Market Volatility Requires Trading Discipline

February 9, 2015

Market Volatility Requires Trading Discipline Photo

I'm writing this week's blog post from the air on my way to Penn Mutual's Educational Conference. What did we do before Wi-Fi on planes?

The January employment number has just been released, and it was a strong number with significant positive revisions to prior months. Hourly earnings were up 0.5% for the month and 2.2% for the last year, making this the highest level since 2008. The labor participation rate increased as well.

As I sit here, the market feels 180 degrees different than it did a week ago and how it traded during January. Stocks are up sharply, crude oil is up, interest rates are rising, the Greek debt situation is calmer, and I find myself thinking about some of the trading lessons I've learned during my career.

Before I joined Penn Mutual 21 years ago, my first co-op job was at PNC Bank. I learned a tremendous amount from their analyst team about fundamental analysis. One member of the team knew that I was starting to trade OEX options for my personal account and gave me a set of 30 trading rules that sit on my desk to this day. I can remember his words clearly: "If you can master these rules, and it won't be easy, you will be a successful trader." He was right, and the trading rules have never steered me wrong. When I have been successful, I can demonstrate that I followed the rules, and when I have lost money, I can always point to a rule I neglected to follow.

In the choppy, volatile market of today -- one that feels like we are at a critical inflection -- Rule 22 stands out: "It is preferable to lose your opinion rather than lose your money." Rule 22 tells us that when the price action and your opinion do not coincide, stand aside until they are in harmony. Many a trader has ultimately been proven right in their opinion and yet lost their capital during the interim period required for incubation. This reflects an over-concentration on the distant future and not enough on the short term. When developing a position in the market, be prepared to wait and move in concert with signs from the price that the situation is starting to come around to your point of view. Opinions are of little value to a speculator unless and until the market acts accordingly.

We expect the current market to continue to exhibit significant volatility due to low liquidity, diverging fundamental factors, and the emergence of global competitive currency devaluation. We believe the reversal in market fortunes will have some room to continue. Key technical levels have been recently violated, which should lead to some follow through. This market volatility creates opportunities for the disciplined trader, but remember Rule 22 in determining your decisions and timing.

Tags: Monday Morning O'Malley | Volatility | Investment strategy | Trading discipline | Employment numbers

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