Newsletter

February 10, 2007

Striving for Perfection

Market & Sector Review
Buy 'em When No One Wants 'em

Largest Changes In Raw Numbers (21 Days)

This Week's Economic Reports

Important Announcement! Beginning sometime early this week the Prudent Trader will change its format. As we have grown substantially over the last five years, both in terms of viewers and in term of offerings, so have the costs. I had originally hoped the affiliate advertising that appeared would help offset at least some of the costs involved in running this site. This has not been the case. We therefore must change to a voluntary donation format.
In addition the home page will change to a blog format with current thoughts, ideas, and comments. The blog update will be daily perhaps even several times a day depending upon my personal schedule. If you enjoy the Prudent Trader site and this newsletter please consider becoming a donating or supporting member.
Thank You in advance for your support! Bill
Striving for Perfection

Lexus advertises the "The Relentless Pursuit of Perfection" and it seems an amiable goal; perfection. Unfortunately we are human and humans are not perfect. Perfection is a pursuit, but we can never really attain perfection. What we really do is strive to be better and better at who we are and what we do. Perfection however is out of the question, especially in our line of work. As traders the pursuit of perfection can be very costly if carried too far.

Some traders are so obsessed with looking for the ultimate opportunities that they spend most of their time looking, rather than actually trading. They don't want to miss that once-in-a-lifetime trade. There's nothing wrong with searching for a good setup, but constantly looking for the ultimate setup is time consuming. Why do some traders spend too much time searching for the ultimate trade? It may be a fear of leaving money behind. They don't want to miss out on a rare opportunity.

We want to believe that if we analyze the markets hard enough and long enough, we'll find the perfect setups and take home huge profits. This however can do us more harm than good. Spending so much time looking for the perfect setups, that really don't exist, will have us fail to trade the "available high probability setups". If you constantly search for the "perfect setup" it will restrict your actions and most often will cause unwanted and unneeded stress. Instead of moving forward; you stagnate.

Many people work under the assumption that they must be thoroughly competent, adequate, and achieving in everything that they do. Psychologist, Dr. Albert Ellis, claims that holding such a belief produces fear and anxiety, which for traders often produces hesitation and self-doubt. As we grow up, we often face adverse consequences for not being proficient. We begin to believe that we must be thoroughly competent, adequate, and achieving in everything that we do. It is normal therefore that we come to believe; if we could just be perfect as a trader, we will make the most profits. Ironically, what happens is just the opposite

A more adaptive approach is to realize that it's impossible as a trader to be thoroughly competent, adequate, and achieving all the time. Certainly, you should develop an extremely detailed trading plan and try to account for all adverse events that may go against your plan, but there are limits to what you can do. You don't need to be perfect. You don't need to trade the ultimate setups. You just need to make profits, even if it is just from trading mediocre setups. Searching for perfection can lead to stagnation if you aren't careful.
Market & Sector Review
Buy 'em When No One Wants 'em

I am a big fan of old Wall Street cliché's; they've withstood the test of time for a reason. I'm sure all but the newest of traders/investors have heard: "Buy em when no one wants em and sell em when everyone wants em". Most traders I know have more than one account. Perhaps one account for trading purposes and another account for investing purposes (most often a retirement account or a child's custodial account for college). It is in your investing accounts you want to look for what is out of favor with Wall Street. Classic recent examples would be energy stocks in late 2002 through early 2004 and metals and mining stocks from late 1998 through 1999 or even up to early 2003.

So what's out of favor now? Probably nothing to the extent these sectors were out of favor way back when, but let's look around and see if we can find something. Personally I utilize both the Sector Analysis and the ETF Analysis section to confirm or rebuff one another and also to narrow potential investments. The new Index Analysis section which is probably a month or two away will be an additional bit of information to confirm, rebuff, or narrow. First I'll sort the sector report by "Buy Pwr" and look for sectors listed as in cash. Newer subscribers not familiar with this indicator may wish to review its development here: What If? and Buy Power to better understand how you may use this indicator. Very limited back testing has been done with this indicator however visual inspection shows it has some potential. More back testing is on my to-do list and when accomplished will be published in the members' area. In any case, six of the 31 sectors are listed as in cash: Energy; Conglomerates; Banking; Insurance; Computer Hardware; & Electronics. A picture as of last weekend 2/3/07 with some columns deleted so as to make the picture fit:

A quick look at four of the charts from this list.

Notice a couple of things these four charts have in common: 1) the boxes drawn show these sectors are in consolidations; 2) the bottom of each box has formed at a previous high; 3) the daily relative strength line, as measured against the NYSE index, are each in short term downtrends. The relative strength is saying nothing more than during this consolidation period they have been underperforming the NYSE which is making new highs almost daily. Should the consolidations break to the upside you may see these sectors turn to out performers from under performers. Importantly, I would not call any of these sectors, truly out-of-favor, as they are not in or completing a "bear market".

In the interest of brevity and for this newsletter only, we will look at just one sector; Electronics, the one with the longest and narrowest consolidation above. We will look for stocks and ETF's that may fit our out-of-favor look. Next in order to narrow our search we will look at the groups within the sector Electronics:

I think it's easy to see from the above chart, that within this sector, the most out-of-favor industries are: Semiconductor Memory Chips; Printed Circuit Boards; and Semiconductor Equipment and Materials. All three are down on a year-to-date basis, rank near the bottom of the 209 industry groups in both six and twelve month relative strength, and so on. Definitely, at least for now; these industry groups are out-of-favor. Before moving on to the ETF's; first let's take a quick look at the stocks within Semiconductor Memory Chips by clicking on the link in the right most column. Data as of Monday 2/8 (Note: this output now appears in frames allowing one to scroll through larger groups).

On the surface, not much to get one excited. Remember however, we are looking for out-of-favor stocks and/or ETF's, you wouldn't expect them to look wonderful at the moment. Zero's in the Relative Strength Rank columns means one of two things; either the stock is currently under 10 and therefore not considered or there is not enough data to make the calculations. Do any catch your eye? A couple caught mine. Take a few moments, on your own and look through the other sectors and groups mentioned. It may yield something to your liking.

Can we find an Exchange Traded Fund that fit's our out-of-favor look at Electronics? For this exercise I look at the Sector and the Industry ETFs alone and pick up eight potential ETFs by name alone, that fit:

Notice the Sector ETF's all have Technology in the name indicating they encompass more than just the Electronics Sector we are looking at for this newsletter. We do however have four ETFs with Semiconductor in the name, thus without checking there holdings, indicate they cover the Electronic Industry Groups we are potentially interested. The relative strength rankings are basis all the ETF's in our current database (316). If we go to the ETF Analysis home page we can click on the fund family of each and compare the components of each.

What are you looking for - The most diversification? IGW! Least diversification? SMH! Most volatility? PSI (see and compare its beta to the others).

In my humble opinion, nothing here is "out-of-favor" in the sense of the two classic examples shown above. If (the biggest, little word) this market is entering an intermediate correction at this point some of these may turn out to be truly out-of-favor before it's over. Remember we are talking of investments this week, not short-term trades.
Largest Changes In Raw Numbers (21 Days)

This Week's Economic Reports

Have A Great Week!

Bill

Disclaimer: Trading in securities, of any type, may not be suitable for all individuals. The contents of this newsletter are not a solicitation to buy or sell securities. The opinions expressed are solely that of the author. You must do your own research, contact your own financial advisor for suitability of any investments. Data gathered is from sources believed to be reliable, but NO guarantee as to their accuracy is made.