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Do You Like Money? Then Don't Throw It Away

I might ruffle a few feathers with today’s column but in all seriousness readers need to know why 95% of traders lose money. I witnessed it time and time again in the past few weeks and I think it’s time to tackle these issues head on. You could call it tough love.

The issue I am talking about is buying stocks that have fallen sharply on the basis they cannot fall any lower. Otherwise known as “catching a falling knife”. This problem is not just common amongst retail investors but also so called “professionals” including brokers, analysts and traders – even in my own office.

It is just as common amongst fundamental traders as it is technical traders – as if the human brain is wired to be attracted to such trades. Until you can shake this strategy, you won’t be a professional nor reach any of your trading goals. Picking up stocks on the basis they have fallen too far and possibly can’t go lower is gambling. Full stop. And professional gamblers don’t walk onto a gaming floor and place their bet on black at a roulette wheel just because there were 10 consecutive red wins in a row. Surely black will come up next. That’s for amateurs. Professionals don’t even play roulette.

Let’s start off with BHP. The company announced that a dam burst at their Brazilian mine, partnered with Vale. The share price immediately fell at which time the phones began to ring in the office non-stop with clients calling the brokers wanting to pick up some BHP. I had brokers and analysts from other firms trying to tout me BHP stock and the merits of buying at $21.50. It closed yesterday at $18.94.

There was absolutely not a single reason to buy BHP stock. All that we know is that the mine accounts for approximately 20% of BHP revenue and that BHP would be required to borrow money to maintain their dividends. We don’t know the scale of fines, damage or how many years this mine would be closed for. These are all downside risks. No a single upside risk. As a result the share price continued to fall creating more losses for those attempting to pick a low.

It’s not as if BHP has an underlying bullish backdrop either. Iron ore prices keep falling with no sign of any low yet. And until these fundamentals begin to change BHP won’t be able to sustain any meaningful rally. I will use Qantas as an example. Below is a 10-year weekly chart that shows Qantas had been in a long-term decline since the start of the GFC. US airlines had increased 500% between 2013 and mid-2014 – yet Qantas was still hovering near record lows. Why? Because they were still adding capacity to routes and engaging in a price war, in an attempt to defend market share. That is fundamentally bad business and it showed. The share price only began to head higher when Qantas announced they were no longer cutting prices or adding capacity. Business improved and that was the time to buy QAN as I had recommended.

Iron ore producers are engaging in the exact same business strategy that Qantas and Virgin had done that drove their share prices to record lows. They are all increasing production volumes and oversupplying the market. A self defeating strategy and until at the very least this changes no improvement in the fundamentals for BHP will appear and nor will the share price.

Another great example has been Slater & Gordon or as we call it in the office “Slaughter & Gone”. The internet forums have been ablaze with anger and disbelief at the share price collapse. I read hundreds of comments – yes hundreds! – that essentially summated they had lost so much money buying parcels of shares in SGH all the way down thinking it can’t go any lower. Just as many comments (some very lengthy) expressing their anger at short sellers and ASIC. Sorry, you should be angry at yourself and learn from the lesson or you will repeat it again. I was touted SGH stock in the past month from brokers and analysts, trying to convince me it was value. I know this might seem cruel to say when people are losing money but in all honesty it is bad decisions that has created it and blaming everybody else for the loss is not the traits of a successful trader or investor.

One thing I have witnessed over the years and that is hedge funds who build large short positions in stocks generally know more than we do. They have billions and billions of dollars under management and enormous resources to research and gather information. Huge short positions were built in SGH after the first announcement of irregularities in the financial statements of their newly acquired UK business, Quindell. Short sellers nailed that trade just as they had done with Fortescue (FMG), Myer (MYR), Vocation (VET), Woolworths (WOW) and Mesoblast (MSB). In fact anywhere where large short positions build aggressively there is often a very key reason why. Don’t try and trade against them on the basis that they will have to cover shorts in a short squeeze. That’s the argument I am given 100% of the time one of these stocks is touted to me to buy. Trust me, you will be lucky to have any money left to trade by the time you actually pick one correctly. You are always better off trading with the big hedge funds not against.

There is one basic and simple rule I use to avoid these costly mistakes. Until the share price can consolidate above its 30 period moving average – daily or weekly depending on your time frame of investment - I am not interested in buying. In fact I have more interest in joining the short sellers.

Look below at SGH, when it was rallying it would continually find support at the red 30 week moving average and when it broke below it earlier this year it’s been one way down. Nothing to tell you a low has been made and the trend is reversing. I like to buy when the trend is back up and I can make right from the start of my investment not wait months for it to come good. Put another way – I will wait for the knife to hit the floor and then pick it up. Much safer and less painful.

View More Articles By Greg Tolpigin

Greg is the Head of Proprietary Trading at Gleneagle Securities and has over 20 years of experience as proprietary trader and high level strategist for the major investment banks including Citigroup, Bankers Trust and Macquarie Bank. He has been involved across all asset classes including commodities, bonds, currencies and equities right across the globe.

After a 10-year career within the comforts of the large investment banks and research firms he branched out on his own to form his own proprietary trading firm successfully building the business into a multi-million dollar trading operation that turned over a billion dollars a year. This same team now runs the proprietary trading desk at Global Prime, risking their own money in line with the firm's and client's capital.

Greg has appeared on CNBC, Channel 9 - Business Sunday programme, a guest columnist for the Australian Financial Review, a regular author for Personal Investor, Wealth Creator and Shares magazine and is the former Treasurer of the Australian Technical Analysts Association.



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