There are traders with divergent techniques but I think we can draw a few lessons from O’shea’s trading style. Have added my own commentary
Money management could be counter-productive if it’s inconsistent with underlying trade analysis. Many traders have the discipline to set exits and stick with them but make the critical mistake of determining the exit points as pain thresholds rather than price levels that disapprove their original trade premise. When they get out of a market position, they still believe the original idea was correct. As a result, there will be strong temptation to get back into the trade, leading to multiple losses on the same idea. First decide at what point your hypothesis will be wrong, then set exit.
I think it applies for fundamental traders as well, instead of buying more shares solely because the share is dropping it would be better checking whether the reasons that made you buy in the first place still hold before deciding on the next move.
You need to be early, the worst thing is being stubborn and late to convert. The best way to trade a bubble is to participate on the long side to profit from the excessive euphoria, not to try and pick tops, which is nearly impossible and an approach vulnerable to large losses if one is too early. Its easier to trade from the long side because its often relatively smooth. Two components necessary in trading a bubble. 1. Initiate a trade early in the bubble 2. Bubbles are prone to abrupt sharp downside reversals. Its critical that the long biased position is structured such that with worst case scenario is limited. If possible, hedge.
Although macro trades are based on fundamental market view, there does not always need to be a reason for the trade. Sometimes price action itself can reveal that something important is going on, even if the fundamental is not apparent. He cites a situation in the course of LTCM’s demise, an event that strongly impacted the market. He didn’t know the reason for the market action at the time, he reasoned that the magnitude of the move implied that there was an important fundamental development He quotes George Soros: Invest first, investigate later.
I think an example would be CiC, when it broke out, there was some skepticism at first from some traders, then rumors started surfacing as it rallied higher and by the time it was starting to get clear as to what the real reason was, it turned around and corrected lower. As long as price behavior is bullish and the company is good, might as well ride the move higher.
It’s important to not get attached to an idea and to always be willing to get out of a market position if price action is inconsistent with the trade hypothesis. He sites Soro’s master of flexibility who has no attachment to his trade and shows the least regret about getting out of a position of anyone he has ever met.
(Colm O’Shea is a macro trader and has never had a losing year. Majority of his track records spanning years at Citigroup and Soros Fund is not available to the public)
Fundamental analysis and technical analysis are the two major ways of analyzing financial markets.
Using fundamental analysis as a trading tool entails observing the trend of various macroeconomic indicators such as growth in output, interest rates, inflation, and unemployment. One combines all this information to assess current and future performance of financial assets. Traders employing fundamental analysis need to continually keep abreast of news and announcements that can indicate potential changes to the economic, social, and political environment.
The most important rule in fundamental analysis is that prices move primarily based on supply and demand. A financial asset trends upward because there is demand for it, regardless of the type of demand e.g. hedging or speculation. Asset movements are based on the need for that asset. Securities’ values decrease when there is excess supply. Supply and demand should be the real determinants for predicting future movements.
In technical analysis, historical price patterns are used to predict future movements. The assertion of technical analysis is that all current market information is already reflected in the price of assets; therefore, studying price action is all that is required to make informed trading decisions. In addition, technical analysis works under the assumption that history tends to repeat itself. The primary tool in technical analysis is charts. Charts are used to identify trends and patterns in order to find profit opportunities. The most basic concept of technical analysis is that markets have a tendency to trend. Being able to identify trends in their earliest stage of development is the key to technical analysis.
Technical analysis tools such as Fibonacci retracement levels, moving averages, oscillators, volume indicators and candlestick charts provide further information on the level of emotional extremes of buyers and sellers. This enables one to know where levels of greed and fear are the strongest.
Before implementing successful trading strategies, it is important to understand what drives the movements in financial markets. The best strategies tend to be the ones that combine both fundamental and technical analysis. Too often perfect technical formations have failed because of major fundamental events, the same occurs with fundamentals.
We have an upcoming IPO in a few months in the Nairobi stock exchange and we have had a history of where we rush to buy with the hope of cashing in on good profits quickly then the share plummets then sell it right at the bottom to smart money, case in example, Safaricom shares. Actually in all the IPOs I tracked before I wrote this including Facebook, the shares fell in value a short while after listing some even immediately after, making the odds of you making money in the short-term after buying stacked against you. Some like Trans-century have continued to trade below listing price for a period of time. To some extent, it has created negative publicity like in the case of Eveready where there were investors who borrowed heavily to buy the share. But why do shares fall after IPO? I will offer a list of possible explanations.
First of all, due to the hype usually surrounding IPOs, there has always been the assumption that investing in them gets you on the ground floor before everyone else, but in actual sense when you are investing, the share is usually on something like the 6-12th floor depending on the pricing of the share by the underwriter. By the time you are buying it from your broker, other parties usually have bought it much earlier through about 3-4 rounds of investments way below the price that is offered at the exchange, after all, investors deserve a reward for the risk of buying it before it listed. The commission that the underwriters get is also a function of the IPO plus at times IPOs usually offer an incentive for the initial investors to list as they can sell it at a premium.
Secondly underwriters often make officials and employees of the company to sign binding contracts not to sell the shares until expiry of a certain period of time which can vary from months to years in order to retain confidence in the company. When the period expires insiders try to sell their shares to realize profits at a premium to the price that they bought it at before listing. This results in oversupply in the market, couple that with panic selling due to lack of information with regards to the company financial performance and you have decent sell offs like what happened to Home Afrika where we saw an investor offloading a decent sized block of shares from around shs.6.
How can you make money from it? Before you buy it, it’s advisable to check the company financial information and valuation. If you think the valuation is good and they are likely to continue making profit then you can buy it and wait. Also find out what they intend to use the money they raise from the listing for. The second option is to buy it then flip the position immediately after the initial rally that usually occurs on the first day of listing. Institutions often do this and they make a lot of money from it, it’s flipping that in most circumstances causes the share to drop after listing. Brokers discourage this as they prefer buyers to hold onto the share. The third option is to buy it a year after listing when they have released financial information and when the share in most circumstances is usually trading at discounted prices.
Mathematically the odds are against you making money from an IPO. In fact if the company is weak (there is usually less information to validate this), then you might be as well be investing a Ponzi since the share will be relatively cheaper in a year for a better bargain. In case you get caught up in the buying euphoria, don’t panic, evaluate the company and if they meet your conditions of it being a good buy, then add more but if they don’t or don’t have evidence to substantiate, I would think you are better off diversifying into other favorable stocks to mitigate potential losses. Just don’t fall blindly for the publicity they generate, underwriters are essentially salesmen, it’s beneficial for them if the share gets plenty of buying interest. Good luck investing in the IPOs as we look forward to now about three companies planning to list, one in insurance, another in mining and then the NSE itself.