ABB Stock Market Trading continued, Short Sell

My last post gave a brief overview of some of the results of my past studies applied on a current trading plan using only long trades, buying then selling.

This time I want to look at the short selling of the same stock.

I have run into the odd time when I was forced to cover a short position due to the broker's requirements but those are few and far between enough that I don't think I'll worry about it happening that much. Worst case, if a particular stock is difficult to short, I will drop that facet of the plan for that particular stock.

Short selling is basically you borrowing stock from the broker in order to sell it to someone else. The value of the stock at the time of "borrowing" will be the same value that your buyer purchases it at. The purchase transaction is held by the broker until the stock is returned. The idea is that if the price goes down, it is bought back by you (covered) at the now lower price and is returned to the broker. Technically you have managed to borrow an expensive item, sell it only to buy it back for cheaper. You get to keep the difference. This difference is deposited to your account once the transaction is completed.

The old adage of buying low and selling high remains the same except that it is also true to say that you can sell high and buy low.

The reason nobody likes to do this, less than 2% of traders ever short sell a stock, is that the implication is that if the price goes up, the difference now comes out of your account. While buying a stock the value could drop to zero and you lose 100% of the investment, shorting has no limit on the loss, in theory. Once it is short sold, the price has no technical limit and the loss could be greater than 100% of the value of the stock.

Of course this is why stop loss orders are used and adhered to.

The other side of the argument is that typically price moves down are much faster than moves up and a short sale tends to be a much shorter duration trade than the long. This means that the price moving against you is not likely to get away very fast.

On to ABB and the application of the newer methodology.

I'll use the same ideas as the long trading plan but I'll skip all the proving of single entries vs staged entries and fixed profit targets vs VTSO partial exits from the last post. Suffice it to say that trading with the trend, multiple entrys, VTSO exits all work whether the price is going up for a profit or going down for a profit.

With a win rate of slightly higher than 80% and a return of $7.13 per share The idea of short selling a stock certainly makes it worth considering. Compared to the 162% ROI from the long side, 142%, is nothing to ignore particularly when the combined return is $15.26 per share or 305%.

Off to apply this same methodology to all of my other data charts to see, hypothetically, what my returns could have been.

Jeff.

ABB Stock Market Trading

I've been playing around with one of my old trading plans for the last couple of weeks and pulled out my tracking chart for ABB. They happen to be a power and automation company (robots and power converters) but that really has no bearing on why I was following them as I had to look them up in order to find out what they really were.

Basically I feel that the charts tell the whole story and the price reflects that story. The issue I have always had with fundamental or value investing is that you must try to discern the story ahead of time. While some of the company's fundamental data will reflect it's overall health, it does not indicate what will happen tomorrow and certainly does not predict the future price. Although some make out well with this style of investing I just don't have the patience to sit on something long enough to find out that I was wrong in my assumptions.

If you look at Apple (AAPL), everyone thought that with the demise of Steve Jobs, Apple stock would drop. While it did for a short period, it certainly was only a blip in the price as it quickly surpassed the price that it had reached during Steve's reign. I sometimes give my butt a little kick for not buying it when I first looked at it, around $85. Meanwhile, it is not one of the stocks that I follow for the purpose of trading, the price is too high for my style of trading and account size.

Back to ABB.

This has been one of my worst performing selections so I figured what better one to choose for setting up my spreadsheet to re-run the old numbers through my improved simplified plan. Performance is relative to the plan implemented afterall. Of course I expected an overall loss based on the look of the historical chart and my previous simplified plan. Something like a $9.50 loss per share over a 10 year period while only trading long and running every setup. With a win rate of 37.5%, no wonder.

In almost all of my studies, trading with the trend has a better win rate. Simple trend determination just using a couple of simple moving averages and their cross overs. It doesn't need to be complicated as these are not trade indicators, just a quick guide to remove the subjective decision of whether or not a trend is up or down.

Switching to simple trend following, this loss drops to $2 per share with a 54.6% win rate.

Adding more trades using varied or staged entry targets bumps the total returns to $3.50 per share.

Part of the higher profitability of this version of the plan has to do with taking more trades overall with the idea that if the first trade stops out for a loss, the remaining individual trades based on the same trigger may not. This creates a greater edge, 14% greater as the new win rate is 68.6%. There are 72% more trades so in order to better compare them, the average return per trade was a $0.17 loss vs an $0.18 profit per trade.

Next, using the same plan but implementing a half trade trailing profit stop. A Virtual Trailing Stop Order (VTSO) will work well in this particular application. This could be applied a few ways but I would choose to enter the trades using the same method as above with the VTSO applied to half of the total trade. If the price proceeds to run up past the initial profit target, the VTSO will capture more profits than otherwise might be had. The very worst case once the initial profit target is hit is that the remaining half of the trade could stop out at break even, it will never turn into a loss at that point. Of course in all cases where the initial target is not hit, the entire trade stops out for a loss. The upside potential is greater than the downside which makes this style of trade worth the added complexity.

VTSO partial profit stop, $8.13 per share profit with the same win rate of 68.6%. Same trades, just managed differently.

Seeing as the stock started out around $5 when this plan starts, the overall Return On Investment... if you want to call this an investment... is over 162%. That, over 10 years, is certainly worth the effort.

It is worth mentioning that all of my results are based on nice even price numbers, 25, 50 cent increment or $1 depending upon the value of the stock at the time of the trade. Using the VTSO provides that the profit may be at a price relative to the penny increment moves of the price but will be above break even in all cases when the initial target is attained. This puts the real VTSO at a non-zero profit value almost immediately. Entries and exits are subject to a certain amount of slippage and variations in opening prices can affect the entries, although this, like the VTSO, would be in my favour as I use limit orders to enter and exit at targets. The real odd factor might be the overnight gap in price. Those occur but can go in either direction so they are tough to try factor in ahead of time. I figure that the odds are, while trading with a trend, better that the gap be in my favour but will concede a 50/50 shot at getting them right.

Next up, the short sell. This post is already too long.

Jeff.

Questrade, Customer Service

I've been meaning to call Questrade in order to reset my passwords and re-establish access as I haven't even looked at my accounts in quite a while now. I still receive the various client notices via email and that at least has kept me up to date with some of the new things that Questrade are doing.

New Inactivity Fee

One that had me a little concerned was the original idea of charging clients a $10 monthly inactivity fee unless there was at least one $4.95 commissionable transaction per month. That was to have been put into effect in July. They have since rescinded that idea and changed it to a quarterly fee of $20 and quarterly transaction requirement which doesn't kick in until until October.

All of this is moot if there is over $5,000 in combined assets in a client's accounts.

Due to my procrastination in calling, they called me. I got someone who knew what they were doing and looked after everything I needed as well as answered some basic questions regarding the new platforms and data fees. All in all they get a good grade for pro-active customer service.

I am looking forward to playing with the new IQ trading platform and browsing some of the new information that they have available.

Jeff.

Consistent High Win Rates in Active Trading

I've lost count of how many times I have started this post only to lose sight of what I was trying to convey. So I started over with the same basic idea, just a slightly different direction and frame of mind and removed all the technical crap.

I pulled out my most promising trading strategy a few weeks ago for some reviewing, which was the gist of what I was trying to get at. I used the same list of stocks that I had selected then, about two years ago, and reviewed all of the entry and exit ideas with updated charts to reflect current activity. Not much has changed. The performance of the strategy has remained relatively steady with win rates that are not only consistent, but quite respectable. I am not surprised as the strategy is simple enough that it eliminates the subjective decision making and turns the trading into a strictly cold, hard, rules based operation. In fact, the older trades that I looked back on were easily duplicated without any reference to the annotated charts and without any real thought or tough analysis.

I succumbed to the lure of instant gratification as I overlooked many of my trading plans, from the simple to the overly complicated, in favour of the faster moving day trading. I have taken a break from trading directly and have managed to refocus on what my goals are with a view to a longer timeline for trading.

Over the next few posts I will post some of the comparative results of my updated studies. I am even going to use some random stock selections and put my plan to the test to see how versatile it can be overall. I doubt that I will outline my entire plan as, like so many other ideas available online, they are not likely to be taken too seriously anyway. In the same vein as the rest of my blog, this is aimed mainly at tracking my own learning curve.

Jeff.

BMO Chart Followup

Here is a chart of Bank of Montreal (BMO) for the period that I wrote about in my last blog entry.

I bought my first share, as I mentioned, in January, 2008. Since then the price took a bit of a dive but has stabilized nicely.

If I were actively trading this one I would probably be sitting aside, but seeing as it is a DRIP there is no selling. Also, DRIP investment uses far less charting, in fact almost none, other than to do some tracking. Even then most people don't follow the prices of the stocks in any way other than to determine how much to send in for the OCP.

In the case of BMO, it was a no-brainer first choice. Right from their own investor dividend page:

"BMO Financial Group is the longest-running dividend-paying company in Canada. BMO’s policy is to pay out 45% to 55% of its earnings in dividends to shareholders over time."


This is one of the primary indicators to buy into a DRIP, longevity in dividend payments and stability in the fact that they have been around for a long time. Another factor is a history of increasing dividend amounts over time and a discount to buy shares with the re-invested dividends, 2% in BMO's case and they allow for up to 5% in the prospectus..


I'll get into my other holdings later.

Jeff.

BMO DRIP, the Real Deal

When I go into a book store to buy a book, or just to browse, I have a tendency to end up buying the first book that I pick up. As often as not, it ends up being the book that I seemed to need at the time even if it was not the book I went in for.

As it turns out, my trading plans could have been handled in the same manner. Although unlike books, where I know what the other books have to offer, trading plans are not so predictable... I just had to try them all.

My original was the Dividend Re-Investment Plan plan. I had charted long term growth potential based on a few presumptions, forecast best and worst case scenarios and plotted everything for over 30 year periods. The goal was not to create a profit through capital gains, although that would be nice as well, but to produce an income stream based on dividends and eventually through incremental dissolution of the shares if needed. This requires patience and a dogged determination to continually contribute to the plan as it is a long term retirement strategy.

I still have my original holdings for all of the DRIPs that I started, the first being Bank of Montreal, (BMO). In January of 2008 I bought my initial share and promptly sent in my first Optional Cash Payment (OCP) cheque for $300 and registered for the DRIP.

Now that I have some data from this DRIP I can go back and do a performance comparison, which I will do for all of my companies eventually.

My rules were simple. Contribute $300 per month into at least one of the company DRIP plans. Usually the company will purchase shares on my behalf once per month, but plans vary in when this is done. In all cases they use a particular closing figure for the cost and in some cases they may discount re-investment purchases by as much as 5%, (BMO is currently 2%). In order to produce a best and worst case scenario I took the monthly share prices and applied them to my purchase spreadsheet twice. Once was to use only the low values and the other was to use only the high values.

Keep in mind that an active trading plan involves buying and selling where the worst case assumes buying high and selling low which produces a loss right away... even buying and selling at break even eventually erodes the trading account due to arbitrage and commissions. There must be many trades that profit either more frequently than loose or profit much larger than the losing trades. It's not easy to stick to a plan in those cases.

Here is a chart showing the effectiveness of both the best and worst case scenarios for BMO over the last four years.

In an active trading plan the worst case is that all the initial money is lost. In the case of this DRIP, the worst case is a 10% variance in the un-realized gain of the plan overall. This gain is not the primary goal. The real difference is in the regular recurring dividend payments or yield. The overall difference in yields vary by less than 3% (21.4% difference in yields) and the current payment varies by 0.25% (18.1% difference in yields).

It would be reasonably safe to assume that the result would be somewhere in between these two results.

Considering the long term span of this sort of plan it isn't difficult to extrapolate 30 years of similar data. Assuming worst case from above and the current payment of $204 per quarter that is generated after 4 years and applying some simple linear math, the payment could easily be $1,500  per quarter ($6,000 per year). The thing is that this is not a simple continuance as the shares, OCPs and re-investments build on themselves in a non-linear fashion.

Jeff.