Q&A

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Since You Asked

Confused about some aspect of trading? Professional trader Don Bright of Bright Trading (www.stocktrading.com), an equity trading corporation, answers a few of your questions.

Don Bright of Bright Trading

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IS AUTOMATION THE ANSWER?

I've been trading for about seven months. I'm a good trader when it comes to entering trades and gauging the market's strength and direction, but I have no risk tolerance, perhaps because I don't have a lot of money in my account and I tend to butcher the trade (for example, I was in the airlines before the market yesterday but got out way too soon, and they were the strongest sector). I thought the best method might be to get an automated program that would exit my positions for me, thereby getting rid of the emotional factor that's killing my profit potential. What do you advise traders as the best way to overcome this large obstacle? And do you think an automated program is the answer?--Joseph

Your concern is a common one when traders are trying to play with too little money -- like being short-stacked in a poker game, tough to compete.

Automating just might make things worse -- visual monitoring and reading the market is still better than any computer program. For example, you buy something at 31.20, plan an exit at 31.55. The market rallies, but then some news comes out and your stock is trading 31.48. Manually, you can get out; the program may not know the difference in the overall market and cause a loss.

Trailing stops might be another way to go for a while, and those can be automated. I prefer using alerts that give me a chance to quickly take a market snapshot (premium, discount, open book, or Level II, news items, and so on). Overall, trading is relatively easy; it's the psychology involved that's the hardest to overcome. Good luck.

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BETA

What makes you pick up beta to adjust the price when you play open-print strategy? I have noted the value of beta could be different. Which beta are you using now, or are you computing beta yourself? --daytrader06

We use beta to alter the envelope percentage so we don't get left out of trades on low-volatility stocks. Our programs check beta with the click of a button, and I update about once a month. Beta is not a primary consideration but certainly helps with the fill rate.

The opening programs are fluid and we modify them often, adding stocks, taking some off, looking at news items. We're always tweaking to stay ahead of the game.

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WHICH MARKET FOR THE NOVICE?

I have attended expensive workshops and seminars over the years, and it seems like each one has some sort of gimmick. Some are pushing software programs, some say to trade only long options to limit risk, some preach about the great movements of the trading of equity futures. This is all so confusing. In reading your website, I noticed you have traded all three of these markets. Which do you think is best for novices to start trading? -- miami99

Good question! I'll do my best to give you my perspective. I would like to first say I respect any trader who is making money consistently. Second, I have noticed over the years (decades, even) that a good trader can usually adapt to other markets pretty well.

Back when my brother and I started out, equity options were the "new kids on the block" -- this new frontier was still wide open in the sense that very few had the edge we floor traders had. What I find interesting about equity options is how little the strategies have changed since the early days. We found our edge by modifying Black-Scholes modeling and using some basic blackjack principles. Conversions, reverse conversions especially, allowed us to collect a considerable amount of interest from the short stock sales (that was great back in the Reagan days of 15% interest or higher). We enjoyed the time decay from calendar spreads, the movements from doing straddles, strangles, and butterflies, and so forth. Most of us left the floor when things started getting too tight. Many option strategists are still talking about doing the same types of things. The reason a lot of retail traders use options is often due to lack of capital, making options seem attractive.

When the S&P futures were listed in the early 1980s, we found our edge in "across the street arbitrage" with the Oex options, or baskets of equities, versus the futures. This worked very well for several years. The problem I see with trading futures is that they tend to be the leading indicator followed by equities action. Again, many like the leverage with the e-minis.

I may be biased, but I find that when given adequate capital to trade with ($1 million or more), traders can engage in equities strategies other than picking market direction or trying to play some basic option strategy that professional option players have been doing for a long time. I addressed this in more detail a couple of months back.

All that said, I think it is vital for traders to fully understand market mechanics -- how exactly the derivatives interact with one another. Futures lead stock movements, options hedge against both equities and futures, implied volatility vs. historical within a given equity option will tell us of projected volatility changes, and so on. So, hopefully, most of that education will come to help you regardless of which product you choose to trade. 

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E-mail your questions for Bright to Editor@Traders.com, with the subject line direct to "Don Bright Question."

Originally published in the September 2007 issue of Technical Analysis of STOCKS & COMMODITIES magazine. All rights reserved. © Copyright 2007, Technical Analysis, Inc.

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