I Wish I Had Learned to Trade This First

A while ago I wrote a blog post about Starting Over. There are a lot of things I wish I had known when I started my trading career.  One thing I wish I had done was to learn how to trade 8*$SPY - 13*$IWM. This is my favorite trading vehicle. I think most traders should keep this spread on their screens.  The trading apprentice should play with it in a sandbox. Here is the statistical run-down on it:

For a larger image, click here.

Here is a graph of this spreads at a shorter time scale:

If you want to become a professional trader, there is a lot to learn.  When you are first starting out, SPY-IWM is a great product because it is liquid, easy to understand, can be traded on a short (but not instant) time-frame, and provides lots of opportunities to make money. It will help you learn some of the subtle yet important aspects of trading, such as:   

• Setting probabilistic and symmetrical stop losses 
• Emotion and it's impact on the market
• Liquidity gaps and spikes
• Pricing lags in one security versus another
• Changes in the market environment, and how to adapt your strategy
• Intraday time windows

What is your favorite trading vehicle?

Written by Michael Bigger. Follow me on Twitter and StockTwits.

Darwin the Trader

Charles Darwin is widely known as the man behind the Theory of Evolution.  He theorized that through evolution a species could adapt to different environmental conditions.  Those individuals who did not adapt would not survive to pass along their genes. 

A friend said to me the other day, “It is the market’s fault I lost money trading last month.”  

I could have agreed with my friend's opinion since I have spent the last two years building my quantitative strategy and I have had plenty of setbacks along the way. Now in the current low-volatility enviromnent I am making money trading my strategy at a very short time scale, choosing my entry points very wisely, and capitalizing on many small gains.

At various points in my journey so far, I have had to cut limbs to survive. I had to admit I did not know much about quant strategies when I started. I made mistakes, took steps back to think, I iterated, re-tested, and moved forward. I had to adapt to market conditions all the time. 

What has worked for me is to adapt to different market conditions all the time.  Like a football team, I started by building a book of plays that will work at diffeSave & Closerent times and against different opponents, in different market environments. I learned that what worked last week may not work this week or next.  I need to understand my opponent by recognizing trends, inflection points, and themes in the market, all of which can change on a dime.  I use my growing playbook to exploit this situation.  If you build a good playbook you will have the trades set to make money in any market conditions by adapting and evolving.

A playbook is the tool I have built in order to adapt. 

So how do we adapt?  For quantitative traders, this can be one of the hardest things to do.  Computers don’t learn and adapt, they just crunch numbers.  Humans need to think very carefully about the inputs.  Maybe that means we ask the computer to look at performance of the strategy in bull and in bear markets, or in low and high volatility environments, or in times when oil prices are low and high.  Whatever we think might impact our strategy.  Maybe we find that when certain market conditions are in effect, we need to tweak our strategy (or radically change it).  Then, experiment with the change.  Try one or two small trades to see how they perform.  But don’t get too comfortable, because the next change in the market is just around the corner.  

Later this month, I will host a webinar discussing how I have built my playbook with detailed trades. Stay tuned ... details to come shortly.

Written by Jennifer Galperin. Follow me on Twitter and StockTwits.

Learn to Trade Like a Math Geek

On Wednesday we held a webinar "Learn to Trade Like a Math Geek". We had great turnout, and I want to thank everyone who joined us. I've received a lot of emails asking about the recording, which you can find at the bottom of this blog post. We discussed some of the key math terms involved in statistical arbitrage spread trading. Many of the questions were specifically about calculations and how they are done. It is important not to get too bogged down with the math. Cointegration tells you that the two stocks have a history of reverting to a mean level like a spring. When you design your statistical arbitrage trading framework, you want to build a portfolio of these spreads. You should see that most of them behave nicely, while a few continue on their trend away from the mean. You'll develop your own recipes for determining when spreads will behave well and when they will not. You may even develop some recipes for trading spreads that are very different, like the earnings strategy we discussed at the end. The beauty of statistical arbitrage spread trading is that you can design your own strategy however you find it works best. Here is the replay.

Written by Jennifer Galperin. Follow me on Twitter and StockTwits.

Learn to Trade Like a Math Geek Webinar

We are doing a webinar tomorrow called "Learn to Trade Like a Math Geek". It will be at 4:30pm eastern daylight time. We will discuss the mathematical side of statistical arbitrage trading in a very practical way, no knowledge of statistics assumed. Please click here to register.

Sorting Your Stock Spreads Just Got Easier

You ask, we listen! On December 8 we wrote a blog post about our views on trading statistical spreads with stocks in the same industry. Since then, we have received tons of requests to provide you with the ability to sort and filter SpreadTraderPro's daily scan by sector and industry.

The industry information is now included with your SpreadTraderPro daily scan, at no additional charge! Not a member? Click here to find out more about our daily scan data, members-only forum, and exclusive blog.

If you agree with Jen's view in the blog post and think statistical arbitrage pairs should contain stocks in similar businesses, then we're making it even easier to find great trading candidates within a common industry or sector. If you agree with Michael's view that cash is king no matter what business the stocks are in, then you can still see all the same types of great trading candidates you've always seen. Either way, we think you will find the industry data helpful.

Happy Spread Trading!

Written by Jennifer Galperin. Follow me on Twitter and StockTwits.

Spread Trading Fundamentals Video

On Wednesday we had our first Spread Trading webinar.  Michael gave an overview of the importance of spread trading as a trading tool, and I discussed fundamental concepts.  We had a great turnout.  If you attended, we hope you found it useful.  If you missed it, you can find the recording at the end of this blog post. 

Spread trading at its heart is a way to formalize something we all do anyway, which is to compare our profits (or losses) with our opportunity cost.  If I bought a stock because I thought it was cheap and it went up but the rest of the market went up more, did I really make a good decision?  In spread trading, you are trading this relative performance explicitly.  It is easier to identify pockets of value because you limit the number of factors to just the relevant ones for your particular trading thesis.  One security is cheap relative to another, or relative to the market, always relative to something.

There are many different types of spread trades.  There are options spreads (and within options spreads, there are vertical and calendar spreads).  There are futures spreads, stock spreads, statistical arbitrage spreads, and merger arbitrage spreads.  The list goes on and on.  You can even push the spread concept to value investing being the difference between the stock price and its intrinsic value.  The common theme is a view that one security will outperform the other.  Once you have this view, you can create a spread by buying the cheap security and selling the expensive one.

During the webinar, we got a lot of questions about statistical arbitrage spreads.  The next webinar will focus specifically on stat arb spreads and the related mathematical terms and concepts (such as cointegration, correlation, z-score, time frame, etc.).  If you are a member of SpreadTraderPro, the “How to Trade Spreads” handbook that you received when you joined has a lot of information on this topic.  In addition, your daily scan contains tons of cointegrated spreads every day.  If you are not a member, you can sign up or wait for the March webinar to learn more about this topic.  For details, sign up with our free Spread Analyzer to ensure you are on our mailing list.  Details will be coming soon.

Thanks to everyone who participated in yesterday’s webinar.  If I did not get to your question yesterday, I hope you found the answer in this blog post.   If you have more questionss, please leave them as comments to this post or send me a tweet.

Written by Jennifer Galperin. Follow me on Twitter and StockTwits.

Jennifer's Trading Resolutions

2011 was a good year for me.  I accomplished a lot, and learned a ton.  Sure, I made some mistakes.  But I definitely learned from them.  Here are some of my resolutions to make 2012 another good year for me:

1. If you find one good trade, look for more similar ones.  Experiment to figure out what about the trade made it good.  Was it the market momentum?  The sector or industry of the stocks?  Did earnings or dividends play in?  Was there a liquidity gap or spike that you capitalized on?
2. Share ideas.  Social media and blogging are great ways to communicate with other smart traders, and get a new perspective on your trading.
3. Don’t over-manage orders.  Accept that you can’t always buy at the exact bottom tick or sell at the exact top tick.  What matters is positive, consistent P&L.
4. Give positions room.  Once you have a position, accept that it might move against you a little.  Set a stop-loss and stick to it.  Again, positive and consistent P&L. 
5. Tweak your framework from time to time.  Maybe you found a good trade that makes you look for others in new places.  Maybe you notice a theme, such as missing some opportunities or falling short of target exits.  Maybe a comment to a blog post makes you think about a new idea.  Experiment with your parameters and you might find something interesting.  

What are your resolutions?

Written by Jennifer Galperin. Follow me on Twitter and StockTwits.