Weekly Spread Re-Cap 4-15-2011

The bulk of the spread trading we do is based almost purely on statistical methods.  If a particular stock pair is co-integrated over a certain time period, the half life is reasonably short, and the spread between the pair is more than two standard deviations from its mean value we trade it.  This week we put on long 1 DRQ (Drill Quip), short 2 SDRL (SeaDrill Limited).  Both stocks are in the Basic Materials sector.  DRQ is in the Oil & Gas Equipment & Services industry, and SDRL is in the Oil & Gas Drilling & Exploration industry.  We typically stay industry neutral but we felt that the two companies were in similar enough businesses that we could relax this requirement.  We traded this spread in March and made almost $4 per spread while holding it for about three weeks.    On Wednesday our statistical software showed that it had become cheap again, so we bought it.  We were able to unwind it by Friday for a $4 gain.  We suspect the opportunity to trade in and out of this spread twice in a period of about thirty days was driven by the recent spike in oil prices coupled with the strong co-integration this pair has demonstrated over a period of more than ten years.

Written by Norm Winer. Follow me on Twitter and StockTwits.

Your Adjacent Possible

Inspired by Steven Johnson

Two weeks ago, I had the opportunity to discuss trading with a seasoned trader at the Four Seasons hotel located in Midtown Manhattan. He and I approach trading from very different angles. He trades growth stocks with solid technical characteristics. I focus on algorithmic trading. We don’t have much in common. Period.

Not so fast. Something was very enlightening about our discussion. He told me he has a knack for discovering, before the market does, technology companies experiencing an overnight change in their business model. He described a few examples that happened in the past and some that are happening now. It all made sense to me.

I could not help but think that if I had this information, I could incorporate it into our volatility trading strategy to gain an additional edge.

The adjacent possible is the vast reservoir of untapped trading opportunities created from the mash-up of different trading ideas and insights.

Have you ever explored it?

Written by Michael Bigger, author of How Traders Achieve Creative Flow.

Weekly Spread Re-Cap 4-08-2011

On Thursday, April 7^th, after the market close, TPX (Tempur Pedic International) said it expected to report strong first quarter results, and increased its full year guidance.  In the past two reporting periods, TPX announced earnings prior to SCSS (Select Comfort Corporation).  In each case a solid earnings report by TPX was followed by a solid earnings report by SCSS.  We took last night’s announcement as a strong indicator that SCSS would also report robust results in late April.  The 5*SCSS – 1*TPX spread has been trading around $10 since last quarter’s results.  It closed at $10.76 on April 7^th, so when it dipped below $8 in afterhours trading we bought it.  We bought some more on the morning of April 8^th, also slightly below $8.  As it turned out we could have waited a little longer because the spread at one point dipped below $5 and closed Friday at about $5.60.  Nevertheless, based on Cockroach Theory, we are confident it will return to the $10 plus level.

Written by Norm Winer. Follow me on Twitter and StockTwits.

Weekly Spread Re-Cap 4-01-11

This week we thought we’d talk about a couple of losing spread trades.  You can’t expect to get every trade right, so you have to develop a process for dealing with losing trades.

Our statistical arbitrage book is relatively new so we only recently developed firm rules for what trades to put on, and even more recently for when to unwind both profitable and unprofitable trades.  We are trying to avoid the situation in which we unwind our winners too soon, and keep our losers on for too long.

At the beginning of the week we decided we had a few losing spread trades on our book for too long.  We’ll briefly discuss two of them, 5*ENB (Enbridge) - 4*BPL (Buckeye Partners), and 5*AMAT (Applied Materials) – 2*VSEA (Varian Semiconductor).  We were short the first and long the second.  We entered the AMAT-VSEA trade on February 10^th.  By March 28^th, forty six days later, the spread was trading about $8 below where we bought, but because our initial statistical analysis indicated the spread should have reverted to its mean within a shorter time period, we decided to unwind.  The situation regarding ENB-BPL was similar.  This spread was trading $22 above the price we shorted it.  But the spread had been on the books too long and was not behaving as expected, a possible indication there had been a structural change in the relationship of the pair.

It’s sometimes psychologically difficult to unwind a position at a loss, and we don’t recommend using stop losses for every trading strategy.  Yet by doing so, you often avoid bigger losses.

Written by Norm Winer. Follow me on Twitter and StockTwits.

My Hobby

Warren Buffett once said to Charlie Munger law was fine as hobby, but he could do better. A few years later, Munger left his law firm and started investing. Today he works with Buffett as vice chairman of Berkshire Hathaway. His net worth is about $1.7 billion.

Let me tell you a short story about me. My background and full time career is related to IT and Engineering. But, I know a thing or two about the market:

• I started investing in 2009 in the UK and in my home country Philippines. Those investments have grown significantly that the returns dwarfed my savings account for an entire year (I save at least 50% of my take home pay by the way).
• I started part time trading last year.  Initially I had some heavy losses (I think it was something like over £2000 GBP in three weeks). That hurt my account as it was 20% of my trading account.  But, after months of hard work , I manage to be in control of my risk/reward and most importantly my emotions.  Gradually made back the money I had lost.  It took me nearly 4 months to make it back.  I don’t consider myself a consistentently profitable trader (CPT).  Not yet anyway.  It takes years of experience to become a CPT, you know.  If I am a CPT I might as well just live on a beach somewhere and trade everyday!
• I collaborate with a hedge fund on algorithmic trading.  We are progressing well and making good money.

Question is which one is my hobby, my full time job or my ventures with Mr. Market?  I’m about to find out within the next few years .

Written by Aris David. Aris creates trading recipes and trades for Bigger Capital. Follow him on Twitter and StockTwits.

Trading Innovation

At the Cloud Connect conference held in Santa Clara, California, Amazon Chief Technology Officer (CTO) Werner Vogels spoke about innovation, the cloud, and the cloud ecosystem.

He said this, which made me chuckle:

“It’s still day one in the cloud. There’s still a lot of innovation to come. Amazon will work hard to make sure the ecosystem continues to grow.”

What about trading innovation?

Innovation is innovation. Today is day one for trading innovation. It’s always day 1 for trading innovation. Every single day, you are offered an opportunity to innovate your trading plan and grow your trading ecosystem. Are you?

Written by Michael Bigger, author of How Traders Achieve Creative Flow.

Weekly Spread Re-Cap 3-25-2011

In last week’s re-cap we briefly mentioned the 1*NKE (Nike)-2*GCO (Genesco) spread which we bought on Friday morning for about $0.85. NKE had gapped down after releasing earnings and GCO was slow to follow. Eventually GCO traded lower also and we were able to close out the position by the end of the day for an over $3 gain per spread.

This week we got an opportunity to buy the spread again on March 22nd shortly after the open for about $0.60, with NKE down 2% from Friday’s close and GCO trading 2% higher than Friday’s close. Once again GCO followed NKE lower, and we unwound the spread on the morning of March 23rd for an approximate $3.25 gain per spread.

We didn’t think we’d get another chance to buy this one again so soon, but yesterday afternoon we bought the spread again at about $0.60. As of this writing, GCO is up over 3% and the spread is trading at -$1.60. This one, however, has been quick to come back inline.

Written by Norm Winer. Follow me on Twitter and StockTwits

The StockTwits Trading Brain Synchronization API

A few weeks ago, when the Egypt crisis erupted, I told Aris David, a member of our Creative Space, that I wanted to allocate long capital to the sharpest Middle East stock market sell-off for a Levy Flight arbitrage.

Unfortunately, The Egyptian Stock Market closed down when the Government collapsed. We walked away from the situation without a trade. What was left though in both our brains' databases was this hunch:

Sharp Middle East Stock Market Sell-off ===> Allocate Capital

Yesterday the Egyptian stock market re-opened for business. As expected, this market sold off sharply. It became time to synchronize our brains and hunches.

Aris sent me the following Twitter direct message at 15:33.

Check out $EGPT it’s only falling because the Egypt exchange has re-opened now pricing in what happened a few weeks ago.

I answered:

Kind of stupid no?

At 15:39 I posted on StockTwits

In $EGPT oh maaaan

This morning I unwounded our position for a $.50 gain.

All of this is made possible by this:

Brain1   <------->  Twitter API   <------->  Brain2

None of this would have had happened without Twitter and StockTwits. Everyone knows that the Harvard network is a very powerful network. What is not obvious right now is how powerful that little global brain API is becoming. The best global brains will connect via this API or another frictionless API to create networks much more powerful than current networks surrounded by garden walls.

Written by Michael Bigger, author of How Traders Achieve Creative Flow.

Success Takes Time

Last week Renita Kalhorn, author of Into the Flow Zone, asked me how my book sales are going.

I replied via Twitter: sloooooooowwww. I will never make money writing books. Better keep my trading business, I added, because I am a lousy book promoter.

She replied: LOL, I don’t think Seth G made money right away either…

Who am I kidding to think people would rush to buy my book about how I use a creative ecosystem to make a boat load of money trading? And why am I whining about it?

Success in my life is more of a tortoise than a hare. It usually takes me five to fifteen years to go from idea generation to business success. It just takes time. This project is no different. And most likely, your trading projects will be no different.

I did not write “How Traders Achieve Creative Flow” to make money. I will never recoup its opportunity cost. That is not the point. The project has elevated me in amazing ways. It has helped me initiate conversations with awesome traders. It has pushed me to solidify my thinking about the concepts of the Creative Space, brain synchronization, augmented traders, neurons API, and so forth. Collaborating on the project with Chris, Darren, Renita, and Sean brought more satisfaction to the equation.

So who was I kidding with my answers? myself.

Michael Bigger. Follow me on Twitter and StockTwits.

Capitalizing on Uncertainty: Trading Options on $VIX

On March 16 at about 2:30 we noticed a spike up in the VIX above 30.  The broad market was selling off quickly, and VIX was one of the few green islands in a sea of red.  The last time the VIX traded above 30 was back in July, and levels have been as low as 15 earlier this year, so a spike above 30 presented a good opportunity.  Given that the market tends to over-react, we knew we needed to get short the VIX, and selling front-month calls allowed us to capitalize on an increase in the VIX (delta) and an increase in volatility of the VIX (vega).

We looked at the April 30 calls which offered good exposure to both delta and vega.  We sold some at $2.10, then more at $2.30.  When the VIX came off the next day (March 17), we were able to close half the position at $1.50.  The following Monday (March 21), we closed the balance at $0.75.

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