If you are new to trading and the last two or three weeks don't have you scratching your head or questioning your decision to make trading a career, then a hat tip to you.
For those still wanting to continue down this path, education is key. I mean, this has certainly been a tough market. I took a break from my screens Tuesday to grab some lunch, and I flipped on CNBC where they were interviewing a 20-year old who was crowned Student Trader of the Year. There were so many things wrong with this segment that I don't know where to begin. Scratch that, I do. Let's begin in the recent past with the real estate bubble.
Think back to the 2005-2006 television reality show era. House flipping was all the rage. Shows made it look so easy. Just buy a house with little or no money down. Then maybe swap out some flooring and slap some paint on the ways. Soon you'll be selling it for twice what you just paid a few weeks earlier!
Now fast forward to the CNBC segment where a 20-year-old kid's portfolio produces a three-month return of 42.75% from Nov 1, 2013 through Jan 31, 2014 while the Russell 3000 only brings in a 1.25% return. So easy a kid could do it. Newsletter and trading services do this, too. This trading thing is easy. Let's look a bit closer.
First, the portfolio consisted of a whopping three stocks: Ariad Pharmaceuticals (ARIA), Trina Solar (TSL) and Bottomline Tech (EPAY), at least as far as I can tell. Those are the names the student mentioned even though CNBC flashed up Ariad, Trian Partners and Bottom Line Personal. Last time I checked, those last two aren't listed, but I digress.
How did the student achieve such a high return? In his words, he went after "low risk, high reward" stocks with ARIA being his golden child and TSL and EPAY being "safety nets." Come again? Low risk, high reward?
None of the three stocks tops a $1.5 billion market cap. ARIA carries a beta of 1.50 while EPAY comes in a 1.74 and TSL at 2.61! The so-called safety stocks have an average beta over 2x the S&P 500. On top of that, calling this a portfolio is a joke. Any trader who allocates an entire portfolio to just three or four stocks may find themselves with a 42% loss just as quickly as they grab a 42% gain.
For instance, while this portfolio rocked for three months, since the end of the contest the Russell 3000 is up 4% while ARIA is down 4%, EPAY is down 13% and TSL is down a whopping 25.5%!
During the entire three months of the contest, EPAY produced a 0% return and TSL was actually down 3%. The contest was won with terrible diversification, a misunderstanding of low risk/high reward (these were high risk/high reward), abysmal risk management and a perfect understanding of a paper trading competition. But it makes "trading" look easy.
Paper trading competitions are like being a quarterback in a scrimmage game where you get to wear the red jersey, which means no one can hit you. Even better, while someone may be keeping score, there are really no repercussions if you lose.
Go for the bomb. It doesn't matter if it is picked off and you aren't going to get hit, so there is no fear of pain. That's what paper trading, especially in short-term competition, teaches folks. It removes fear. It removes joy. It removes confidence and replaces it with ego. In the end, it removes all the emotional aspects, which most experienced traders know can be the most difficult part of trading to manage.
Unfortunately, a lot of this carries over into trade services and even some newsletters. My opinion is if they offer no education for you to improve your own trading, then in the long run, they will do more harm than good.
Why do you think pure trading services exist? These folks are decent or even good traders, but even better marketers and they understand something essential that I covered on Monday: there will be periods of flat or negative returns.
Trading alert services use your money to do their trading or to cover potentially negative years. I can understand a service that generates ideas to save you time, educates you and provides information that may be difficult or expensive to obtain on your own. I can even understand a service that only profits when you profit, although the last raises many difficult questions that would take too much time to cover today.
In the end, any service that is not offering insight or education and simply says to buy "X" or sell "Y" is seeking to use other people's money to enhance their own trading. With your sub dollars, they can be more aggressive with their trades since they have the addition of your dollars to work with each month. That is a sad irony because it will likely harm the subscribers in the long run.
After all of this though. After the bleak picture I've painted that appears to be without hope, it is time for some good news in the last part of this series. You can learn to trade successfully. You can find an advisor to guide you and there are subscription services out there that are well worth your time and money. In time, you may find you use all of these or only one to achieve success.