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Make This "Uncomfortable" Trade for a Quick ProfitBy
Wednesday, April 7, 2010
Ed Seykota has a favorite trade...
Seykota is one of the most famous traders in stock market history. He made billions following trends in the commodities and futures markets, starting in the 1970s.
According to Futures magazine, Seykota has returned on average 60% a year for the three-decade span of his career.
In one profile I read about Seykota, he describes how he looks for markets that have gone so far in one direction, they can't possibly go any farther. Then, he bets they'll go farther. In other words, he likes to jump on trends, especially when they seem extended.
"Buying high, selling higher," he calls it.
In all the trading books I've read, nothing sticks in my mind like this piece of trading wisdom from Ed Seykota. It sounds totally counterintuitive to me, and I've never read about a strategy like this anywhere else. He made billions using this technique. We can too, if we're able to use it...
I'm about to show you my favorite "extended trend" trade right now, but before you jump into this trading strategy, there are a few of things you need to know...
First of all, Ed Seykota chases momentum. It's like jumping taxis on Fifth Avenue. You jump in and stay in as long as it's speeding downtown. But as soon as it gets snarled in traffic, you jump out and find another taxi that's speeding downtown. This way, you only put your money into trades that are working. When they stop working, you pull your money out and jump into another trade that's working. Momentum traders rarely hold positions for more than a few weeks.
Second, to make this strategy work, you have to ditch your trade as soon as it stops moving in your direction. In other words, you must use a stop loss. Stop losses protect your capital and make sure you don't get bogged down in a losing trade. A triggered stop loss is a message from the market that says "This trade isn't working, time to find another trade that is."
Finally, these "extended trend" trades can feel extremely uncomfortable. I'm a thrifty person, and I love bargains. I'm much more comfortable, for example, buying a stock that's fallen for many days in a row and selling a stock that's risen for many days in a row. But I've lost money on these setups a thousand times. Now I know the profit is almost always in sticking with the trend.
So what's my favorite "extended trend" trade right now?
It's the stock market. The S&P is in juggernaut mode. As of Monday, it had risen in 26 out of the last 38 trading sessions for a gain of 12% in two months. Investor sentiment indicators like the put-call ratio and "dumb money" confidence show investors are "nosebleed" bullish. Technical indicators for momentum, like the Relative Strength Index, are close to their maximum possible highs.
 In short, the recent uptrend in the S&P is extremely extended. For a bargain hunter like me, buying into the S&P right now feels almost suicidal... like I'm guaranteed to lose money.
But if my experience... and Ed Seykota's track record... are anything to go by, buying into the stock market's trend right now is likely to be a profitable short-term trade.
Buying a double- or triple-long ETF for the S&P is one way you can make this trade. Or buy stocks that are highly leveraged to the stock market like homebuilders or financial stocks. When the S&P rises, these stocks soar.
Your emotions will tell you not to make this trade. It's too uncomfortable. But it's the right trade if you're looking for a quick, short-term profit. Keep holding as the long as the market is rising and be quick to cut your losses when the trade moves against you...
Good investing,
Tom
Further Reading:
Back in September, when stocks were up 50%, Steve told DailyWealth readers to keep on with the "hard trade." He wrote, "What's the easy trade for everyone now? To sell! People LOVE to lock in small profits. But that's not how you make BIG money in your investments. The hard trade right now is this: DON'T SELL." Stocks are up another 14% since then. Read more here: The Hardest Trade Today.
Tom likes stocks for a quick trend trade. But for your investments, Steve argues, "it's time to play some defense and protect what we've got." Find a few easy steps to take right now here: Stocks Up 75% from 2009 Lows... Now What?
Market NotesDO YOU KNOW ABOUT THE STEALTH RALLY IN SILVER?
Don't look now, but silver is quietly moving in on $19 per ounce...
Silver is an odd duck in the raw materials world. Even more than gold, silver benefits from the current E-Z-Credit boom we're seeing in economic growth, stock prices, and commodities. Silver behaves like gold in that it's a precious metal hoarded by investors. But it's also heavily used in industry... which makes it act like copper, an economically sensitive metal.
Starting in 2003, silver enjoyed a huge five-year run that took it from the low $4-per-ounce level to $21. The run turned to rout during the credit crisis, and silver was obliterated below $10. But in the past year, silver has steadily crept higher... including the 16% rally you see on the right side of today's chart... close to the high reached during last winter's flight to gold and silver.
What to make of this stealth rally? As long as the Fed and its fellow central banks keep the "goosing" effects of cheap money and credit going, we could easily see silver blow out its 2008 high of $21 an ounce. For the sensible way to get your share of real silver, click here.
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