the know-nothing investor

…money doesn't grow on trees, you know?

Month: February, 2015

2.BEST PRACTICES IN TRADING: MAKING TRADING FIT IN YOUR LIFE, by Brett Steenbarger, Ph.D.

It was a great honour that my example was chosen by Brett Steenbarger to be included in best practices series in his blog and in his upcoming Trading Psychology 2.0 book. Nothing better than sit in Brett Steenbarger’s virtual couch to improve our behavior in trading or investing.

It’s about me, but it could also be about anybody that is still figuring out the best way to be involved in markets.

“A common, but poorly recognized, cause of trading failure occurs when traders attempt to engage markets in ways that do not engage their greatest strengths and resources.  Daytrading and investment are two ways of participating in markets that are quite different in their demands.  The talented daytrader–one who can make decisions quickly based upon pattern recognition–can be very different from the talented investor, who often is one who possesses strong research and analytical skills.  The daytraders I have worked with have managed individual positions with a high degree of leverage.  The portfolio managers I have worked with have managed a large number of positions with a high degree of diversification.  It’s like sprinting and distance running:  both are track events, but they require quite different skills.

Today’s best practice comes from reader SMatos from Portugal (@TridionTrader).  He emphasizes the importance of finding an approach to markets that works for your lifestyle as well as your skill sets:

“When I started trading, I tried to be a trend follower because it was the method that suited me the most.  This way, I thought, I would be able to reconcile trading with my professional and family life.

Nevertheless, trading started consuming more time than I initially imagined.  With the pressure of everyday life, I became more anxious when I needed to make decisions, resulting in really poor decisions.  That resulted in losing 10% of my total capital.

In the next few years, I feel my life will not get easier, as I am the father of two small kids.  So I was compelled to adapt my trading method to fit my life and not the other way around.  Therefore I started a long-term investment in a diversified asset allocation portfolio.  Adapting the way I trade instead of the way I live and knowing that time will heal some of my mistakes has been really reassuring.  I’m making decisions fear-free and my results are becoming better and better.”

Note that Saul made two key adjustments to his trading:

1)  He extended his time frame, becoming more of an investor than a trader;

2)  He diversified his holdings, so that any single holding moving against him could not unduly damage his capital base.

The combination of these adjustments enable him to engage markets constructively without interfering with his other commitments.

I know traders who have developed effective methods for trading intraday and several day swings in markets, allowing them to make use of pattern recognition skills but also allowing them significant time away from screens.  Two traders I know limit themselves to trading patterns that set up at specific times of day, which again enables them to exploit their pattern recognition, but keeps them from becoming too caught up in market activity.

It’s necessary that your trading have an edge in your favor, but having an edge won’t help you if that edge is not one you can trade sustainably.  Saul’s insight is that trading has to fit into your life and not the reverse.” –  Best Practices in Trading: Making Trading Fit Into Your Life  – by Brett Steenbarger, Ph.D.

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11.MUST-HAVE ASSETS – PART II

Equities shares

This group is simpler, it’s all about stocks. Equities shares from around the world to be precise. But what to buy? As I said before I wasn’t a great stock picker so I decided to buy them all.  Equities ETFs from different parts of the world were the answer. This allowed me to be diversified by region, sector, market cap and currency, in a way I never imagined that I would have enough funds to do it so.

Those ETFs reply global indexes and therefore through one ETF you can have the best 500 companies of Europe, for example. It’s easy to decide what ETFs to have because you can divide the world in regions and buy ETFs that have companies from those regions. This means you can have ETFs from North America, South America, Europe, Oceania, Asia and Africa.

World regions also can be divided into developed and emerging economies, where in first group you have North America, Europe and Asia Pacific (Oceania plus Japan, Hong-Kong, Singapore, South Korea). Countries with emerging economies are normally found in the rest of Asia, South America and Africa. Developed countries tend to give smaller return than emerging economies, because it’s more difficult to have big growth in mature economies but they also represent less volatility to your portfolio.

Of what I’ve read and learnt the majority of portfolios have separate allocations for North America, Europe and Asia Pacific, but normally choose only one ETF for emerging countries. Which makes senses, because some regions doesn’t have enough countries with minimum conditions to have proper stock exchanges. Therefore I also opted for one ETF that includes the most important companies of emerging countries.  

North America

The ETFs of this region represent two of the biggest economies in the world, USA and Canada. The ETF should track a free float-adjusted market capitalization weighted index which is designed to measure the equity market performance of the North America. It is possible to choose an equal weighted ETF, which will give same value to all the companies in the index, but I prefer a weighted one because is closer to reality and that for me is reassuring (although it’s possible that equal weighted ETFs have better performance). Many portfolios prefer only to have stocks from US without Canadian ones.

USA

NorthAmerica

Europe

The Old Continent is not doing so well in recent years, but it is home of inumerous development economies such as Germany, United Kingdom and France. The european ETF should also track a free float-adjusted market capitalization weighted index that represents the equity market performance of the developed markets in Europe. Besides those countries, a european ETF normally also have stocks from these markets: Austria, Belgium, Denmark, Finland,, Ireland, Italy, the Netherlands, Norway, Portugal, Spain, Sweden and Switzerland.

EUROPE

Asia-Pacific

Japan has major role in this region and this means that last three decade Asia-Pacific indexes have been going sideways. Nevertheless, if you are really aiming for long term it is interesting to verify that the annualized rate of return of this region in the last 45 years is still greater than US or European ones. The Asia-Pacific ETF should be similar to the previous ones and it should track the performance of developed markets of that region. Australia, Hong Kong, Japan, New Zealand and Singapore are normally the covered countries

Pacific

EMERGING MARKETS

Great rate of returns come with high volatility. Although these countries have great potential for economic growth is also true that what would be a small problem in developed countries can be a major crises in emerging markets. Once more it’s important to choose a passive ETF that seeks to replicate an emerging market index. The index will represents the equity market performance of emerging markets. Emerging indexes normally follow these countries: Brazil, Chile, China, Colombia, Czech Republic, Egypt, Greece, Hungary, India, Indonesia, Korea, Malaysia, Mexico, Peru, Philippines, Poland, Qatar, Russia, South Africa, Taiwan, Thailand, Turkey and United Arab Emirates.

EMERMarkets

These are the regions that through ETFs it’s easy to be exposed to. Equities shares with geographic diversification should have the biggest chunk in your portfolio. They will give a boost to your account’s value when world economy is doing good. The rates of return mentioned in the charts don’t include rebalancing, so adding new money over years will for sure improve those returns and for my taste they are quite interesting.