Since You Asked
Professional trader Don Bright of Bright Trading, an equity trading corporation, answers a few of your questions.
Don Bright of Bright Trading
Every trader I have asked tells me to look at the leading indicators before trading. A friend told me he watches Intel [INTC] to see the direction of the overall market. Is this a good indicator? What do your traders use? - edgetrader
If you follow the money, as in many things, you will see a valuable leading indicator. Since there is more money changing hands in the Standard & Poor's futures pit (and e-minis) than the rest of the overall market, it only makes sense to follow the SPOOs (S&P 500). When there is premium to FV (fair value), the market will follow; when there is a discount to FV, the market will follow (downward). If you add the money involved in program trading, then you have an even stronger leading indicator.
When it comes to using certain issues as INTC, be careful. It can work, because many traders jump aboard a favorite stock or hit on the downside. Because underlying factors (support, resistance, dividend yields, and institutional buying/selling) affect individual issues (as opposed to the entire market), the use of single stocks is not as reliable overall.
LEADING INDICATORS FOLLOWUP
You say that "if you add the money involved in program trading, then you have an even stronger leading indicator." Are you saying program trading kicks in with the difference between FV and the futures? Thanks again - edgetrader
Program trading kicks in when a price trigger is hit in the futures, either above or below FV for the current day. These numbers vary from (program) trading firm to trading firm based on their current cash situation (that is, whether they are cash-rich and are looking for simple interest rate returns, or cash-poor and looking for returns in excess of borrowing costs). In either case, they make for a good short-term indicator.
SLINGSHOTS AND SHAKEOUTS
I have read about your opening strategies with great interest. I heard mention of the terms "slingshot" and "shakeout." Could you explain what these terms mean and how they apply to the strategy? - Damien, Indiana
Thanks for reading! First, I'll give a quick review: We teach an "opening-only order" strategy that involves placing a couple of dozen buy orders and a couple of dozen sell-short orders prior to the market opening every day. We use a fair value calculation, with beta weighting, to determine the prices used. We hope to get filled on three or four orders, knowing we are likely to be on the same side as the specialist. This strategy is a carryover from my days on the exchange trading floor, when we would get opening indications from the New York Stock Exchange (NYSE).
Now, let's say we buy XYZ stock, down 80 cents from the prior day's closing price. We expect that the stock will rise quickly, so we can close out the trade. If that happens, great. Sometimes the stock will open down, rise 10 or 15 cents, and then reverse down quickly, costing us money (even though the specialist made money on the trade). To prevent this, we enter the opposite of a stop-loss (we rarely, if ever, use stop-loss orders); that is, a "winning trade" exit order. Since we cannot always read the tape effectively when we have multiple fills, we place a sell order a dime or so above our purchase price. Now, if the stock moves up quickly and then reverses, we have captured a profit. This counters the slingshot effect very well!
The "shakeout" is a problem encountered by those who try to automate too much (we use a great automated entry system, but we prefer using manual exits). Many traders want to use stop-loss orders or trailing stops that often get triggered when the stock "shakes out" traders by opening down or dropping down for a minute or so before springing upward. So we avoid the stop-loss and use the "stop winner" trade to counter both of these events.
Say I am long 1,000 shares and decide I want to flip so I am short 1,000 shares. Would I just enter one short order for 2,000 shares, or would I enter one order to sell long 1,000 shares followed by one order to short 1,000 shares? Or buy a bullet and sell long 2,000 shares? Just curious what the proper way to do it would be.
That depends on timing. I would sell the 1,000 long, offer the 1,000 short, while buying a bullet to hit the bid; the worst-case scenario would be that you might end up short 2,000 shares instead of 1,000 shares. This way you won't miss the chance to at least get flat immediately by hitting the bid.
Don Bright is with Bright Trading (www.stocktrading.com), a professional equity corporation with offices around the US. E-mail your questions for Bright to Editor@Traders.com, with the subject line direct to "Don Bright Question."
Originally published in the August 2002 issue of Technical Analysis of STOCKS & COMMODITIES magazine. All rights reserved. © Copyright 2002, Technical Analysis, Inc.
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