One of the most interesting realizations I have gained from studying the financial markets is that success comes from developing a clear set of rules and sticking to them despite the current psychology and tenor of the market. Contrary to popular opinion being successful in the market is not based on how smart you are or what university one attended, it is sticking to your discipline and following a methodology.
One person who has greatly influenced me is Jesse Livermore. Jesse grew up very poor and didn’t have a formal education like most of the fund managers today. He was extremely disciplined and developed a rules based methodology, which made him one of the most successful traders of his time. One of his famous teachings is the smarter one is, the easier it is for the market to fool you. Many times the market does the exact opposite of what the economists and the pundints predict. Jesse learned a simple method to learn how to follow a trend and monitor price volume which helped him surpass the top traders of the time. However, Jesse Livermore committed suicide and in the note left behind he considered himself a failure for not sticking to his own rules.
The recent sub-prime debacle and the 2008 market crash shows that the smartest academicians had absolutely no grasp of the dire situation that was at hand and continued to recommend the “buy and hold” doctrine. The Federal Reserve themselves were not admitting we were in a recession until many investors suffered a major loss. Meanwhile, behind the scenes institutional investors were trading the volatility and making huge profits on the short side as technicals gave clear sell signals and shorting opportunities during the downtrend. The professional traders and institutions don’t subscribe to the “buy and hold” methodology even though they market it to the ill-informed public. Institutions and hedge funds go long and short and move to cash when conditions warrant it.
Using a basic set of technical rules and reviewing market tops a technical trader can be able to prevent a major loss and wait for less risky opportunities to capitalize and increase gains.
Since October the gold etf (GLD) had three failures at upper resistance and has not been able to make a major move into new highs. In early October, I warned of a major rally in the dollar and a rise in interest rates much to the dismay of market “experts” who were expecting QE2 to devalue the dollar and keep bond prices high. The exact opposite occurred. Bond prices plummeted, the US dollar rallied and gold has been rangebound. My mining recommendations in precious metals, uraniums, molybdenum and rare earths have significantly outperformed.
On Christmas Day much to the dismay the Chinese central banks raised interest rates for the second time since October. I expected it at their last meeting on December 13th. As I wrote after the last meeting that the pause was due to the holiday season and mentioned to wait until after the holidays to wait for a hike. Obviously, their decision to surprise the markets on Christmas Day signals the urgency of their efforts to curb irrational speculation, rising prices and commodity costs. The Chinese also cut rare earth exports which is causing a major increase in these mining shares. I expect them in 2011 to further look for natural resources abroad to further fuel their growth and demand. This last rate hike was looked upon by the markets as weak and commodities have skyrocketed since the announcement.
Again the market goes against logic. China’s rate hike should’ve been bearish on the price of gold instead commodities are soaring. Gold has bounced off the 50 day moving average and has found support which is a very positive sign. This second test of the 50 day and the bounce after the Chinese raising rates may signal that the 3 month consolidation may be over and gold has finally found enough support to make the next leg into new highs. Investors are shrugging off the rate hike news and moving back into commodities with full force. Technically this is very bullish and I am looking for a strong move into new highs. The next leg may be beginning providing a better market entry point than in early October. New signals have been alerted.
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