stock with his large sells and buys). Insider trading data later reveled that the company had been buying back shares during the sharp drop along with 3 insiders making notable purchases. That gave me some assurance that I'm right about my the theory that the sell-off was liquidity driven rather than fundamentally driven.

While the shitstorm in hwo was taking place, another shitstorm arrived. An important client got upset at me twice...and not because the stock was tanking (he was still showing a profit). With the first incident, he believed I was at fault with the rejection of a money transfer into one of his accounts. I pleaded my innocence which he later realized was correct - it was the broker's mishap. A week later he was furious with me about another issue which again he blamed me for. This was more serious this time because this accusation meant his trust in me had become seriously jeopardized. Once again though, I pleaded my innocence. To make a long story short, he misunderstood a couple of buy orders that were cancelled in his account. Once I explained to him what had happened and he realized nothing shady was going on, he apologized for his accusations and we were "friends" again. I think he was still sour from the previous incident which caused him to jump to conclusions about this other issue (which was really a non-issue - I simply cancelled some unfilled buy orders). In a nice way, I told him that he can't just accuse me of wrong doing like that without giving me a chance to explain to him what's going on, as he is often ignorant or misunderstand things pertaining to his account.

I gotta tell you,  2 week ago with my grandfather recently passed,  hwo.to tanking, and my client upset at me all at the same time, I had never felt so terrible like that in a long, long time. I was literally sick to my stomach. I dreaded waking up the next day to see how the stock would open. Despite all the pain and worry I had, I kept my composure. I never once contemplated selling in a panic and I defused the issue I had with my client quickly and effectively.  Although hwo.to has snapped back quite a bit from the recent low, I'm still grimacing from the financial and personal attacks I have suffered and it's much too soon to declare that the slide in hwo.to is over.

I know from experience that the market will humble you from time to time. Well....I've been humbled.
Big time.

Weekend Ramblings

Lots to talk about. First off, the big question regarding the markets is whether we've seen the bottom of the correction last week. When I look at the basket of indicators I use to time the market on an IT basis, I would say that we just barely made the threshold of satisfying the criteria needed to market the bottom. For instance, we saw a ratio of 1.7 bears to bulls in AAII that week. That's a lot of bears but a more ideal reading would have been 2:1. As low as 25% of stocks in the SPX trading were above their 50DMA last week. That's oversold but a more ideal reading would have been 20% or lower. The rydex ratio has been rapidly rising but again, it would have been more ideal for a larger rise. Meanwhile,  NAAIM and fund flows haven't shown the capitulation to even quality as a bare minimum bottom requirement. If we got some sort of retest or a sharp pullback towards the lows I think it would probably build a better foundation for a lasting bottom, but we have seen time and time again the market do these "V" bottoms and if you waited for everything to be just perfect, you miss the rally and you'd be forced to chase, or worse, get killed if you went short. At the very least though, we should be in a for mild pullback and I might just very well play that, if for anything, to hedge my long exposure a bit.

I gotta tell you though, I'm sick of having to worry about what the broad market is doing. It's much more enjoyable to uncover and learn about individual stocks and making money being a stock picker. In the past I've done a pretty good job of uncovering winning stocks that have not been correlated with the day to day moves and have been able to have big moves to the upside at times when the markets have been shitty, but I still can't help but worry about what the markets do when I'm in these stocks especially when I'm in big. As a matter of prudence, I think I need to have at least a small hedge in place at times when I think the market could be in for a significant pullback for one can never know for sure if a pullback will turn out to be something worse and your "market resistant" stock succumbs to a market vortex of pain.

I've been doing more DD on this little Chinese company I've been talking about lately and man, do I like what I see and as result I've been quietly buying more shares at a dirt cheap price.. I met with one of the directors and he gave me some tidbits of useful information (all legal of course). Just last week the company announced a significant addition to their farmland leases, which if you crunch the numbers suggests that they could earn about $14-$15 million in profit for 2013. Right now the market cap of the company (fully diluted) is $15.5 million! This is absolutely fucking ridiculous especially with how clean the balance sheet it. I know what your thinking... it's too good to be true right? This has been my suspicion as well, but as far I can tell, the company is legit and there's no hidden liabilities or anything like that. I voiced my concerns to the director I met with about the validity of the company's assets and he told me he actually flew over to China a year ago to check out their operations and he had the auditors (who are Canadian) verify their bank statements at the branch and head office level and everything checked out.

So, why  is this stock asininely dirt cheap? I think there's a few reasons why. One reason is the Sino Forrest effect which I talked about before. I discovered another reason - 2 groups of disgruntled minority shareholders. One of them is an underwriter that took the company public who still has shares on their books which they no longer care to hold (they were probably hoping to unloaded them shortly after the IPO). Another group of shareholders who want out are some Chinese investors that have been with the company from earlier days and were not keen on taking the company public nor do they probably understand stock markets in general. So, these guys are willing to sell at current prices because they will still have probably made a profit given that they got in near the beginning when the company was only a fraction of the size it is now. To put things in perspective, the company earned $1 Million in 2007 and by the end of this year they are poised to earn about $10 Million.

The wheels are in motion to clean out these disgruntled shareholders putting the shares into strong hands. Once that happens then the stock will be clear for take off as there will be very few sellers at this ridiculous price. I've been doing my part taking shares from these morons who are just giving away the stock. I've seen the disgruntled shareholder effect before. With hwo early this year, some guy blew out about 1 Million shares between $1-$1.20 right at the bottom. At that time I was shaking my head saying "how the fuck can someone be willing to dump so cheap given how well the company has been doing?" I was also worried. I was wondering "what am I missing here?" "Does this guy know something I don't?" So, I did something I rarely do because it goes against my rules. I averaged down because the stock was simply too cheap and after giving it some thought I believed that I wasn't in fact missing anything and that this seller was probably some old shareholder who for one reason or another decided to blow out a large position. I was right. After this guy was done puking his position,  it marked the bottom of the price and the stock more than doubled from that low a few months later.

I have never seen a better risk/reward opportunity EVER! Hands down, this company is the cheapest of all time. Here you have company that has been exhibiting solid, steady growth. In 2010 they earned $7.7 Million, in 2011 $8.9 Million. They will probably earn $10-$11 Million in 2012 and next year they will earn about $14-15 Million given recent land acquisitions. They have a rock solid balance sheet, trivial debt levels, gushing cash flows and a recession resistant business given their business of selling canned fruits and fresh produce. So, despite all these great fundamentals,  the company trades at just over 1 times forward earnings and less than 50% of book value! Well, either this company is fraud and I'll get burned or I'm gonna be right and make big money on this stock....there's no in between because it's pretty much impossible for the company to be valued so low longer term if the company is kosher and they keep producing the way they have been.

There's more I wanted to talk about but I'm getting tired....I'll save it for another post.

November rain

It's been a nasty November so far. Seems like my "bears have accomplished diddly squat" comment a couple weeks ago motivated Mr. Market to dish me out some humble pie! With this week's decline, the medium term trend is clearly down and so assuming this is just a correction, we need to look for some signs of extremes which in the past have marked the end of such corrections. Specifically, I'm looking for 2:1 bears vs bulls in AAII, NAIIM to show a net long reading of sub 40 and a sizable weekly outflow in equity mutual funds. Despite the market showing weakness over the past few weeks there has been a reluctance of the above indicators to reach the extremes I'm looking for...they have been stubbornly too bullish but I think after this weeks damage, we will see this change very soon. Anyone who bought stocks on the basis of things like "favorable Nov-May seasonality",  "no more election uncertainty" and other flimsy reasons are weak longs and such weak longs have probably been shaken out this week adding to the selling pressure as they capitulate. Other weak longs were those under-invested managers I talked about in September who panic bought stocks on the announcement of QEX. These guys are now underwater sucking wind and likely puking stocks because they panic bought while never really truly believing in the bull market to begin with.

This brings me to my next point...conviction. I believe that when you take a position you need to have a certain degree of conviction so that you can be a strong holder and not get shaken out by ST volatility. I've seen instances where those who are LT bears try to go "long for a trade" and they usually lose on such trades because they are inherent bears and have little conviction in their long trades and so they get easily shaken out if they get caught during one of these corrections.  In order to have conviction you need to truly believe in your trade and to do that you need to have "substance" behind your trade...you have to have solid reasons to believe in it. I will never take a  position because of seasonality, elliot waves, fibonacci retracements and the like because this is the equivalent of building your house on air...there's no substance. It's all useless bullshit. If you want to see what I mean by substance, read on.

In my previous post I asked what you would pay for the company I had described but nobody answered. Fine be like that. I asked the same question on facebook and only 1 person responded (a business owner). He said he would pay $50 Million. The business has $13 M in net cash. Let's assume $3 M is required for working capital; that means if he buys the business for $50 M he gets to pocket $10 M in cash making the effective purchase price only $40 M. Based upon annual earnings of $9.5 M, that gives you an annual return of about 24% on your money and in just over 4 years, you'll recoup your investment cost (p/e of 4). That's pretty sweet isn't it? Especially if the business has proven to be very steady over the years.

This business I just described is not being valued at $50 Million, which as I proved, would be more than a fair price for a prospective buyer. The business is actually being valued at only $15.5 Million! This company I'm talking has its stock trading in Canada but it's business is located in China and so perhaps there deserves to be some discount for a foreign buyer due to political risks but a $15.5 Million valuation for a company poised to earn at least $9.5 M this year, represents a discount that's beyond asinine considering the company's pristine balance sheet and stability/predictability of future earnings. When I buy a stock that's so grossly undervalued like this I'm a strong holder and I don't care what the market does. My convictions have "substance" behind them and a result, I'm not going to get shaken out if the stock dips from when I bought it because in time, unless the company is a scam,  it's practically guaranteed that the stock will go up substantially due to the earnings it's generating vs its valuation and since the company has no net debt, it can't go bust. Why is the company valued so low? It's probably because the company is a Chinese RTO and there have been cases where such companies have turned out to be frauds. Sino Forrest is the biggest of such cases. Nobody wants to touch these stocks because of these scams but I see that as an opportunity as I'm sure not every Chinese RTO is a scam. Based upon my DD, this company I've been talking about appears legit.

The way I look at it is this. If the company is legit it's pretty much guaranteed the stock price will at least double within a year. Of course if it's a scam it goes to zero and as I said, the company appears to be kosher so the risk/reward is well worth taking a LT position. I'm going to meet one of directors of the company next week and so hopefully that will increase my knowledge and confidence in the company.

How much would you pay for this business?

First of all, I feel like such a dufus for selling my puts Thursday given Friday's tankage but you know what, I'm over it. This leaves my longs exposed without a hedge, but  my longs (primarily hwo.to) continue to not be market sensitive, so for now it's not a concern.

Ok let's get on topic here. Let's say I have a business which I'm willing to sell because I've decided to spend the rest of my days playing golf (even though I've never played a round of golf in my life).  Here are some key facts about this business:

• The primary operation of the business is the selling of canned fruits and vegetables which are derived from farmland that I have a 30 year pre-payed lease on. 
• 2012 profit is expected to be about $9.5 Million with historical profit margins of about 27%.
• Although the 2nd quarter tends to be the weakest, I have been steadily profitable every quarter  
• By the end of 2012 I will likely have about $13 Million in net cash (cash -debt) and another $13 Million in net receivables (receivables - payables). 

I'm running near full capacity right now so there there won't be much growth in profits without capital investment but I can certainly maintain existing levels of profits indefinitely as is.

Based on the above facts what do you believe is a fair/reasonable value for this business? Please post your answer in the comments.

Mixed Signals

Market indicators are mixed at this point. Based upon my analysis, both downside and upside appear limited in the short run. Given this, the wildcard of the non-farm payrolls tomorrow and the fact that the market still has room to have another day like today to the upside before becoming ST overbought, I closed out my XLE put hedge today. It would have been better to have done so yesterday but I'm not going to lament on that. Still came out with a profit though. It's gotta be pretty disappointing if you've been a bear. They had the ball for 3 weeks now and they've managed to accomplish pretty much diddly squat and now it could be that the bulls have the ball for a week or 2, although as I've said, I don't think upside potential is great in the ST and so if we get ST overbought again I'd probably put back on the hedge.

Meanwhile, hwo has had quite a dip to 2.19 after making a run as high at 2.69 (although not much shares changed hands at 2.69...the true high was more like 2.55). Well, I knew such a dip was possible after the torrid run it has had but I have no regrets not selling shares near the recent highs given where I believe the stock should fundamentally go to. There were no red flags from a pure trader/speculator perspective either, specifically, there was no "blowoff top" type behavior as the price spike was not accompanied by massive volume which would indicate possible buyer exhaustion. When it comes to microcap/small cap stocks, they tend to exhibit this pump-and-dump-like signature at major tops.

A few weeks back I said I wouldn't add to long exposure unless I  found a very compelling opportunity....well, I believe I have found one and I have started accumulating shares. This stock is the most grossly undervalued stock I have ever come across! More on this in the next post....

Monster run

These last 2 weeks have been huge for me with hwo.to breaking out and closing out the week at a fresh 52 week high at $2.30. A few weeks back I had a really good feeling it would break out to this level and it did! But now after this big run it's going to be tempting for people to take profits. I won't be one them. No, this is not greed, it's about principles. I've been right about hwo...very right and I will continue to sit tight until the stock goes to where it fundamentally should go to. The stock still trades at under 4 times trailing earnings and on a forward earnings basis, it's even cheaper which means the stock is still dirt cheap; as a result, I'm not going let an overbought RSI indicator or any other technical indicator cause me to sell when the fundamentals are still very attractive like this. I've seen my fair share of situations whereby RSI and other indicators are rendered useless when an asset price is in the midst of a big, long directional move up or down and there's no telling if hwo is in such a situation until after the fact. Like Partridge, I don't want to sell to get back in on a pullback and risk losing my position. It's not worth such risk given where I believe the stock should eventually go to. However, I did pull the trigger on a macro hedge today (more on that below).

I believe the catalysts for the recent advance in hwo are as follows. 1) On Monday, National Bank Financial started coverage of the stock with an outperform rating. I think this is the only firm who has officially covered the stock in over 4 years. 2) Their PNG customer Oil Search recently announced a partnership with S.A. Total to explore for gas with the hopes of creating an offshore LNG plant. Drilling is to start in early 2013. 3) natural gas prices have been firming and are at YTD highs. 4) Exxon's purchase of Celtic this week is a positive signal for Montney plays which I believe is hwo's main market in Canada. People have been saying that it also signals Exxon's intention for LNG exports and that too can only be a positive for hwo longer term. 

Despite the move in hwo, I think the story is just starting. It's just now starting to land on people's radar. Having said all this though, given shaky markets as of late and how the stock has had a big run, I need to be mentally prepared for a pullback in the stock. I pulled the trigger on a hedge this afternoon. I bought some puts on the XLE, Jan 77 puts to be exact.  I chose to hedge via XLE because hwo.to is an energy stock. Market action suggests we're in the midst of a correction. Although I don't think the correction will be severe, I don't think it's over either and so why chance it remaining unhedged while sitting on a big winner. This hedge is only 4% of my account. To my delight, hwo.to has been bucking the market trend trading completely independent of the market but, as a matter of prudence/discipline, I can't assume this will continue if markets were to slide substantially. This hedge was bought and paid for just on today's move in hwo alone!

We've seen the markets get spooked by weaker than expected earnings in IBM and GOOG. These are heavy hitters. I'll give the bears some respect here. Action like today whereby the market gets slammed and closes near the low of the day usually indicates more downside is to come even if there's a bounce the following day. Despite the big down day the market is not ST oversold (broad market is right at neutral, Naz is mildly oversold). Remember after the QEX announcement  I saw anecdotal evidence of panic buying from underinvested fund managers? Well, it's those guys who are selling now or are about to. But having said that,  any of the ST bullish froth that was in the market is rapidly unwinding. AAII sentiment is almost at the 2:1 bear to bull ratio that has market significant bottoms in the past few years. Next week AAPL reports and I get the sense that people are worried about it given tech's weakness as of late and glitches with the Iphone 5. 

I don't want to get overly fixated about the general markets as my one and only holding has been trading in its own little world. Should I even care about what the markets do given that hwo doesn't give a rat's ass about it? I should....at least a little because if the macro picture were to take a turn for the worse it could eventually have an impact on the stock. 2008 was an extreme example of when macro trumps micro.....literally every stock got hammered. The bear market of 2000-2002 however did not have the same impact. Some stocks, like small cap value stocks and gold stocks for example actually thrived. But don't kid yourself....in bear markets it's a lot tougher to make money stock picking. I don't think we're in a bear market (we're only a few % off  theYTD high for cripes sake) but I don't think the downside is done and so either way, a partial hedge at this point is prudent and wise given my circumstances.

   

Partridging

So far things are goings good with hwo with the breakout above $2 to a new 52 week high last week and it did this despite markets having a down week which makes it even more encouraging.  As I had noted in the prior post, I sensed something was brewing with the stock. There was relentless buying pressure that had never been present like this since I made my first purchase late last year. There was strong resistance at the 1.90 level as there were a couple of large sellers keeping a lid on the stock. About 1 million shares have been mopped up in 1.80-1.90 level which means that old, tired shareholders have been replaced by new ones creating a solid foundation for the stock to make at attack to higher levels. Now, I'm just talking about "market action" here. It's the fundamentals or "story" that drives such action and thus is more important. Last week, hwo's main customer in PNG, Oil Search Ltd, announced a partnership with French O&G giant S.A. Total to explore for gas in the hopes of creating an offshore LNG facility. This potentially bodes well for hwo as they have been doing the drilling for Oil Search in regards to their existing LNG project. I'm not sure if the stock brokeout because of this news or if it was just a coincidence. What may have contributed to the breakout was that an analyst at National Bank Securities initiated coverage last week with an outperform rating. This is the first time any analyst has covered the stock in 4 years. It's quite satisfying when see the "bigger players" start to take notice of a small cap stock you've been in and even more satisfying to know that you were one step ahead of them.

This latest move up makes me breathe a bit easier and sure, I'm getting excited (who wouldn't) but I'm still on edge. There's a decent chance the stock will pull back and consolidate a bit now that it made this little flurry to the upside especially if we continue to see weak markets. So far though, hwo has been trading independent of the market which is what I had hoped it would do. One of the things I need to make sure I don't do is sell prematurely. I don't have part of my position designated as trading because a) there's a high chance of positive news coming down the pipe shortly via q3 earnings and the Oil Search-S.A. Total partnership and b) the stock is still fundamentally undervalued. As per the wisdom of Partridge I'm going to be right and sit tight.  If you haven't read my post about Partridge I suggest you do....it has gotta be one of the top 3 most important post I ever made.

As far as the markets go, I'll admit that the action has been bearish, namely, that the market has been grinding down relentlessly, albeit modestly but big picture wise it's barely noticeable. Let's keep in mind that the market had quite a big run from the June lows and so a pause is normal, plus, the market is only down about 2.5% from the YTD high... but it sure doesn't feel that way does it? The financial media makes it feel as if it's a lot worse. I continue to notice how quick people are to embrace downside but they tend to be slow embracing upside and that's a LT bullish sign.  While further downside won't be surprising, I don't think we'll see more than an additional 2-3% more. The main reason why is because overall, ST sentiment wasn't as excessively bullish as it was just prior major corrections of recent years and some indicators are rapidly unwinding already and would probably reach the opposite side of the ledger if markets continue to go only modestly lower 

Everyone seems to be bracing for a weak Q3 earnings season but since expectations are already lowered it makes it tough for there to be major downside surprises. Remember the motto of this blog. If we do get such surprises then that would be a red flag of an major turning point in the cycle. 

So for me, I'm staying the course. I will stick with my oversized position in hwo and my cash reserve. Given that hwo has been dancing to its own tune and given that I don't believe there's high chance of serious downside in the intermediate term I will stay unhedged. However, out of discipline, I will not be making any new additions until I have good reason to believe the correction has ran its course unless I see a really, really compelling opportunity similar to that of hwo. 

I will be tested

One of the reasons I write this blog is that it acts as a release mechanism. Hopefully, discussing all the contempt, frustrations, paranoia, despair and euphoria I feel can help ease them. Also, the logical, savy part of me can be expressed and used as a refuge anytime the George Costanza in me tries to take over.

I'm holding a sizable position in hwo.to (for me). The stock looks poised to make a breakout and although that gets me excited I am in no way complacent....quite the opposite as I have to deal with the Costanza paranoia and anxiety as well. What if the markets turn down hard after making such a big move up? What if something unexpectedly bad happens with the company or its main customer? I know deep down these fears and anxieties are irrational and it's actually a good sign that I'm sweating a bit. If you're feeling complacent after a trade, especially a rather large one, you're almost sure to lose money unless of course you had access to inside info which of course is illegal!

The upside pressure is building with hwo.to. Trading volumes are getting heavier and the stock has been inching up approaching the 52 week high of $2. This behavior hasn't happened with the stock in some time. Something is brewing I can feel it. Either the market is finally warming up to hwo.to giving it the respect it deserves or there's immanent good news like a big contract or a  merger/takeover. Either way, it looks like a big breakout is coming to $2.25-$2.50. Exciting times but stressful too. It's not uncommon to see small caps like this have a nasty headfake or two to the downside before making the big breakout you're sensing and so if you're one to use stops you can easily see yourself get whipsawed at the worst possible time. When I rode bev.to from .50 to $3.30 there were several of these whipsaws or flash crashes if you will,  whereby you would see the stock drop 10-20% in a day for no reason other than some loser who placed a market sell order into thin bids which of course triggered stops and more selling. The stock would then bounce back immediately. In order to be unfazed by these mini-flash crashes you need to be a strong holder and to do that you need to be confident in the fundamentals and the long term story but even when I am, I still can't help but feel worry, despair and frustration. These are the natural emotions that you have to fight every time. I'm sure I'm going to experience this with hwo.to a few times; in fact I already have, but now that I'm sitting on a big position my convictions will be put the test like never before. All this talk about being right and sitting tight, riding the bigger trend will be put to the true test. We will see what I'm made of.

When I analyze hwo.to from a rational point of view it's the perfect stock. It has everything I look for. 1) cheap valuation on a price/tangible book basis 2) low debt 3) under the radar turnaround with positive earnings momentum 4) early, non-parabolic uptrend. As a bonus it even has a juicy 6.5% dividend! The major successes I've had in the past few years, bev.to, gdc.to, isc.vn, tec.to, wzl.to, all had the same features. Most of my duds were because one or more of the above were lacking.

After analyzing the stock I come to the conclusion that it should go to $3 at the very least within the next 9 months and probably sooner.  John Templeton liked to find cheap stocks either on a relative or absolute basis. Hwo is quite cheap on both even with the recent advance to $1.86. In comparison to 13 other small Canadian service companies it has delivered the best earnings during the past 4 quarters by far and has one of the best if not the best balance sheet strength and yet the market cap of the company is middle of the pack. With the earnings momentum  likely going to continue getting even stronger it makes no sense for the company to be valued as such. On an absolute basis the valuation is even more compelling. It trades at a price/book of only 1.18, with minimal debt (none if you back out cash) and a laughable p/e of 3.3! And the quality of the earnings are top notch because the cash flows have been enormous. Going forward things are looking good. Although Canadian operations may show stagnation or even a decline from last year activity it's only 1/3 of their revenues; the remaining 2/3 is in PNG where things have been strong and will only get stronger which should more than offset any weakness in Canada.  Upcomming Q3 should be good and probably be in the .15-.20 range but upcoming q4 and q1 should be especially good for 2 reasons: 1) these are the seasonally strongest quarters for their Canadian business 2) Additional cap ex in PNG this year will start to bear fruit starting in Q4 and will be fully reflected in Q1 going forward. As a result, EPS are poised to be strong in the coming quarters and I conservatively estimate it should result in additional .70-.80share in additional book value at the end of Q1 which means book value would be at least $2.30-2.4 by then which makes a $3 stock price very doable. I don't see how some larger company doesn't come in and offer to buy out or merge with these guys if they keep producing these numbers with the stock trading where it's at even with this latest move up.

Despite all the good things I see with the stock I still can help but worry about what could go wrong. I could always hedge away macro risk via an index put. I will consider that when think the market is vulnerable to a drop greater than 2-3%. As of this point I don't think it is. AAII sentiment yet again showed neutral reading of about a ratio of 1.11 bulls vs bears. I have NEVER seen an IT top with such sentiment especially if the market had recently made a multi-year year. Given market action, it would actually be justified and thus not a cause for alarm if AAII sentiment showed more bulls here. I realize other indicators are not as bullish for the market as AAII - some of which are outright bearish - but as I've been saying lately,  AAII remains an important holdout. Meanwhile, market action this week has been quite good for the bulls. The market was very ST overbought coming into the week and so the bears had every opportunity to do damage and they did fuck all so far and now the market has just about worked off it's ST overbought condition with this sideways action. That's a sign of strength and that the market wants to go higher still.

It's a fucking nuisance for me right now to have to worry about what the general markets do. Although hwo has been trading fairly independent of the markets in general, that can change if we were to see major downside. So, for the sake of prudence and sanity, I will put on hedge once I think the market is ripe for at least some moderate downside. When in doubt though, I won't hedge because despite being heavily in hwo, I have an offsetting cash position and as I said, hwo has been trading fairly non-market correlated as of late. If and when I'm hedged, it would remove a lot of the irrational anxiety I'm feel sometimes. I suppose I could hedge right now for the sake of prudence and to quell my paranoia but that would be a quasi-emotional trade.

I know what I'm doing is close to crossing the line from boldness over to reckless and maybe some of you think I have already crossed it, but you know what? When you see those rare, golden opportunities come your way whether it's in the market or in life you have to try and take full advantage and whip out those brass balls. The greater risk in my view, is not taking full advantage.

Weekend Ramblings

Anytime the market makes a new 52 week high I like to get a sense of what the crowd is thinking. Are they embracing it or are they shunning it? I see a bit of both but more of the latter. This morning on BNN I saw a few pundits/fund mangers basically throw their hands up in the air saying "I give up. You have both the European and US fed providing unlimited intervention and so you don't want to fight that". One guy talked about how this is the most hated bull market ever (something I've been saying for some time) and there's scrambling going on by fund mangers who are underinvested to get exposure before the quarter is over. They are buying grudgingly and in a somewhat panicked way. That to me suggests there may be weak hands getting in at the same time when the most stubborn of the top pickers have been blown out and so that could set the stage for a ST shakeout soon. On the other hand, there is still no shortage of anger and resentment from those who have been on the wrong side of the market since 2009. Still no humility, still the same angry, condescending quips about Bernanke from those (and there's plenty) who have been trampled by this bull market.  I expect the permabears like Zerohedge and Hussman to go ape shit with their commentary this weekend.


This type of market situation is very tricky. It's very difficult to chase the market when it has spiked up like this but at the same time as I said the other day,  NEVER short a market that has just made a fresh multi-year high no matter how overbought you think it is. In late August I saw a few people claiming to have made bold trades betting against the market. One guy who goes by the name "optionsmygame"....ya right.... claimed to bet his entire HELOC on Sept 72 QQQ puts at around $5. Those puts are now worth $3. If he wasn't bullshitting and actually did this trade, he is screwed big time unless the markets tank huge next week. I talked about how I've been seeing too much top picking lately despite some warnings signs of a ST top. Seems like too many people were still trying to game the top and the "September is the weakest month of the year" trade and now they are wiped out. Once September options expire next week, we may have seen the last of the top pickers cleaned out for good as they have been blown to bits these past few weeks while late to the party fund mangers chase stocks before the quarter is over. That would make the market ripe for a shakeout in early October but you can never underestimate the stubbornness of these top picking losers...I'll be watching for evidence of such.

So, sooner or later there will be pause and perhaps even a big shakeout but if you look at this from a longer term perspective, there's still plenty of room for the market to go a lot higher. I've been saying the following ad nauseum for a while now....Bull market tops in the past have been marked by high confidence and tight monetary conditions. We have the complete opposite of that right now. Everything from consumer confidence levels, equity fund flows, what your neighbors think about the economy, the books you see in the business section at Chapters and anecdotes from the media all indicate without a shred of doubt that there's pessimism not confidence out there. Next you have monetary conditions which are the most accommodating in history. This suggests conditions for an ongoing bull market are still quite strong.  The thing that would potentially sabotage this bullish cocktail  would be if there is some major disaster in fiscal policy. I suppose the "fiscal cliff" could be such a thing but from my experience, any major concern as telegraphed as this fiscal cliff ends up turning out to be a non event. Y2K fears is a perfect example. The reason why such fears never come to fruition is because of the fear itself....it motives a swift response by authorities to defuse it before it becomes a reality.

So the big question is what do you do now? At this point any buys you make need to be LT ones such that you could be a strong holder if right after you buy you get caught in a market shakeout. Know yourself. Keeping some powder dry or hedging will help you be strong holder.  I made a bigger commitment to hwo.to on Thursday which is the only position I hold right now. I still have a sizable cash position to offset it though. I have a couple names on my radar but for the sake of prudence I won't be in hurry to add to them unless I see the market settle down and I get the price I want. I may also put on an index hedge soon.

Bears lose....again

Markets hit a fresh 4 year high today on the initiation of QE3. So how important was this announcement? It could perhaps be the most important fed move in years as per the article I will post below. I'm sure though that the permabears are going to find reasons to dismiss this action as "pushing on a string" or that it will only create inflation via higher food and energy prices. Well, you go ahead and keep listening to the same losers who have been on the wrong side of a 115% bull market. Is there ever a point where anyone of these clowns will capitulate and show some humility? I mean Jesus Christ do these idiots realize how fucking foolish they are for being so wrong and yet continually run their mouth? Just shut the fuck up and be humble. These guys are so sickening with their dogma and self righteousness and I'll say it again...it doesn't matter now if the market peaks shortly and goes into a bear market - the damage that the Prechters and the Hussmans out there have done to their followers is far too severe to make up for being "early".

Here's an article by Roger Arnold from Realmoney.com about today's fed move. I'm by no means an expert in this kind of stuff but it's an interesting take as opposed to the consensus fed bashing that I see out there

"The Federal Reserve's announcement Thursday that it will purchase $40 billion of mortgage-backed securities on a monthly basis was a brilliant move. This is not just QE3; it's the beginning of QEX.

The Fed has essentially stepped into the breach in the banking and mortgage markets and promised to become the dominant buyer of mortgages. This move is not about mortgage rates; it's about liquidity for the banks. This has had immediate impact on Wells Fargo (WFC) and Bank of America (BAC) because they are the dominant mortgage originators.

Since the subprime crisis of 2008, the mortgage market has been in disarray. No matter how low mortgage rates have been pushed to stimulate bank lending, the effort has been thwarted by concerns about the potential liabilities of making and holding mortgages. The mortgage market is essentially a game of hot potato where banks originate loans and then repackage them into bonds to sell to investors. The key is not holding the loans and not having the loans put back after the sale for some underwriting mistake.

Since 2008, though, banks have been reticent to move back into the mortgage origination market for fear of opaque Dodd-Frank rules, Fannie and Freddie putbacks of previously originated mortgages, potential actions by the Consumer Financial Protection Bureau and the Federal Housing Finance Agency, as well as more legislation from Congress. These issues have spooked everyone involved down the chain of mortgage origination, including buyers of the bonds.

For the mortgage market to be healthy there has to be liquidity, and that is predicated by two primary events on either end of the mortgage market: demand for mortgages by homebuyers and investor demand for bonds backed by those mortgages. Everything else involves the mechanics of meeting those two demands at either end of the mortgage-industry spectrum. The relationship between these two kinds of demand and liquidity in the market is synergistic and symbiotic.  Both are necessary for the mortgage market to function.

Up until today, the Fed's actions have been focused on the cost of capital and getting mortgage rates down to stimulate homebuyer activity. But these buyers have then run into obstacles in loan underwriting. Lenders have made qualifying for a mortgage difficult because of fear of regulators and because demand for mortgage-backed securities was low. The lenders did not want to originate loans they couldn't sell, and bond buyers didn't want to buy bonds in an illiquid market.

Today, the Fed has single-handedly alleviated both fears by stepping up to be the dominant buyer of mortgages. This is going to allow the banks to start becoming less restrictive with loan-underwriting criteria because they know they have a buyer for the mortgages. It will also pull the sidelined bond buyers in because they know they have the Fed to provide the liquidity. The increase in demand and liquidity of mortgage-backed securities will drive down mortgage spreads to treasuries, which will drag mortgage rates down by 0.25% to 0.50% from current levels, and maybe more.

A working mortgage market sets the stage for the beginning of a recovery in housing and the economy. Once under way, that will allow the banks to address residual issues with nonperforming loans and real estate owned (REO)."

Wow, this sounds like serious shit. We all know that housing in the US has been a drag on the economy and given the recent signs of life in housing, this plan by Bernanke to jump start the mortgage market is perfectly timed. Now, I'm by no means an expert in the housing or mortgage situation and like I said I'm sure you can find plenty of pundits who will dismiss this recent move by Bernanke. I'm not going to hang my hat on the potential benefits of QE3 like Arnold claims in the above article...I just thought it was an interesting and refreshing for once to see a bullish perspective on Bernanke's action.

Have you noticed how so many stock market "traders" hate Bernanke?  I saw a post today on the message boards that said "I hope Ben get's hanged". Wow. One thing I commonly see  are criticisms of Bernake for punishing savers and causing commodities inflation. All of this hate is not due to "moral hazzard" concerns it's due to one thing: sour grapes for losing money shorting the market or being on the sidelines missing out. Anyone who traders/invests in the market does so for one reason: making money  and so why are so many traders on message boards griping about what interest rate savers are getting? It's just pathetic sour grapes for getting their asses handed to them. And far as commodity inflation goes, if you're so damn critical about Bernanke's policies why don't you load up on commodity stocks and make money instead of whining? STFU already.  The bottom line is this...if most people were making money with this rising market (as what's normally supposed to happen but not anymore because we're in bizzaro world) you would not see such complaining and hatred towards the fed. The truth is, so many people, the majority it seems, have bought into the zerohedge doomsday propaganda both financially and intellectually and their wallets and egos have been wounded big time for this sheep-like behavior much like they were in the late 90's when they bought into the "new era" hype. 

I'll be the first to admit that I haven't correctly called every up and down in this market but I have played the long side exclusively since the summer of 2009 because I refuse to be on the same side as these pathetic whiners who wake up everyday hoping for the end of the world just so they don't feel so bad about their miserable existence. I know that these losers can't be right and so that means doing the opposite of them is the correct play and it has been.  But having said this, I'm still willing to play the short side now instead of just going to cash as a defensive measure. I will only do so however if conditions are ideal...when in doubt I will simply raise cash if I have concerns. I am also very aware that my great hostility toward these loser bears tonight could be a ST contrarian indicator! lol! Well, I have no problem fading myself....I've done so before!

As far as the market goes, when it makes a surge to a fresh multi-year high like this, you tend to see further ST upside even when it gets ST overbought. I will never short a market that makes a fresh 52 week high yet a multi-year one no matter how tempting. One of the things I wrote in my "trading bible" is this  "a market that makes a fresh 52 week high/low is a powerful signal and will likely keep making new highs/lows." I realize that chasing the market after a move like this is difficult to do and if you refuse to that's fair enough, but don't short it either. 

I found it interesting how coming into today's session sentiment showed NAAIM reducing their long exposure a bit while AAII still remained neutral. That to me indicated that there was still room for more upside and boy did we get it! As far as my decision towards hwo.to goes, I decided to pull the trigger and buy more and did so in the morning at 1.75. I'm confident enough in the company to be very overweight the stock and I figured given today's sentiment readings the market was at least another week or 2 away from making any kind of ST/IT peak. I may very well end up hedging my longs in the  in the next 1-2 weeks though. 

What to do with hwo.to

I've been wrestling with myself about hwo.to. I mentioned how this is my largest holding which comprises about 1/3 of my account now. Keep in mind, I did not initially bet 1/3 of my capital on this stock (which I think crosses the line as being reckless) ...I bet about 20% and it has now grown to 1/3. I am contemplating adding more to the stock. Here's the issue...I have been looking at a lot companies recently and although there's a couple interesting ones, I can't find any that can match hwo's fundamentals both with respect to defensive features (price to book value, quality of the balance sheet) and growth prospects.

This stock reminds me a lot of bev.to (a big winner I had in early 2010) in that despite the upward progress in the stock it's still fundamentally cheap on a book value and p/e basis with what appears to be very good earnings viability. With bev.to they had a government contract in place which guaranteed a fairly certain range in EPS in the subsequent quarters and based upon those numbers, the stock price was quite undervalued.  It was almost too good to be true and I kept wondering if I was missing something...shouldn't the market "know this" I said? Well, it turns out I was dead right and the market isn't as efficient as they claim in the finance textbooks after all (thank God for that). The stock went from .50 where I bought it to 3.45 in only 7 months and I top ticked that SOB. My only regret is...you guessed it...I should have bought more. I made out pretty good of course, but I didn't take full advantage of the opportunity.

Now here we have hwo.to.  It's somewhat of a similar situation to bev.to prior to it's meteoric rise. It's trading a bit above book value despite having contracts in place that makes it reasonably certain their book value will grow substantially in the coming quarters.  The company has contracts in place until the end of 2013 that are applicable to 2/3 of their exiting revenue stream. Given this, I conservatively estimate that by the end of 2013 the book value per share will rise from current the current $1.60 to $2.60. A reasonable multiple to book value of 1.5 gives you a price target of $3.90.

What are the risks? Unlike with bev.to where their contract was with the Canadian government which meant zero chance of customer default risk and zero political risk, hwo does have these risks.  They derive 2/3 of their revenue stream (which I mentioned is contracted until the end of 2013) from one single customer which operates in PNG. So if anything should bad happen to this customer, hwo would be seriously harmed. Next you have the third world country of PNG which presents a significant political risk. Right now though, their main customer is in great shape financially and their stock price just hit an all time high. The political environment in PNG is stable at the moment although that could easily change.

The other risk is in regards to the remaining 1/3 of their revenues which is primarily tied to the Canadian natural gas market. Despite low gas prices, the company has been able to thrive because of the producer focus on natural as liquids (NGL). However, this summer NGL prices have come down substantially. This poses a threat to hwo but based upon a discussion I had with an industry expert, despite the drop in NGL prices, Canada's premier NGL play in Montney is still economical. In addition, pretty much every service company is Canada has been focusing on oil plays which has allowed hwo to increase it's market share in gas. Even if there is no growth in Canadian operations  for the next year, the booming business in PNG will more than make up for the slack.

There are also significant upside opportunities in both in PNG and Canada. Their main customer in PNG is a part owner of a LNG terminal which is set to start making deliveries in 2014. Based upon recent discoveries, they are now considering expanding the project and that means more growth potential for hwo. The company also hinted that in 2013 there may be opportunities for new customers in PNG as well. In Kitimat BC, we are awaiting a decision before year end as to whether the proposed LNG terminal is go. If it is, and I think it will be, that would result in a significant benefit to nat gas producers although the impact would not be felt immediately.

So, WTF am I do here with hwo?  Do I press my position by adding more and put myself at risk having too much exposure to one stock? It's starting to break out now and so now I will have to chase the stock a bit if I want to add. I hesitated when the stock was a 1.65 a month ago.  This morning it's at 1.91 although only a measly 1200 shares caused that print....it should come back to 1.80 unless we see bigger buying at 1.91. By the end of the day I'm going to make a decision as to what to do.

Delicate Balances

So much for that tight range....and low and behold GOOG has made it's breakout....I was 1 week too early! Timing is indeed everything especially with options and there's no difference between being wrong and being too early when it comes to options.

I was going to talk a bit about what Draghi said yesterday but I'm getting sick of fixating on the day to day central bank drama. It's causing me to lose focus. I've touched upon some important sentiment indicators that have been "holdouts" with respect to the market making a ST/IT peak. One of them has been money flows. Last night I was surprised to read that there was a $6 Billion outflow reported. Since the June lows, fund investors have not even remotely embraced the market and now we have a market that has made a new 4 yr high and yet they still shun it. That's a LT bullish sign.  Next we have AAII sentiment which showed a neutral reading of 1:1 bulls vs bears -  nowhere near what you see at ST/IT tops. These guys have been fighting the rally as well.  I realize other indicators like Rydex, NAAIM and insider activity do suggest the market is toppy but I have a hard time betting on the short side for a swing trade when I see those important holdouts that I just discussed. I might take a stab at a quick downside play if the market gets ST overbought though.

This is around the time of the year when stocks exit from their summer doldrums and as a result I started scanning the TSX stock list and I have already uncovered a few potential candidates. I look for small cap stocks that are trading a great values (p/bv <1.5), low debt and positive business momentum (ideally, an early turnaround story). If I see any good candidates I'm going to pull the trigger with a starter position with upto 60% total  longs exposure. I have plenty of cash on hand and I can always hedge away market risk.

Switching gears now, I want to share a story. A couple of years ago a good friend of mine confessed to me how he lost over $100,000. He committed pretty much every cardinal sin you could make in this game. He put all his capital in Fannie Mae stock (greed). He bought it solely on the notion that nothing could go wrong given that the US government was backstopping it (ignorance). The stock dropped over 50% from where he bought it a couple months later. It gets worse. The money he was playing with was borrowed money. It gets even worse. The borrowed money was from a credit card that had a 6 month teaser rate. When my friend told me about this my jaw hit the floor. Not only was I shocked about his losses and the stupidity of the trade, I was was equally taken with how he never consulted me about it. He has little knowledge about the markets and although I'm no Warren Buffet, he knew very well about my experience and expertise and knows I do this for a living. When I asked him why he didn't consult with me first he said he wanted to be responsible for his own decision. I know he's a proud guy but I think the real reason was that he was so blinded by greed that he didn't want anyone to try and persuade him out of the trade which he knew I would.

There's few avenues like the stock market which allows for unlimited financial potential. I play the market for a living and so I intend to make the most out of it. I'm not interested in making a few percentage points a year....I want to make big money but I'm fully aware of the pitfalls in doing this. Most people get attracted to the market because of the lure of unlimited riches. Unfortunatley, most people fail largely due to greed and ignorance like my friend did. People want to get rich quick and their greed blinds them from rational thinking and it's just a matter of time before such people blow up their account.  Having said that though,  if you want to make big money you do have to be aggressive at times and have the courage of your convictions. At the same time though, you can't be reckless.  Putting all your capital in one stock like my friend did  is reckless and borrowing money to do so is reckless squared. At the same time though, if you spot a rare opportunity through sound analysis (not ignorance) you need to be take full advantage of it and be aggressive but  how much is too much? There's a delicate balance between conviction and discipline (prudence). This is a balance that I struggle with at times...knowing what exactly is the optimal amount of capital commitment I should have with a position given what I believe are the risk/reward parameters.  I suppose you can never know what exactly is optimal because you can't really know for sure what the risks and rewards actually are. But no matter how strongly you feel about something, you can't put yourself in a position where if you get it wrong you get badly crippled or wiped out....this is what I mean by discipline - tactics to ensure you remain in the game when you get it wrong.

Here's my philosophy when it comes to aggression when you have a conviction. Make a larger than normal bet...say 15% of your capital to start off with a position. DO NOT average down if the price drops. Add only if the price moves up. This is valid for 2 reasons. 1) The market is suggesting you are right 2) You are in a position of strength for now you will have a larger amount committed with an avg cost basis below the market price. So, if things go wrong you will probably be able to exit the trade with little or no damage done whereas if you average down and you get it wrong you're fucked.

Treading water

Right now is a tricky spot for the market. On one hand I see signs that the market is "tired" and some sort of multi-week shakeout is forthcoming; on the other hand I still see trapped bears and top pickers who keep waiting for that pot to boil, but as they say, a watched pot never boils!  I talked about Rydex and NAAIM and how they have been warning about an impending "one last scare" in the market. So far no dice on that but they have become even more bearish for the market as NAAIM now shows 83% net long exposure which is the highest net long exposure year to date.  I have found that NAAIM sentiment is better at calling bottoms than tops though.  There have been times when high long exposure led to immanent corrections while other times the market remained "sticky" to the upside and grinded higher for several more weeks before a correction finally ensued. But clearly, going long with NAAIM at 83% is not what you call an ideal entry point. Ideal entry points are when it goes sub 30%.  One money flow indicator that has been bullish for the market is inflows into mutual funds/ETFs. They have been quite muted during this rally off the June lows.

It seems to me that for the market to get any downside traction we will have to get to the point of maximum frustration for all players whereby trapped bears and top pickers finally throw in the towel in disgust (moronically blaming the fed for "rigging the markets of course), while some sidelined investors itching to get in on a "pullback" lose patience and chase.

On the Macro front, we got the pending ruling in Germany regarding the legality of ECB bailout fund on the 12th and the fed meeting the day after whereby QE3 may be announced. So, it wouldn't be surprising to see the markets continue this tight range for another week torturing traders even more.

As far as my current holding are I only have 1 right now - hwo.to. This has been my largest holding all year and my most successful (it has grown to now compose 30% of my account).  I can be a strong holder no matter what the markets do given their company specific fundamentals and rock solid balance sheet. I realize this is a large concentration which goes against my rules but I'm willing to make the exception given my convictions, the safety of the balance sheet and my offsetting cash position.

With  4 months to go before year end  I'm up only 7.5% YTD. A lot of people might say that's not too shabby but I'm certainty not satisfied with that. I've had a real stinker in fmc.to which dragged me down about 3.5% but hey, shit like that is gonna happen from time to time. My accumulation rule of only committing 5-10% of capital to start a position and never averaging down mitigated my wrong decision to buy the stock.  I realize that with my primary style of "buy and hold" with small illiquid small caps I can see my performance dramatically improve with just a few good days but it can also work in reverse. Right now my fate is solely dependent on hwo.to. Although I'm confident in the company I'm uncomfortable riding on just one horse like this. My YTD gains can be wiped out if there's a big pullback in the stock. I need to find more opportunities. As I've said before, I'm willing to engage in ST trading opportunities but I can't "force it". The moment you try to force the market into giving you money you will quickly find yourself giving your money to it. If there's none for the taking, then so be it. Wait as long as it takes for your pitch.  This is the time of year when I start hunting for small cap names in TSX. Hopefully I will uncover some gems.


I want to talk a little bit about convictions. I believe that in this game if you want to make big money you gotta bet big when you have a strong conviction (but you can't be reckless). A lot of people I'm sure will disagree and say you gotta grind it out but I have realized that fortunes can be made if you are early in identifying some major macro theme or company specific story and bet big. Imagine if you bought in size and held gold stocks in 2001, energy stocks in 2003, Apple in 2009. But alas, very, very few people did this. I'm sure those few who had the courage to bet big, sold far too early while those few who managed to "buy and hold" only did so with a small amount of money.  Early in my "career" I was guilty in not only failing to bet big when I had a strong conviction but also failed to sit tight as well. Chalk that up to lack of confidence and emotions.  I still have not mastered the "be right and sit tight" mantra eschwed by Livermore but I'm getting better.

Jackass Hole

Everyone's been waiting for tomorrow's Jackass  Jackson Hole meeting with baited breathe as to what Bernake is or isn't going to say. The popularity of this meeting has exploded since it's what apparently sparked the massive 6 month rally in 2010 with the announcement of QE2. Last year though there wasn't such a rally immediately after Jackson hole as "operation twist" was announced but was widely anticipated...and that's the key word...anticipated. When something is widely anticipated the surprise factor isn't there and so any expected big move in a particular direction doesn't materialize and is already baked in. Coming into the Jackson Hole meeting in 2010, sentiment (both short and long term) was quite bearish, the market was oversold and few were expecting QE2. The market was therefore ripe to respond favorably to a positive surprise and it did.  You should know by now that the motto of this blog is as true as 1+1=2 and so it follows that to make fools out of the most amount of people it requires the unexpected - not widely telegraphed events or concerns which makes the likelihood of Jackson Hole tomorrow not nearly as important as it was 2 years ago.

Despite what I just said though, tomorrow still has a chance to provide at least ST volatility as it seems expectations have been lowered. From what I gather, most are not expecting an implementation of QE3, but rather only a disappointing discussion about it and what it may entail. How much disappointment can there be if everyone is already expected to be disappointed?! So, there's actually a possibility for a minor upside surprise if Bernanke announces QE3 starting and if not, there will probably only be modest downside because most people are already expecting a "no immanent QE3" result.  I expect to see only modest upside on any positive surprise relative to Jackson Hole 2010 because we're not in the same situation as then. In 2010 the market was oversold and both LT and ST sentiment (AAII, Rydex, NAAIM) was bearish. Right now, the market is not oversold and ST sentiment is extended to the long side as per NAAIM and Rydex but big picture wise, there's no way you can argue people in general are giddy about stocks...and it's been the case since the bull market in 2009 began.

I wanted to talk about my failed GOOG trade a bit. Last Friday I was correct in expecting the market to bounce but I didn't get paid for it because GOOG, which usually outperforms on up days, badly lagged. Had it preformed like it normally did I probably would have make money on that trade or at the very least broke even. So, was this simply a bad beat or was there something else? It may have been the latter. The verdict of the Apple vs Samsung patent case (which apparently has implications towards GOOG given Android) was delivered over the weekend and so perhaps GOOG was held back because of this. GOOG dropped about 2% on Monday the first trading day after the verdict was delivered so I think I'm right about this. When I made the trade I was unaware of the pending Apple vs Samsung verdict. I was ignorant and I got punished for it. As I said before at least once on these pages, sooner or later the market will expose your weaknesses and one of them could be ignorance (elliot wavers learn this in due time).

Going forward I'm going to stick with the indices instead of individual names if I'm contemplating quick option trades. I know this sounds like hindsight bias, but the correct trade last Friday would have been to bought TZA 17 puts on the morning dip last Friday. They could have been had for .07 and sold for .30+ a couple hours later. I was asleep at the wheel, too busy watching GOOG that day that I failed to notice this opportunity until it was too late. Lessons learned.

As tempting as it may be given the potential for a volatile day, I will not be making any ST trades tomorrow. I don't feel I have a good enough edge.

GOOG trade

I'm taking a shot at a GOOG breakout tomorrow buying the weekly 685 calls which expire tomorrow. I always bet very small with these type of trades as I stand to risk loosing 100% in an instant if I'm wrong but reward potential is well worth the risk in my view.  First of all, with today's modest decline, the market has worked off it's ST overbought condition without much in the way of damage giving it the green light to make another upside stab if there's any kind of positive catalyst tomorrow. We also had a pcr in the 90's again which signals once again that there's a decent amount of top picking going on. So, all in all, there's ample room for a snapback rally tomorrow should there be a positive catalyst. This was a similar ST condition the market was in when I bought the SDS puts a few weeks ago but unlike 3 weeks ago where I knew there was definitive potential positive catalyst via the non-farm payrolls, there's not one like that. I need some luck here. If we do get a decent up day tomorrow, I stand to do very well with GOOG with it being perched right at the 52 week high showing great relative strength. I'm hoping a breakout to new highs in GOOG would translate into sharp 10-20 pt move in the stock which I think is very doable as this tends to happens with there is such a breakout. That would give me 5-15 bagger for my calls...that's the kind of risk-reward setup I like. This was practically the same risk-reward set up I pegged with my SDS put trade a few weeks back as well.

If the trade turns out to be a bust so be it....I'll have no regrets as I believe I have correctly assessed the risk-reward conditions.

Game of chicken dominates the ST

I decided to bail on my FXC puts this afternoon that I bought Friday for a few reasons. First I should say that the fxc put was a play to profit on expected ST market downside. Since the Canadian dollar is considered to be a "risk on" currency it will rise and fall along will the general markets. Why the dollar and not just buy puts directly on the market itself? Good question. It's because I figured I'd get more bang for my buck with fxc puts vs say SPY puts given the option pricing and where my downside targets lied. There was the risk of unfavorable tracking error by going with the FXC puts but I was willing to accept that risk.

I bailed because, although there were signs of an immanent ST drop on Friday as per my comment on stock twits, new evidence appeared to me to suggest such a drop could be delayed. First was the yet again too obvious sell-off at "resistance". The market reversed off the 1425 level which marked the YTD high in May forming a downside reversal. The bagholding permabears over at the message boards got really excited over this and were really excited about the messily 5 pt drop in the futures overnight. So pathetic. This was a sign to me that there were still too many bear bagholders who needed to capitulate and perhaps I would be premature or flat out wrong about my expectations for ST downside. But I was willing to give the bears a little leeway here given that the market was not overbought. As a ST bear,  I was quite disappointed with today's action even prior to this afternoon ramp into the green. If yesterday was indeed a true reversal we should have seen the market go down hard today without giving traders any convenient downside entry points. Instead, it drifted modestly down with a pcr in the 90's (not what you want to see if you want downside). Come afternoon, my patience was just about finished. After the fed minutes we a saw a few whipsaws and then grinded back into the green but just before that ramp I dumped my puts. The bid/ask spread was terrible and I got dinged because of it. Anyhow, I knew that given the liquidity of these option, I would get dinged by the spread if I decided to close out the trade early so I'm not complaining. 

Now, I know that my decision to bail could easily prove to be a hasty one but when you're top picking using front month options, it's a very dangerous game and one that you should avoid most of the times. You have to not only pick a top which is hard enough, but your timing has be near perfect too. If you were right in calling the top but the market goes sideways for a few weeks before finally falling, you still lose. So, if you have any doubts you have to bail and that I did. 

Short squeeze relay

We had a fairly quiet week. The market was up all 5 days but by very small amounts each day. The market has been able to hold up despite a ST overbought condition. Is this a change in character which suggests we have started one of those multi-month bull runs like what we saw from November to May? Could be but I have my doubts. I think what we're seeing here is a case of traders getting caught short one after another squeezing each other, pushing the market higher in the processes.  I've seen this happen so many times since 2009 whereby one group of trapped shorts capitulates pushing the market higher creating a domino effect by triggering the capitulation of the group who are trapped just above them and it keeps going and going untill enough bears are too affraid to top pick and there's no one left to squeeze.  It all started after the "Draghi disappointment" which gave bears the all clear to fire away shorts/puts/bear etfs, which turned out to be a massive bear trap given the surprise payroll number the next day which jacked the market with a large gap up. I'm sure that gap invited even more shorting but they got ran over as the shorts from the day before ran for cover. Now we have another group of shorts who are top picking at the 1400 resistance level and now they too are trapped albeit modestly at this point with the help of the capitulation of last week's shorts. It's the Olympic short squeeze relay as one group of bear bag holders passes the bag to the next!

This type of short squeeze relay can end up being a dead cat bounce, which once exhausted, leads to a sudden and abrupt decline or it can be the spark that ignites a larger, LT move. I get the feeling it's going to the former but there's a good chance we see one last squeeze to 1415+  first as there have been too many weak trader types betting against the market at 1400 from the looks of it. It seems unfathomable, but we are only 18 points away from making a new 4 year high in the stock market. I gotta tell you, Mr. Market always seems to find a way to make fools of everyone including me. I, like a lemming, have been expecting to see another downside scare for some time now and although I haven't lost any money betting on it, I've been wrong about that. Sure, I could be early and eventually proven right, but it just goes to show you how tricky and elusive Mr. Market can be. 

When I look at some LT variables like bond yields and the Euro, they are at levels are indicative of major bottoms in stocks. If you look at recent history, anytime bonds have had a strong multi-month advance accompanied by a strong multi-month decline in the Euro (a dual signal of major risk aversion) a LT bottom in equities was in view so it's quite conceivable the the June low was the bottom. But the strange thing is that despite the severity of the bond rally and accompanying  Eurodecline, the US equity market did not decline in kind. We only saw a 10% drop in stocks and with these strong trends in bonds and euro unwinding a bit, the market has rebounded a lot more relatively and is closing in on a new bull market high! I've been expecting a retest or at least another stab towards the June lows but I've been wrong so far. 

Here's the problem with this rally. We got oil prices zooming right back up with gas prices approaching the highs in the spring. We got a VIX that broke below 15 which has been a level associated with a market that's either at a top or on its way to one (limited upside). We also have Rydex and NAAIM numbers that suggest we're closer to the end of an intermediate term advance than the beginning of one. Lastly, there was significant gap up action in this advance which to me suggests "unhealthy upside action" (you will know what I mean by that if you've been reading this blog for some time).  So, in conclusion, if we do advance more here because of an continued short squeeze - and I think there's a good chance we will (minor dips aside), it will probably be a bull trap and lead to an abrupt downside move. I doubt it will be a crash but rather something scary enough to put the IT indicators back towards pessimistic readings. If that were to happen, then the market would be in much a better position to make one of those big, 30% multi-month advances to new highs.  

In the meantime, I will continue to look for ST trading setups. I haven't made any trades since that last little score last week. I want to play the squeeze to 1415+ I envision with an option play, but as of now I don't seen an attractive enough risk-reward set up.  

I should also say this...for months now, this market has been a favorable environment for ST traders who buy the dips and sell the rips while frustrating the trend traders and investors. That's likely going to reverse soon.  I'm fully aware that my willingness to engage in ST trading could be a sign that I'm late to the party and that we're probably close to the point where a big, sustained move up or down (I'm thinking up) in the not too distant future (could it have already started?). The problem with focusing on the ST all the time is that you get myopic and fail to adjust in timely manner when the market changes character. I will try my best to avoid doing that. Once the market is in a strong directional move, you will find that ST trading won't work nearly as good as long term position trading even if you're on the right side of the market. 

The temptations of speculation

New site feature

I've added a stocktwits feed to the blog on the right. Here I will post my trades and quick comments about the market.


As I've stated before, I'm going to partake in more speculative endeavors. I've always considered myself part investor, part speculator but since I've been trading full time I've emphasized the investor part a lot more. In fact, up until last Thursday, I haven't made a pure speculative trade since 2009.  I have engaged in speculative trading in the past with mixed results but since I've started trading full time (starting in late 2008) I have not resorted to it simply because from experience I know that in bull market conditions, the most effective strategy is a buy and hold one. I've also learned that that big money is made by identifying and riding the big trends. Most importantly, I've been good at this type of strategy vastly outperforming the market with less downside volatility. But when the market is sideways or in outright bear mode, a ST/IT trading approach is usually the optimal one.  This type of trading is just that....trading NOT investing and such trading is synonymous with speculating whereby you're focus is based purely on price action not fundamentals/value.

Most of the ledgends out there like Soros, Buffet, Templeton all had success using a fundamentals/value approach (although Soros also incorporates a speculative approach as well). I still believe that this is the best way to approach the market longer term. But if you look around the blogosphere and message boards you'll find that your average retail stock market player  take a pure ST speculative approach (with a permabear bias). I suspect the main reason why most people take such approach is because they seek instant gratification. They don't have the patience of these legends. They want to see the results quickly and they want to get rich quick too. Unfortunately, that's that's probably why most people fail in this game.  The market is often too random in the ST and sooner or later those who make large bets on ST trades get wiped out even if they had initial success. Having said that though, I believe there are times where lucrative ST trading opportunities present themselves but they don't present themselves everyday. You need to be patient in waiting for them. I made a really profitable, abliet very small trade last week. It produced a 850% gain in 1 day - the exact type of instant gratification, get rich quick trade that I spoke against of! It's easy to start thinking that you can find such trades every day or every week using size and that's when you'll blow your brains out giving back all your gains and more. I need to make sure I don't fall into that trap.

Embrace the beast or leave it alone

In previous posts I've talked about how for the third summer in a row now,  the market has been held hostage to the headlines, especially those that come out of Europe which makes ST trading treacherous as there tends to be resulting sizeable gap opens. I don't prefer this type of environment and I'm sure a lot of others don't either, but complaining about it is fruitless. You either try to find ways to exploit this type of market with a trading edge (which may mean radically changing your approach) or you step aside and wait for things to return to normal. Getting angry, whining and blaming others like "algos" or  central bankers for your mishaps ain't going to do anything except compound your losing ways. I see plenty of this going on.

So, is there a way to profit from this sideways, headline driven, gap happy market? The best way to have done so would be to pay attention to ST overbought/oversold indicators and bottom/top pick whenever the market gets oversold and overbought respectively. When you bottom or top pick, using tight stops is not the way to go in my book especially when the headline action appears random with the tendency for large gaps. Your tight stop will get leapfrogged if you're on the wrong side of these gaps. One method is to scale in and out but even if you use a scale, once you're fully committed you have to draw the line somewhere if the market keeps going against you, i.e. have a stop and that leaves you vulnerable to the gaps and whipsaws. Another way to consider trading ST is the use of options which is my preferred weapon of choice. With options I can make  "conviction bets" whereby I don't have to use a stop and thus don't risk getting whipsawed. This means I risk loosing 100% of my trade amount if I'm wrong but if I'm right I expect to make at least a 200% gain and so I don't have to risk a lot of capital due to this leverage. Sizing up favorable risk/reward scenarios, timing and of course luck play a part but I prefer making these type of bets. With weekly options now available on a variety of ETFs included leveraged ETFs, there are tremendous opportunities for option speculators and of course, temptations that should be avoided. Options are like explosives - they are very potent but if you don't know how to handle them you will quickly blow up yourself and most people do exactly that.

Last week I talked about how I failed to pull the trigger on SDS weekly puts twice and I would have been a big winner both times. Well this time, I actually pulled the trigger. It was for a tiny amount mind you, but at least I finally broke out of my shell. I bought Aug wk1 SDS 15 puts for .02 Thursday. Risky stuff, but with the market down 4 days in a row reaching ST oversold, expectations for Friday's payroll low and with the mood so sour after Draghi's "disappointment" I figured a lot of weak handed traders were short and would scramble if we got a payroll number around 170K and we could see a run towards 1400. Man, did I nail it.  I ended up selling the puts for 0.17 on average for an 8.5 bagger! Again, I didn't put much on the line so by no means did I make a fortune but at least I finally pulled that fucking trigger.  Had I pulled the trigger the other two times that would have made it 3 profitable option trades in a row for an average return of  about 450% per trade with a holding period of only 1 or 2 days!   Lucky? I'm sure it played a part. But I think I may have stumbled on something here. Now it just so happened to be that these trades (actual and contemplated) where 1-2 day holds which I don't expect to be the case on average.  These 3 opportunities just happen to coincide towards the week's end which made the weekly options cheap and therefore lucrative. I will now try to build upon my initial success in the wild, wild west. Now, if I was a rookie, I'd be beaming with overconfidence and bet a large amount on my next trade....not gonna happen with this wily veteran. I expect to see my fair share of duds with these trades but if can score these kind of multi-baggers it should more than make up for them.

Let's talk markets now. In the past few weeks I've talked about how I still expect to see at least one more downside scare. So far that hasn't happened aside from minor dips and here we are now closing in at 1400. A lot of bears I'm sure have hundreds of hair follicles littering there desks or have checked  themselves in to the funny farm . How could this be they say, when you have unresolved issues in Europe which is in a deep recession, a decelerating global economy and lackluster earnings season with lowered Q3 guidance? To this I say it's just Mr. Market doing his thing which is to make fools out of the most amount of people. It could be that problems out there have been too obvious and the marginal players (the ST traders, which now dominate the action) were leaning too much on the short side, which is what I suspected. When the market is in this type of "game of chicken" environment, it's especially important to pay attention to sentiment. How are other people positioned, in particular, the ST trader types?  Because it's traders right now (as opposed to LT money flow) that dominate the action. I've mentioned before that some trader type sentiment (Rydex ratio and NAAIM) are flashing  warning signs but these tend to be relevant to the intermediate term. The shorter term such as weekly AAII reading have and still aren't suggesting "too many bulls". AAII is now neutral with 1:1 bulls vs bears.

Another thing that tipped me off about Friday possibly being strong was how the market held up fairly well Thursday considering "Draghi's massive disappointment" according the media. The SPX only closed down 10 points. Is that all the bears could do? I said to myself. In this game of chicken you need to get a sense of what the other players are doing and capitalize when they are leaning too much in one direction. I did so once...on a very small scale. Maybe I was just lucky or maybe I was right. I think it was both.

Mario "Ivan" Draghi says "I must break you" to the bears

Whatever he hits...he destroys!  Ivan Draghi laid the smack down on the bears Thursday and Friday with his "whatever it takes to save the Euro" comment. After Thursday's morning pop, I'm sure a lot traders shorted it thinking "what a bullshit rally this is" and now after today they are being carried out on a stretcher. Like the last 2 summers, the market is extremely headline driven and headlines of importance are those that come out of Europe and since Europe opens before our markets, there is a tendency for large gaps. So, if you want to trade the ST wiggles successfully, you have to be willing to hold overnight positions gambling  hoping that the morning headlines will be favorable to you. The "buy the dips" and "sell the rips" strategy would have been a winner for the past couple of months assuming you would scale into positions not blowing your load on the first dip or rip.

I want to take more of a trader approach to the market at this point. For me that generally means trading the 1-4 week moves in the market but I've been finding that the market has been moving too quickly for me at the turning points. I would have to be forced to pick tops and bottoms, although I suppose that can be mitigated by scaling. I'm also having a problem with conflicting indicators which give me the case of "analysis paralysis". I need to simplify things and just pull the damn trigger. For instance, twice now I failed to pull the trigger on SDS weekly puts.  Last Thursday and again this Wednesday I had them on my radar. I wanted to see how the market would open the following day before pulling the trigger but the market had gaped up big and so the opportunity was lost. Had I attempted to bottom pick - which I would have nailed perfectly - I would have had 200-400% winners in just 1-2 days. Mind you, I would have bet quite small on such risky trades but I would have won instead of just sitting on my hands doing nothing. Doing nothing is what I've been doing for a quite some time and I'm tired of it. I realize though that trading for the sake of trading will usually backfire and I won't do that but for fuck sakes I need to just pull the fucking trigger sometimes and break out of my shell.  There will come a time when my classic "buy and hold" strategy will work again but I don't think that time is now. I'm sure there are some stocks out there that will turn out to be good buy and holds (and I believe my position in hwo.to is one of them) but until bull market conditions return, buying and holding is not the optimal strategy.  Having said that though, I'm not going to resort to daytrading either. To me that's as close to pure gambling as it gets. I'm sure there's some profitable daytraders out there but to me , I see it as far too random.

I could of course, continue to do nothing this summer and wait for the smoke to clear just like I did in the summers of 2010 and 2011 but I want to do better this time. Also, unlike those last 2 years, I don't have a sizeable gain for the year banked which made it easier to just sit and wait. Again, I realize the danger in trying to make something out of nothing so I need to make sure I only play the premium hands...but I need to play the fucking hand when it's dealt and not hesitate so much because in this market if you blink, your opportunity is gone. 

On the sentiment front, once again AAII showed a dominance of bears over bulls while NAAIM and the Rydex ratio are conflicting showing complacency. I mentioned last week, that despite the complacent conditions of other indicators, this extreme bearish AAII reading prevented me from making an IT downside bet. I was wondering how this confliction would be resolved and low and behold the AAII reading ended up signalling correctly that there was indeed too many bears. Perhaps though, this will only result in ST strength (which we now got) which will clear the way for a larger move down later. Another thing that prevented me from making an IT downside bet was the persistent strength in gov't bonds.  ST/IT tops tend to be proceeded by some sort of sell-off in bonds...it doesn't have to be huge....but at least something. Well, we finally got that today although it's a rather small sell-off given the move up they had.

On the fundamentals front, there's some troubling signs in earnings. This earnings season has not been that great. Remember, in the end its all about earnings...that's all that counts. This  article does a good job in highlighting the concerns. We've haven't seen the threat of earnings deceleration like this since the start of the bull market. One positive way to spin this is that expectations for Q3 earnings have been significantly reduced which makes it easier for upside surprises but I would counter that by saying you could see a situation where expectations are correctly lowered but not not lowered enough. Once there's a turning point in the economy, analysts tend to over or under estimate the new trend. I remember in late 2008 bears saying how foolish analysts were in their expectations for a significant rebound in 2009 earnings...well...it turns out they were right to expect a rebound but they weren't optimistic enough! So, it could turn out the be case that analysts are not downgrading earnings nearly enough  if the economy has indeed tipped towards a recession. Of course, if they are wrong and Q2 just turns out to be a slow patch then you will see a rip roaring rally in the last few months of the year...again.