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Friday, June 26, 2009
Why Technical Analysis
When people find out I’m a trader, one of the first things they as is “what stock should I buy right now”? My answer, of course, is that I have no idea.
They want a buy-&-hold investment. They’re wrapped up in their own jobs and lives, and they wouldn’t notice something like a lower high or a high-volume reversal as a signal to bail out. They need some diversity, a long-term outlook, and most importantly, an advancing stock market.
I’m a technical trader with a short-term horizon. If something doesn’t act right, I can change my opinion in a heartbeat. I may even reverse my position. The market can stagnate and I can still make money. That’s the beauty of being short-term. I only have to be right for a limited time, ring the register, and then move on to the next trade.
When I try to explain why I select trades on a technical basis, several reasons always surface:
Short-term trades are all about supply and demand. Technical analysis is founded on price action, not fundamental trends over the course of a business cycle. I want something that can pay me today. Waiting for next year isn’t going to work for me. Chart patterns help me take notice of support, resistance, and momentum which will tell me whether I should be in or out of a stock. Knowing where buyers and sellers lurk provides me with opportunities to make money as I consider the emotions each group may be dealing with. Only technical analysis can reveal this.
Technical analysis of chart patterns provides me with good risk/reward setups. Trading is much more about money management than many give it credit for. By entering positions where I stand to lose only a little if I’m wrong but make much more if I’m right, my approach puts me at a big advantage. Finding chart patterns with a nearby stop-loss allows me to put my money to work with more confidence.
Trading on fundamentals puts me at a disadvantage. If I try to convince myself that my research of XYZ Company will reveal the same information that a multi-billion dollar fund can uncover, I’m kidding myself. Scouring Yahoo Finance in my spare time and trying to guess what next quarter will hold for a company will never compare to a research team that’s regularly in touch with management. The little guy doesn’t have access to the same info as the big dogs, so the playing field isn’t level.
I can compound my money faster. Technical trades are short-term in nature, so I’m in and out of the market much more frequently, compounding my money. Making 5 consecutive trades which each earn me 2% on my money will outpace the return of making one investment which shows me a 10% gain. Considering that fundamentals can take months, quarters, or even years to play out, I’m convinced that consistently hitting singles in the meantime will put me in the Hall of Fame without trying to uncover the next Microsoft or Cisco.
“Good companies” don’t always go up. The object is to turn a profit when my money is at risk. That means only one thing: if I’m buying a stock, it better be moving up. I don’t care if it’s a great company or not, if there’s no demand for it or no new money flowing into it, then it is not going higher. While a company may be great right now, how long will I have my money sitting in it before it is discovered? What opportunities might I miss elsewhere because I’m waiting for this one to pan out? No thanks! Good investments go up, not necessarily good companies.
Ultimately, I put my capital at risk only when opportunities present themselves, and preserve it the rest of the time. Trading with a technical approach allows me limit risk, maximize rewards, and even have a plan of action as I go.
They want a buy-&-hold investment. They’re wrapped up in their own jobs and lives, and they wouldn’t notice something like a lower high or a high-volume reversal as a signal to bail out. They need some diversity, a long-term outlook, and most importantly, an advancing stock market.
I’m a technical trader with a short-term horizon. If something doesn’t act right, I can change my opinion in a heartbeat. I may even reverse my position. The market can stagnate and I can still make money. That’s the beauty of being short-term. I only have to be right for a limited time, ring the register, and then move on to the next trade.
When I try to explain why I select trades on a technical basis, several reasons always surface:
Short-term trades are all about supply and demand. Technical analysis is founded on price action, not fundamental trends over the course of a business cycle. I want something that can pay me today. Waiting for next year isn’t going to work for me. Chart patterns help me take notice of support, resistance, and momentum which will tell me whether I should be in or out of a stock. Knowing where buyers and sellers lurk provides me with opportunities to make money as I consider the emotions each group may be dealing with. Only technical analysis can reveal this.
Technical analysis of chart patterns provides me with good risk/reward setups. Trading is much more about money management than many give it credit for. By entering positions where I stand to lose only a little if I’m wrong but make much more if I’m right, my approach puts me at a big advantage. Finding chart patterns with a nearby stop-loss allows me to put my money to work with more confidence.
Trading on fundamentals puts me at a disadvantage. If I try to convince myself that my research of XYZ Company will reveal the same information that a multi-billion dollar fund can uncover, I’m kidding myself. Scouring Yahoo Finance in my spare time and trying to guess what next quarter will hold for a company will never compare to a research team that’s regularly in touch with management. The little guy doesn’t have access to the same info as the big dogs, so the playing field isn’t level.
I can compound my money faster. Technical trades are short-term in nature, so I’m in and out of the market much more frequently, compounding my money. Making 5 consecutive trades which each earn me 2% on my money will outpace the return of making one investment which shows me a 10% gain. Considering that fundamentals can take months, quarters, or even years to play out, I’m convinced that consistently hitting singles in the meantime will put me in the Hall of Fame without trying to uncover the next Microsoft or Cisco.
“Good companies” don’t always go up. The object is to turn a profit when my money is at risk. That means only one thing: if I’m buying a stock, it better be moving up. I don’t care if it’s a great company or not, if there’s no demand for it or no new money flowing into it, then it is not going higher. While a company may be great right now, how long will I have my money sitting in it before it is discovered? What opportunities might I miss elsewhere because I’m waiting for this one to pan out? No thanks! Good investments go up, not necessarily good companies.
Ultimately, I put my capital at risk only when opportunities present themselves, and preserve it the rest of the time. Trading with a technical approach allows me limit risk, maximize rewards, and even have a plan of action as I go.
How I Select Trades
When looking for shorts, I want to see lower highs, downside volume and relative weakness to either the market or that particular stock’s sector. This indicates to me that pressure remains on the stock and the path of least resistance is still down. Any stock that is unable to participate in market strength gets my attention quickly.
The next morning, I set alerts in my CyberTrader Pro trading platform which will trigger when the stocks from the newsletter meet their breakout prices. Most of the time, I set these alerts to actually get me into the trades automatically for at least a partial position. I also set up my watch lists in Trade-Ideas Pro, which helps me to gauge momentum and relative volume. Their product is excellent, and is an essential part of my trading.
Super Blog Directory
The next morning, I set alerts in my CyberTrader Pro trading platform which will trigger when the stocks from the newsletter meet their breakout prices. Most of the time, I set these alerts to actually get me into the trades automatically for at least a partial position. I also set up my watch lists in Trade-Ideas Pro, which helps me to gauge momentum and relative volume. Their product is excellent, and is an essential part of my trading.
Super Blog Directory
How I Select Trades
As I move through the list, I keep a finger on the “F” key and “flag” the stocks which are good enough for a closer look. After screening the big list, I am left with about 50 flagged stocks which I look closer at to determine my trade candidates which will be in the swing trading newsletter. It is at this point that I separate the good from the great. I want stocks which are able to move. A stock like MSFT which sees daily changes of only a few cents is just not a candidate. I want potential for a good, quick profit. I also want to find tight setups where my stop is nearby. A wide, sloppy chart will add slippage and make it more difficult to know when to exit. This is why I often overlook momentum stocks which have already broken out. Why make trading any more difficult than it already is?
Volume is the next thing I will really key in on, as it is the best true measure of activity and just what the “big boys” are doing. Does volume support the overall look of the chart? Has there been more activity lately than normal which may indicate a move is about to occur? If so, then that stock makes my list.
Volume is the next thing I will really key in on, as it is the best true measure of activity and just what the “big boys” are doing. Does volume support the overall look of the chart? Has there been more activity lately than normal which may indicate a move is about to occur? If so, then that stock makes my list.
How I Select Trades
Now, how do I go about finding those trades? Each night I begin with all the stocks in the market and run some basic scans on them which filter out the low-dollar stocks and the low-volume stocks using TCNet, my charting software. Once I have the remaining list, which is typically about 1600 stocks, I sort that list by their close relative to that day’s range. This simply means the stocks at the top of the list finished the day near their highs, and the stocks at the bottom of the list finished near their lows. Sorting by this helps me to first find my likely long candidates and then move on to the short candidates, as I typically like continuation plays. Once the list is sorted, I use the spacebar to screen each stock in pretty rapid succession. Going through the list takes me about an hour. Simply scrolling through so many stocks each night also helps keep tabs on the overall market health.
How I Select Trades
Having said that, let me touch on the last comment regarding stops. One of the first things I want to know before I take a trade is how much I am likely to lose in case I am wrong (and I will definitely be wrong some of the time). This helps me to determine two things: position sizing and profit expectation. If I am willing to lose $1000.00 on a trade and the natural stop is 1 point away, then a position size of 1000 shares will be obvious. Furthermore, if I want to keep my reward-to-risk relationship at 3 or 4 to 1, then I would look to pull at least 3 times my potential loss out of the trade on the profit side. This would be a 3 point profit for this example.
How I Select Trades
How I Select Trades
Successful trading is about managing trades once you are in them, regardless of where they came from. I think a great trader could probably turn a profit taking random trades, as long as he manages them well. Now I do believe that finding quality chart patterns is essential, mostly because trading good setups in liquid stocks allows for the best risk/reward relationship on the front end. That is why I run my swing trading website – to highlight the best charts in the market for potential trades. My trade selection process is based on my ability to manage those trades, therefore I want to find only the best. Why not predetermine your stop in case you are wrong by taking the trades with a natural stop-loss nearby?
Successful trading is about managing trades once you are in them, regardless of where they came from. I think a great trader could probably turn a profit taking random trades, as long as he manages them well. Now I do believe that finding quality chart patterns is essential, mostly because trading good setups in liquid stocks allows for the best risk/reward relationship on the front end. That is why I run my swing trading website – to highlight the best charts in the market for potential trades. My trade selection process is based on my ability to manage those trades, therefore I want to find only the best. Why not predetermine your stop in case you are wrong by taking the trades with a natural stop-loss nearby?
Thursday, June 25, 2009
The role of stock exchanges
Stock exchanges have multiple roles in the economy, this may include the following
Raising capital for businesses
The Stock Exchange provide companies with the facility to raise capital for expansion through selling shares to the investing public.
Mobilizing savings for investment
When people draw their savings and invest in shares, it leads to a more rational allocation of resources because funds, which could have been consumed, or kept in idle deposits with banks, are mobilized and redirected to promote business activity with benefits for several economic sectors such as agriculture, commerce and industry, resulting in stronger economic growth and higher productivity levels and firms.
Facilitating company growth
Companies view acquisitions as an opportunity to expand product lines, increase distribution channels, hedge against volatility, increase its market share, or acquire other necessary business assets. A takeover bid or a merger agreement through the stock market is one of the simplest and most common ways for a company to grow by acquisition or fusion.
Profit sharing
Both casual and professional stock investors, through dividends and stock price increases that may result in capital gains, will share in the wealth of profitable businesses.
Corporate governance
By having a wide and varied scope of owners, companies generally tend to improve on their management standards and efficiency in order to satisfy the demands of these shareholders and the more stringent rules for public corporations imposed by public stock exchanges and the government. Consequently, it is alleged that public companies (companies that are owned by shareholders who are members of the general public and trade shares on public exchanges) tend to have better management records than privately-held companies (those companies where shares are not publicly traded, often owned by the company founders and/or their families and heirs, or otherwise by a small group of investors). However, some well-documented cases are known where it is alleged that there has been considerable slippage in corporate governance on the part of some public companies. The dot-com bubble in the early 2000s, and the subprime mortgage crisis in 2007-08, are classical examples of corporate mismanagement. Companies like Pets.com (2000), Enron Corporation (2001), One.Tel (2001), Sunbeam (2001), Webvan (2001), Adelphia (2002), MCI WorldCom (2002), Parmalat (2003), American International Group (2008), Lehman Brothers (2008), and Satyam Computer Services (2009) were among the most widely scrutinized by the media.
Creating investment opportunities for small investors
As opposed to other businesses that require huge capital outlay, investing in shares is open to both the large and small stock investors because a person buys the number of shares they can afford. Therefore the Stock Exchange provides the opportunity for small investors to own shares of the same companies as large investors.
Government capital-raising for development projects
Governments at various levels may decide to borrow money in order to finance infrastructure projects such as sewage and water treatment works or housing estates by selling another category of securities known as bonds. These bonds can be raised through the Stock Exchange whereby members of the public buy them, thus loaning money to the government. The issuance of such bonds can obviate the need to directly tax the citizens in order to finance development, although by securing such bonds with the full faith and credit of the government instead of with collateral, the result is that the government must tax the citizens or otherwise raise additional funds to make any regular coupon payments and refund the principal when the bonds mature.
Barometer of the economy
At the stock exchange, share prices rise and fall depending, largely, on market forces. Share prices tend to rise or remain stable when companies and the economy in general show signs of stability and growth. An economic recession, depression, or financial crisis could eventually lead to a stock market crash. Therefore the movement of share prices and in general of the stock indexes can be an indicator of the general trend in the economy.
Raising capital for businesses
The Stock Exchange provide companies with the facility to raise capital for expansion through selling shares to the investing public.
Mobilizing savings for investment
When people draw their savings and invest in shares, it leads to a more rational allocation of resources because funds, which could have been consumed, or kept in idle deposits with banks, are mobilized and redirected to promote business activity with benefits for several economic sectors such as agriculture, commerce and industry, resulting in stronger economic growth and higher productivity levels and firms.
Facilitating company growth
Companies view acquisitions as an opportunity to expand product lines, increase distribution channels, hedge against volatility, increase its market share, or acquire other necessary business assets. A takeover bid or a merger agreement through the stock market is one of the simplest and most common ways for a company to grow by acquisition or fusion.
Profit sharing
Both casual and professional stock investors, through dividends and stock price increases that may result in capital gains, will share in the wealth of profitable businesses.
Corporate governance
By having a wide and varied scope of owners, companies generally tend to improve on their management standards and efficiency in order to satisfy the demands of these shareholders and the more stringent rules for public corporations imposed by public stock exchanges and the government. Consequently, it is alleged that public companies (companies that are owned by shareholders who are members of the general public and trade shares on public exchanges) tend to have better management records than privately-held companies (those companies where shares are not publicly traded, often owned by the company founders and/or their families and heirs, or otherwise by a small group of investors). However, some well-documented cases are known where it is alleged that there has been considerable slippage in corporate governance on the part of some public companies. The dot-com bubble in the early 2000s, and the subprime mortgage crisis in 2007-08, are classical examples of corporate mismanagement. Companies like Pets.com (2000), Enron Corporation (2001), One.Tel (2001), Sunbeam (2001), Webvan (2001), Adelphia (2002), MCI WorldCom (2002), Parmalat (2003), American International Group (2008), Lehman Brothers (2008), and Satyam Computer Services (2009) were among the most widely scrutinized by the media.
Creating investment opportunities for small investors
As opposed to other businesses that require huge capital outlay, investing in shares is open to both the large and small stock investors because a person buys the number of shares they can afford. Therefore the Stock Exchange provides the opportunity for small investors to own shares of the same companies as large investors.
Government capital-raising for development projects
Governments at various levels may decide to borrow money in order to finance infrastructure projects such as sewage and water treatment works or housing estates by selling another category of securities known as bonds. These bonds can be raised through the Stock Exchange whereby members of the public buy them, thus loaning money to the government. The issuance of such bonds can obviate the need to directly tax the citizens in order to finance development, although by securing such bonds with the full faith and credit of the government instead of with collateral, the result is that the government must tax the citizens or otherwise raise additional funds to make any regular coupon payments and refund the principal when the bonds mature.
Barometer of the economy
At the stock exchange, share prices rise and fall depending, largely, on market forces. Share prices tend to rise or remain stable when companies and the economy in general show signs of stability and growth. An economic recession, depression, or financial crisis could eventually lead to a stock market crash. Therefore the movement of share prices and in general of the stock indexes can be an indicator of the general trend in the economy.
The First Stock Exchanges
In 11th century France the courtiers de change were concerned with managing and regulating the debts of agricultural communities on behalf of the banks. As these men also traded in debts, they could be called the first brokers.
Some stories suggest that the origins of the term "bourse" come from the Latin bursa meaning a bag because, in 13th century Bruges, the sign of a purse (or perhaps three purses), hung on the front of the house where merchants met.
House Ter Beurze in Bruges, Belgium.However, it is more likely that in the late 13th century commodity traders in Bruges gathered inside the house of a man called Van der Burse, and in 1309 they institutionalized this until now informal meeting and became the "Bruges Bourse". The idea spread quickly around Flanders and neighbouring counties and "Bourses" soon opened in Ghent and Amsterdam.
In the middle of the 13th century, Venetian bankers began to trade in government securities. In 1351, the Venetian Government outlawed spreading rumors intended to lower the price of government funds. There were people in Pisa, Verona, Genoa and Florence who also began trading in government securities during the 14th century. This was only possible because these were independent city states ruled by a council of influential citizens, not by a duke.
The Dutch later started joint stock companies, which let shareholders invest in business ventures and get a share of their profits—or losses. In 1602, the Dutch East India Company issued the first shares on the Amsterdam Stock Exchange. It was the first company to issue stocks and bonds. In 1688, the trading of stocks began on a stock exchange in London.
On May 17, 1792, twenty-four supply brokers signed the Buttonwood Agreement outside 68 Wall Street in New York underneath a buttonwood tree. On March 8, 1817, properties got renamed to New York Stock & Exchange Board. In the 19th century, exchanges (generally famous as futures exchanges) got substantiated to trade futures contracts and then choices contracts.
There are now a large number of stock exchanges in the world.
Some stories suggest that the origins of the term "bourse" come from the Latin bursa meaning a bag because, in 13th century Bruges, the sign of a purse (or perhaps three purses), hung on the front of the house where merchants met.
House Ter Beurze in Bruges, Belgium.However, it is more likely that in the late 13th century commodity traders in Bruges gathered inside the house of a man called Van der Burse, and in 1309 they institutionalized this until now informal meeting and became the "Bruges Bourse". The idea spread quickly around Flanders and neighbouring counties and "Bourses" soon opened in Ghent and Amsterdam.
In the middle of the 13th century, Venetian bankers began to trade in government securities. In 1351, the Venetian Government outlawed spreading rumors intended to lower the price of government funds. There were people in Pisa, Verona, Genoa and Florence who also began trading in government securities during the 14th century. This was only possible because these were independent city states ruled by a council of influential citizens, not by a duke.
The Dutch later started joint stock companies, which let shareholders invest in business ventures and get a share of their profits—or losses. In 1602, the Dutch East India Company issued the first shares on the Amsterdam Stock Exchange. It was the first company to issue stocks and bonds. In 1688, the trading of stocks began on a stock exchange in London.
On May 17, 1792, twenty-four supply brokers signed the Buttonwood Agreement outside 68 Wall Street in New York underneath a buttonwood tree. On March 8, 1817, properties got renamed to New York Stock & Exchange Board. In the 19th century, exchanges (generally famous as futures exchanges) got substantiated to trade futures contracts and then choices contracts.
There are now a large number of stock exchanges in the world.
Wednesday, June 24, 2009
Introduction. Are you new to investing?
Introduction. Are you new to investing? Do you want to know the "How" and "When" to invest? If so, you're in the right place.
Most likely you already know how to invest. Most of us, if not all, have invested all our lives.
When you went to school, you invested your time to get something in return, education.
The point is, if you really think about it, you do a lot of investing, all the time. Maybe not in stocks but in life itself.
When you buy a car, not a traditional investment, but still you get something out of it, it just doesn't have a lot of residual value left after it's paid off.
Don't you wish you could short cars, like you can stocks.
A house is a great investment, if not for the housing bubble. But still, over time, property values rise which makes for an excellent investment.
Clothes! What? Clothes? Now that I regained your attention, to invest, you need RULES and most importantly DISCIPLINE. You also need to understand the basics of investing.
Ok, show of hands. Be honest now!
Most likely you already know how to invest. Most of us, if not all, have invested all our lives.
When you went to school, you invested your time to get something in return, education.
The point is, if you really think about it, you do a lot of investing, all the time. Maybe not in stocks but in life itself.
When you buy a car, not a traditional investment, but still you get something out of it, it just doesn't have a lot of residual value left after it's paid off.
Don't you wish you could short cars, like you can stocks.
A house is a great investment, if not for the housing bubble. But still, over time, property values rise which makes for an excellent investment.
Clothes! What? Clothes? Now that I regained your attention, to invest, you need RULES and most importantly DISCIPLINE. You also need to understand the basics of investing.
Ok, show of hands. Be honest now!
Pakistan's stock market roaring
Pakistan's stock market roaring
April 8, 2008 - 6:45PM
Advertisement
Asia's only rising stock market claims several reasons for its bullish streak, including recent political stability.
The Karachi Stock Exchange also shines on strong fundamentals and technical reasons, analysts say.
Looking at a turbulent 2007, a quick examination of the first three months of 2008 Pakistan's benchmark KSE-100 Index appears as a car without breaks.
Already the KSE-100 has closed at records highs several times this year, the latest at a record 15,472 on April 4.
"Don't worry the market will easily touch the 16,000 mark by the end of this month, or within 30 days," says Ateeq Ahmad, a senior analyst for technical trends at Capital One Equities.
Analysts are unanimous in seeing political stability and prospects of overall improvement in law and order in the country as two chief driving factors for the index.
To them the recent formation of coalition governments at both federal and provincial levels following the February 18 general elections, hailed as free and fair, signals future political stability in the country. It also triggers hopes for a domestic solution to quell Islamic insurgency in the restive northern province and the spate of suicide bombings all over Pakistan.
But this positive picture emerges out of gloom. Last December 31 the Karachi Stock Exchange witnessed its largest single drop in the KSE-100 index of 696 points. That was its first day open after the December 27 assassination of former prime minister and a charismatic pro-western political leader, Benazir Bhutto, who was chairperson of now ruling Pakistan Peoples Party (PPP).
Throughout January and early February the market behaved skittishly and fell from nearly 15,000 points before the assassination to below 13,600.
"The fear of a massive outflow of foreign investment at the country's equity market (after Bhutto's assassination) sidelined the market participants amid a decline in the international markets of global depository receipts," said Hasnain Asghar at Aziz Fidahusein brokerage house.
But since the February 18 general elections, the market has overcome all its lost traction and seems set to reach new dizzying heights. The market's current capitalisation stands above $US75 billion ($A81.1 billion) or around $US10 billion ($A10.81 billion) higher than July 2007.
The record closings have ridden the news of a coalition alliance between PPP and local Muttehedda Qaumi Movement in southern Sindh province, where Pakistan's largest industrial city Karachi is the provincial capital.
Since forming a federal government, the PPP led by Bhutto's widower Asif Zardari, is streaking a patchwork of countrywide coalition alliances, representing almost all minor and major parties of all ideologies.
Though some political pundits have doubts over seeing the new long list of convenient friends of the PPP, the market analysts are optimistic. "I think the coalitions are durable and long term," said Ateeq Ahmad.
Ahmad also said continued strong buying by institutional investors showed the market is fundamentally strong.
"Institutional investors keep providing huge liquidity in the market," he said.
The market has already absorbed anticipated news of higher inflation and a slight increase in trade deficit due to rising oil prices during the first quarter, said Farhan Rizvi, deputy head of research at JS Global Capital.
He called the recent promise by China to help Pakistan with 500 million ($A540.6 million) to support its balance of payments - due to record high international oil prices - as a big positive indicator.
"In hindsight, a low level of contribution by foreign investors is also a sign of strength for the market as it is immune from the current global slump," Rizvi said, noting the market is purely supported by domestic investors, particularly by local institutional investors.
He said foreign investors would soon enter after seeing a continued domestic buying spree. The current share of international foreign investors in the KSE is comparatively small at between six and seven per cent.
The expected news that Pakistan would soon be rejoining the Commonwealth club will also encourage foreign investors, Rizvi said
Pakistan's membership in the Commonwealth, an alliance of former British colonies, was suspended when then-military dictator and now civilian President Pervez Musharraf imposed emergency rule last year.
April 8, 2008 - 6:45PM
Advertisement
Asia's only rising stock market claims several reasons for its bullish streak, including recent political stability.
The Karachi Stock Exchange also shines on strong fundamentals and technical reasons, analysts say.
Looking at a turbulent 2007, a quick examination of the first three months of 2008 Pakistan's benchmark KSE-100 Index appears as a car without breaks.
Already the KSE-100 has closed at records highs several times this year, the latest at a record 15,472 on April 4.
"Don't worry the market will easily touch the 16,000 mark by the end of this month, or within 30 days," says Ateeq Ahmad, a senior analyst for technical trends at Capital One Equities.
Analysts are unanimous in seeing political stability and prospects of overall improvement in law and order in the country as two chief driving factors for the index.
To them the recent formation of coalition governments at both federal and provincial levels following the February 18 general elections, hailed as free and fair, signals future political stability in the country. It also triggers hopes for a domestic solution to quell Islamic insurgency in the restive northern province and the spate of suicide bombings all over Pakistan.
But this positive picture emerges out of gloom. Last December 31 the Karachi Stock Exchange witnessed its largest single drop in the KSE-100 index of 696 points. That was its first day open after the December 27 assassination of former prime minister and a charismatic pro-western political leader, Benazir Bhutto, who was chairperson of now ruling Pakistan Peoples Party (PPP).
Throughout January and early February the market behaved skittishly and fell from nearly 15,000 points before the assassination to below 13,600.
"The fear of a massive outflow of foreign investment at the country's equity market (after Bhutto's assassination) sidelined the market participants amid a decline in the international markets of global depository receipts," said Hasnain Asghar at Aziz Fidahusein brokerage house.
But since the February 18 general elections, the market has overcome all its lost traction and seems set to reach new dizzying heights. The market's current capitalisation stands above $US75 billion ($A81.1 billion) or around $US10 billion ($A10.81 billion) higher than July 2007.
The record closings have ridden the news of a coalition alliance between PPP and local Muttehedda Qaumi Movement in southern Sindh province, where Pakistan's largest industrial city Karachi is the provincial capital.
Since forming a federal government, the PPP led by Bhutto's widower Asif Zardari, is streaking a patchwork of countrywide coalition alliances, representing almost all minor and major parties of all ideologies.
Though some political pundits have doubts over seeing the new long list of convenient friends of the PPP, the market analysts are optimistic. "I think the coalitions are durable and long term," said Ateeq Ahmad.
Ahmad also said continued strong buying by institutional investors showed the market is fundamentally strong.
"Institutional investors keep providing huge liquidity in the market," he said.
The market has already absorbed anticipated news of higher inflation and a slight increase in trade deficit due to rising oil prices during the first quarter, said Farhan Rizvi, deputy head of research at JS Global Capital.
He called the recent promise by China to help Pakistan with 500 million ($A540.6 million) to support its balance of payments - due to record high international oil prices - as a big positive indicator.
"In hindsight, a low level of contribution by foreign investors is also a sign of strength for the market as it is immune from the current global slump," Rizvi said, noting the market is purely supported by domestic investors, particularly by local institutional investors.
He said foreign investors would soon enter after seeing a continued domestic buying spree. The current share of international foreign investors in the KSE is comparatively small at between six and seven per cent.
The expected news that Pakistan would soon be rejoining the Commonwealth club will also encourage foreign investors, Rizvi said
Pakistan's membership in the Commonwealth, an alliance of former British colonies, was suspended when then-military dictator and now civilian President Pervez Musharraf imposed emergency rule last year.
Quote
Hardly a week goes by without the implosion of a hedge fund. Last week it was Carlyle Capital, with an astonishing $31 of debt for each dollar of equity. But we should not be surprised. These collapses are inherent in the hedge-fund model. It is even conceivable that this model will join securitised subprime mortgages on the scrap heap.
Getting away with producing adulterated milk is hard; getting away with an investment strategy that adds no value is not. That was the point made by John Kay, in a superb column last week (this page, March 11). With the “right” fee structure mediocre investment managers may become rich as they ensure that their investors cease to remain so.
Two distinguished academics, Dean Foster at the Wharton School of the University of Pennsylvania and Peyton Young of Oxford university and the Brookings Institution, explain the point beautifully*. They start by asking us to consider a rare event – that the stock market will fall by 20 per cent over the next 12 months, for example. They assume, too, that the options market prices this risk correctly, say at one in 10. An option costs $0.1 and pays out $1.
Now imagine that we set up a hedge fund with $100m from investors on the normal terms of 2 per cent management fees and 20 per cent of the return above a benchmark. We put our $100m in Treasury bills yielding 4 per cent. We also sell 100m covered options on the event, which nets us $10m. We put this $10m, too, in Treasury bills, which allows us to sell another 10m options. This nets another $1m. Then we go on holiday.
There is a 90 per cent chance that this bet will pay off in the first year. The fund then grosses $11m on the sale of the options, plus 4 per cent interest on the $110m in Treasury bills, for a handsome 15.4 per cent return. Our investors are delighted. Assume our benchmark was 4 per cent. We then earn $2m in management fees, plus 20 per cent of $11.4m, which amounts to over $4m gross. Whatever subsequently happens, we need never give this money back.
The chances are nearly 60 per cent that the bad event will not occur over five years. Since the fund is compounding at a rate of 11.4 per cent a year after fees, we will make well over $20m even if no new money is attracted into this apparently stellar enterprise. In the long run, however, the bad event is highly likely to occur. Since we have made huge profits, our investors have paid us handsomely for the near certainty of losing them money.
The immediate response may be that so naked a scam is inconceivable. Well, imagine a fund that leverages investors’ money by borrowing massively in short-term money markets in order to purchase higher-yielding paper. Assume, again, that the premium gives a correct estimate of the risk. With sufficient leverage, this fund, too, is likely to make profits for years. But it is also very likely to be wiped out, at some point. Does this strategy sound familiar? It certainly should by now.
We can identify two huge problems to be solved. First, many investment strategies have the characteristics of a “Taleb distribution”, after Nicholas Taleb, author of Fooled by Randomness. At its simplest, a Taleb distribution has a high probability of a modest gain and a low probability of huge losses in any period.
Second, the systems of reward fail to align the interests of managers with those of investors. As a result, the former have an incentive to exploit such distributions for their own benefit.
Professors Foster and Young argue that it is extremely hard to resolve these difficulties. It is particularly difficult to know whether a manager is skilful rather than lucky. In their telling example, the chances are more than 10 per cent that the fund will run for 20 years without being exposed. In other words, even after 20 years the outside investor cannot be confident that the results were not being generated by luck or a scam.
It is also tricky to align the interests of managers with those of investors. Obvious possibilities include rewarding managers on the basis of final returns, forcing them to hold a sizeable equity stake or levying penalties for underperformance.
None of these solutions solves the problem of distinguishing luck from skill. The first also encourages managers to take sizeable risks when they are close to the return at which payouts begin. Managers can evade the effects of the second alternative by taking positions in derivatives, which may be hard to police. Finally, even under the apparently attractive final alternative it appears that any clawback contract harsh enough to keep unskilled managers away will also discourage skilled ones.
It is obviously best not to pay the manager, as a manager, at all, but rather to invest alongside him, as at Berkshire Hathaway, Warren Buffett’s investment company. But we still have the challenge of knowing whether the manager is any good. We know this today of Mr Buffett. Fifty years ago, that would have been very hard to know.
What we have then is a huge “lemons” problem: in this business it is really hard to distinguish talented managers from untalented ones. For this reason, the business is bound to attract the unscrupulous and unskilled, just as such people are attracted to dealing in used cars (which was the original example of a market in lemons). The lemons theorem states that such markets are likely to disappear. The same may happen to today’s hedge-fund industry.
Now consider the financial sector as a whole: it is, again, hard either to distinguish skill from luck or to align the interests of management, staff, shareholders and the public. It is in the interests of insiders to game the system by exploiting the returns from higher probability events. This means that businesses will suddenly blow up when the low probability disaster occurs, as happened spectacularly at Northern Rock and Bear Stearns.
Moreover, if these unfavourable events – stock market crashes, mortgage failures, liquidity freezes – come in stampeding herds (because so many managers copy one another), they will say: “Nobody could have expected this, but, now that it has happened to all of us the government must come to the rescue.”
The more one believes this is how an unregulated financial system operates, the more worried one has to become. Rescue from this crisis may be on the way, but what about next time and the time after next?
*Hedge Fund Wizards, and The Hedge Fund Game, January 2008
Getting away with producing adulterated milk is hard; getting away with an investment strategy that adds no value is not. That was the point made by John Kay, in a superb column last week (this page, March 11). With the “right” fee structure mediocre investment managers may become rich as they ensure that their investors cease to remain so.
Two distinguished academics, Dean Foster at the Wharton School of the University of Pennsylvania and Peyton Young of Oxford university and the Brookings Institution, explain the point beautifully*. They start by asking us to consider a rare event – that the stock market will fall by 20 per cent over the next 12 months, for example. They assume, too, that the options market prices this risk correctly, say at one in 10. An option costs $0.1 and pays out $1.
Now imagine that we set up a hedge fund with $100m from investors on the normal terms of 2 per cent management fees and 20 per cent of the return above a benchmark. We put our $100m in Treasury bills yielding 4 per cent. We also sell 100m covered options on the event, which nets us $10m. We put this $10m, too, in Treasury bills, which allows us to sell another 10m options. This nets another $1m. Then we go on holiday.
There is a 90 per cent chance that this bet will pay off in the first year. The fund then grosses $11m on the sale of the options, plus 4 per cent interest on the $110m in Treasury bills, for a handsome 15.4 per cent return. Our investors are delighted. Assume our benchmark was 4 per cent. We then earn $2m in management fees, plus 20 per cent of $11.4m, which amounts to over $4m gross. Whatever subsequently happens, we need never give this money back.
The chances are nearly 60 per cent that the bad event will not occur over five years. Since the fund is compounding at a rate of 11.4 per cent a year after fees, we will make well over $20m even if no new money is attracted into this apparently stellar enterprise. In the long run, however, the bad event is highly likely to occur. Since we have made huge profits, our investors have paid us handsomely for the near certainty of losing them money.
The immediate response may be that so naked a scam is inconceivable. Well, imagine a fund that leverages investors’ money by borrowing massively in short-term money markets in order to purchase higher-yielding paper. Assume, again, that the premium gives a correct estimate of the risk. With sufficient leverage, this fund, too, is likely to make profits for years. But it is also very likely to be wiped out, at some point. Does this strategy sound familiar? It certainly should by now.
We can identify two huge problems to be solved. First, many investment strategies have the characteristics of a “Taleb distribution”, after Nicholas Taleb, author of Fooled by Randomness. At its simplest, a Taleb distribution has a high probability of a modest gain and a low probability of huge losses in any period.
Second, the systems of reward fail to align the interests of managers with those of investors. As a result, the former have an incentive to exploit such distributions for their own benefit.
Professors Foster and Young argue that it is extremely hard to resolve these difficulties. It is particularly difficult to know whether a manager is skilful rather than lucky. In their telling example, the chances are more than 10 per cent that the fund will run for 20 years without being exposed. In other words, even after 20 years the outside investor cannot be confident that the results were not being generated by luck or a scam.
It is also tricky to align the interests of managers with those of investors. Obvious possibilities include rewarding managers on the basis of final returns, forcing them to hold a sizeable equity stake or levying penalties for underperformance.
None of these solutions solves the problem of distinguishing luck from skill. The first also encourages managers to take sizeable risks when they are close to the return at which payouts begin. Managers can evade the effects of the second alternative by taking positions in derivatives, which may be hard to police. Finally, even under the apparently attractive final alternative it appears that any clawback contract harsh enough to keep unskilled managers away will also discourage skilled ones.
It is obviously best not to pay the manager, as a manager, at all, but rather to invest alongside him, as at Berkshire Hathaway, Warren Buffett’s investment company. But we still have the challenge of knowing whether the manager is any good. We know this today of Mr Buffett. Fifty years ago, that would have been very hard to know.
What we have then is a huge “lemons” problem: in this business it is really hard to distinguish talented managers from untalented ones. For this reason, the business is bound to attract the unscrupulous and unskilled, just as such people are attracted to dealing in used cars (which was the original example of a market in lemons). The lemons theorem states that such markets are likely to disappear. The same may happen to today’s hedge-fund industry.
Now consider the financial sector as a whole: it is, again, hard either to distinguish skill from luck or to align the interests of management, staff, shareholders and the public. It is in the interests of insiders to game the system by exploiting the returns from higher probability events. This means that businesses will suddenly blow up when the low probability disaster occurs, as happened spectacularly at Northern Rock and Bear Stearns.
Moreover, if these unfavourable events – stock market crashes, mortgage failures, liquidity freezes – come in stampeding herds (because so many managers copy one another), they will say: “Nobody could have expected this, but, now that it has happened to all of us the government must come to the rescue.”
The more one believes this is how an unregulated financial system operates, the more worried one has to become. Rescue from this crisis may be on the way, but what about next time and the time after next?
*Hedge Fund Wizards, and The Hedge Fund Game, January 2008
Saturday, June 13, 2009
Stock Market
A stock market is a public market for the trading of company stock and derivatives at an agreed price; these aresecurities listed on a stock exchange as well as those only traded privately.
The size of the world stock market was estimated at about $36.6 trillion US at the beginning of October 2008. [1]The total world derivatives market has been estimated at about $791 trillion face or nominal value, [2] 11 times the size of the entire world economy. [3] The value of the derivatives market, because it is stated in terms ofnotional values, cannot be directly compared to a stock or a fixed income security, which traditionally refers to an actual value. Moreover, the vast majority of derivatives 'cancel' each other out (i.e., a derivative 'bet' on an event occurring is offset by a comparable derivative 'bet' on the event not occurring.). Many such relatively illiquid securities are valued as marked to model, rather than an actual market price.
The stocks are listed and traded on stock exchanges which are entities of a corporation or mutual organization specialized in the business of bringing buyers and sellers of the organizations to a listing of stocks and securities together. The stock market in the United States includes the trading of all securities listed on theNYSE Euronext, the NASDAQ, the Amex, as well as on the many regional exchanges, e.g. OTCBB and Pink Sheets. European examples of stock exchanges include the London Stock Exchange, the Deutsche Börse.
Trading
Participants in the stock market range from small individual stock investorsto large hedge fund traders, who can be based anywhere. Their orders usually end up with a professional at a stock exchange, who executes the order.
Some exchanges are physical locations where transactions are carried out on a trading floor, by a method known as open outcry. This type of auction is used in stock exchanges and commodity exchanges where traders may enter "verbal" bids and offers simultaneously. The other type of stock exchange is a virtual kind, composed of a network of computers where trades are made electronically via traders.
Actual trades are based on an auction market model where a potential buyer bids a specific price for a stock and a potential seller asks a specific price for the stock. (Buying or selling at market means you will accept any ask price or bid price for the stock, respectively.) When the bid and ask prices match, a sale takes place on a first come first served basis if there are multiple bidders or askers at a given price.
The purpose of a stock exchange is to facilitate the exchange of securities between buyers and sellers, thus providing a marketplace (virtual or real). The exchanges provide real-time trading information on the listed securities, facilitating price discovery.
The New York Stock Exchange is a physical exchange, also referred to as a listed exchange — only stocks listed with the exchange may be traded. Orders enter by way of exchange members and flow down to a floor broker, who goes to the floor trading post specialist for that stock to trade the order. The specialist's job is to match buy and sell orders using open outcry. If a spread exists, no trade immediately takes place--in this case the specialist should use his/her own resources (money or stock) to close the difference after his/her judged time. Once a trade has been made the details are reported on the "tape" and sent back to the brokerage firm, which then notifies the investor who placed the order. Although there is a significant amount of human contact in this process, computers play an important role, especially for so-called "program trading".
The NASDAQ is a virtual listed exchange, where all of the trading is done over a computer network. The process is similar to the New York Stock Exchange. However, buyers and sellers are electronically matched. One or more NASDAQ market makers will always provide a bid and ask price at which they will always purchase or sell 'their' stock. [1].
The Paris Bourse, now part of Euronext, is an order-driven, electronic stock exchange. It was automated in the late 1980s. Prior to the 1980s, it consisted of an open outcry exchange. Stockbrokers met on the trading floor or the Palais Brongniart. In 1986, the CATS trading system was introduced, and the order matching process was fully automated.
From time to time, active trading (especially in large blocks of securities) have moved away from the 'active' exchanges. Securities firms, led by UBS AG, Goldman Sachs Group Inc. and Credit Suisse Group, already steer 12 percent of U.S. security trades away from the exchanges to their internal systems. That share probably will increase to 18 percent by 2010 as more investment banks bypass the NYSE and NASDAQ and pair buyers and sellers of securities themselves, according to data compiled by Boston-based Aite Group LLC, a brokerage-industry consultant[citation needed].
Now that computers have eliminated the need for trading floors like the Big Board's, the balance of power in equity markets is shifting. By bringing more orders in-house, where clients can move big blocks of stock anonymously, brokers pay the exchanges less in fees and capture a bigger share of the $11 billion a year that institutional investors pay in trading commissions[citation needed].
[edit]Market participants
A few decades ago, worldwide, buyers and sellers were individual investors, such as wealthy businessmen, with long family histories (and emotional ties) to particular corporations. Over time, markets have become more "institutionalized"; buyers and sellers are largely institutions (e.g., pension funds, insurance companies, mutual funds, index funds, exchange-traded funds, hedge funds, investor groups, banks and various other financial institutions). The rise of the institutional investor has brought with it some improvements in market operations. Thus, the government was responsible for "fixed" (and exorbitant) fees being markedly reduced for the 'small' investor, but only after the large institutions had managed to break the brokers' solid front on fees. (They then went to 'negotiated' fees, but only for large institutions.[citation needed])
However, corporate governance (at least in the West) has been very much adversely affected by the rise of (largely 'absentee') institutional 'owners'.[citation needed]
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