I’m sure many of you have heard of a trading book called “Trading in The Zone” by Michael Douglas, which focuses on the psychological challenges that traders face.
If you’re keen on becoming a solid trader, reading this book is a must. It will highlight trading psychology and likely shorten your learning curve.
But in the meantime, let me give a brief over view to the topic of trading psychology.
“Trading in the zone” means that your psychological state is in a certain place, which allows you to allocate risk appropriately, recognize what the market is telling you and adapt accordingly.
All this is easier said than done of course.
Getting into “the zone” will come with experience, a solid understanding of your trading edge and understanding risk.
Don’t worry, this isn’t a specific point, as the name suggests, this is a “Zone”.
This means there is a range where your mindset can be considered to be in the right place.
Here are some markers which indicate when you’re “in the zone”:
You accept that losses are part of the business
I believe many of you have heard this before, but I just can’t drill it into you enough.
You may think you accept this fact, but likely you don’t.
Trading is probably one of the few professions where success is directly correlated to being able to admit you’re wrong, quickly and very frequently.
Make good losses, from good trades which make sense.
Don’t enter random trades on a gut feel, don’t exit randomly on a gut feel.
Have an objective reason to make an action in the market.
Only then, can you draw good market information from that loss.
This enables you to make the better decision in the next trade.
You accept that anything can happen.
This is why we are not able to correctly predict every single movement in advance.
However there is good news, you don’t need to know what will happen next to make money in the market.
Based on certain past events, we are able to predict the next movement with a probability of more than 50% accuracy in the long run.
This is your edge.
All you need to do now, is do that same type of trade enough times for your edge to show up in your PnL.
You realize that Market Analysis is often over rated.
Make no mistake, market analysis is important, but the focus is not on “predicting right”, it’s about “listening to the market right”.
Because as with point 2, you accept that anything can happen, so the price does not have to conform to your expectations.
Instead analysis helps tell you where you are in the market, be able to better interpret price and adapt to what it tells you.
It’s also beneficial to be able to keep things simple, so that at a quick glance, you’re able to identify opportunities.
Then perhaps a closer look to refine your key levels and produce your trading plan.
You can take full responsibility for your trading results because you understand…
It’s how you adapt to the prevailing market actions that determines how profitable you’ll be.
It’s not an “accurate prediction” of the market that makes you money.
It’s how you traded the market that makes you money.
Your analysis of the market direction could be totally wrong, but if you were able to recognize that you were wrong fast, and then quickly adjust yourself to trade according to what the market is actually doing, you’ll be able to make money overall from trading that move.
This is not gut feel trading, you still must have a set of rules to determine when and how you will do trades.
You understand that there is a random distribution between the wins and losses for any given set of variables that define an edge.
The market is always right.
There’s no debating with it or arguing with it.
There is only dealing with it.
So losses are going to be part of the numbers of a valid market edge.
I have an article here which describes why you shouldn’t be too bothered about losing streaks.
They are beyond your control.
To round up this article, let me just suggest a way to get into the Zone quicker, focus on the aspects of trading which you have control over.
Focus on trading your edge.
Take the trades which you should be taking, avoid trades which don’t have your edge.
Focus on managing your risk.
This does not mean just keeping your losses small.
It also means being able to allocate sufficient risk to opportunities.
There are many variations of using these wonderful lines, such as: single, multiple, indicator-based.
Using single, double or triple moving averages are fairly common.
Then there’s the other extreme, with 12 moving averages that Daryl Guppy uses in his GMMA approach.
One of the most popular indicators in the world of technical analysis, is also based on Moving Averages, the MACD.
The MACD is a direct derivative of Moving Averages, therefore a 2nd derivative of Price.
It’s based on tracking the difference between 2 Moving Averages to determine trend direction and strength.
Then there are also different types of Moving Averages.
Simple and exponential Moving Averages are the most commonly used types.
However, in this article we will focus on single and double,simple Moving Averages only.
We will leave the uses of exponential type, triple Moving Averages, GMMA and MACD in a future article.
Crossovers (double moving averages)
This one definitely falls into the category of 2 moving averages at least.
A bullish crossover is when the shorter term Moving Average crosses above the longer term Moving Average.
A bearish crossover is when the shorter term Moving Average crosses below the longer term Moving Average.
Moving Average Crossovers
The key behind the crossover concept isn’t so much of when it crosses over, but that it already has.
This a contextual filter before we move towards the trade setup to get an entry.
If we purely buy and sell just based on the Moving Average’s crossover, we would face an issue:
The periods used to determine the crossover becomes a major determining variable.
However, market volatility constantly changes, trends come and go, lengths of trends are fairly unpredictable.
So the “best” periods to use for the Moving Averages crossover will lose their effectiveness every time the market volatility characteristics shift.
Long run profitability becomes extremely difficult when you have to constantly predict the changes to the coming volatility, in order to make an appropriate shift of “best” periods for your Moving Averages.
So to reduce the reliance on the Moving Average crossover’s accuracy for entry, the more prudent use of the crossover, would be as a contextual indicator for a directional bias on your trades.
Then you’d be looking for your retracement setup or breakout setup for a trade entry in the direction of the crossover.
The exact periods required for the Moving Averages becomes less important, instead the importance shifts to the quality of the trade setup after the crossover, which is offset by trading in the presumed trend.
Overall when used correctly, Moving Average crossovers have a solid place in a sound trading approach.
Moving Average Bounces (single and double)
Another popular use of Moving Averages, is as a dynamic level/area of support and resistance.
This can be a single Moving Average or more.
If you’re observing a single Moving Average, the popular ones are 20, 50 and 200 periods, where price is frequently observed to respect and bounce from.
We know that price doesn’t just react off a level and do a sharp turn on a dime.
The challenge here is defining how far you would let price penetrate the MA before you no longer consider it bouncing.
So the solution was to include a longer term MA, the area between the MAs would become an area of dynamic support/resistance.
This is where you would expect price to bounce away from.
Moving Average dynamic support and resistance
Moving Average Bounces
Moving Average Breaks (single)
This is the most subjective and difficult use of a Moving Average.
If you’ve been trading for some time, you’ll realize that support and resistance is seldom a single price level.
There tends to be a bit leeway where price will extend beyond your pre-determined levels, before it reacts and bounces away.
So at what point, would you consider a Moving Average broken so you can trade in the direction of the breakout?
Break or Bounce?
This requires you to have a definition for “breaking” a Moving Average, which you are comfortable with, and can repeatedly identify on a chart.
Some known ideas are to:
Use a % movement beyond a Moving Average.
Identify a candlestick Close beyond the Moving Average.
Give a limit to the amount of time spent beyond the Moving Average before a breakout is valid.
Using Volume to analyse if the breakout move will sustain.
I hope this article has given you a deeper understanding into the uses of Moving Averages in trading.
They are one of the most powerful yet simple, additions to complement your trading approach.
The stochastics indicator identifies when a market is oversold or overbought.
In the version of this indicator I’m using, there are 3 distinct lines, the %D, %K and smoothed %D line.
There are many ways to use this indicator, so I’m going to use the crossover between the %D and smoothed %D lines to trigger my entries.
I decided that valid bullish crossover signals should happen below the 20 level, while valid bearish crossover signals should happen above the 80 level.
Then we will buy or sell on the next candle’s open.
Here’s a picture describing an example of the bullish and bearish signals:
(Red line = Smoothed %D, Blue line = %D)
Armed with my Stochastics indicator on a default setting of (14,3,3), I took a walk onto the US equities battlefield… and found some interesting results.
The companies are Tesla, Ford and Coca-cola
These test are conducted on the weekly chart from about 2014 to about the middle of 2019
My expectations going into this are:
that it would work well on more volatile counters which don’t trend often.
As a very simple entry and exit signal, I don’t expect it to be profitable.
I don’t expect too many signals as well since it is based on a weekly chart.
And the results are below.
Tesla had a return of 223.78%
Ford had return of 97.32%
Coca-cola had a return of 6.41%
I’ve made a few observations about potential ways in which we can improve the performance of using stochastic indicator in our trading.
A few of my observations are:
Implementing a logical SL and TP will likely improve performance A lot of the trades would move in the favour in the initial part of the trade. So overall results can be improved by implementing a logical SL and TP and even some trade management where the stop loss is pushed up.
Signal quality can potentially be improved. Based on my visual observations, including the %D crossing above or below the 20 and 80 levels as a trigger, might actually help improve the accuracy of the entries.
Perhaps using a moving average to help trade with the shorter term trend might help. Another thing which can be done, is filtering the instances where the short term trend is not in favour of the trade.
Good trades tend to work out quickly.
The longer a trade is held, the less likely it seems to work out profitably.
I did a rough test on 5 random popular large cap stocks, and these are 3 of the positive results.
That’s a surprisingly good hit rate!
If we went to do this backtest on 100 stocks, how many stocks do you think it would work on?
Among the 100 stocks, do you think we can identify similarities in stocks where it would work well on?
There is, of course, a lot more research which can done and from many different angles.
But a preliminary observation like this, does seem to suggest that our common stochastic indicator can still pull in the dollars from the markets.
The key might lay in identifying what type of volatility we can apply it in and a pinch of basic risk management goes a long way.
If you delve deeper into this, do share your thoughts or results.
The answer to that question would have been a flat, “No thank you, I am good.
Please reserve your tasteless airline food for the other passengers.”
Well, being the polite gentleman that I am, I would not have verbally articulated my exact thoughts when the ever-so-polite SQ lady saunters down the narrow lane during meal times.
Well, there was one particular special occasion with the missus that we flew first class and ate a bucketload of caviar, mixing that with champagne on tap.
No chicken nor fish. That was awesome.
However unless you are a drug lord, Hollywood star, the CEO of SIA itself or my buddy Victor (lets just keep with his first name), such experiences are generally out of reach for the normal hardworking middle-class folks we all are.
According to some researchers, the reason why airline food taste so bad for so long is due to our inability to taste the food at high altitude, where we lose as much 30% of our sense of smell. Of course there are also occasions where just the sight of this food on airline trays makes us reach for the paper bag.
SATS Ltd, one of the leaders in the aviation airline catering (and the one responsible for flight meals on SIA Group of airlines) market, is constantly looking to refine the art of serving in-flight meals, with the aim to possibly rival Michelin stars restaurant perhaps?
While I might not be a huge fan of airline food (neither am I a huge fan of SIA – well the company has been voted in a 2019 employee survey as the best company in SG to work for – must be the SQ lady perk), SATS is undoubtedly a company that has been on my investment portfolio radar screen for a while. What do I like about the company?
3 Key points to rule, I mean summarise them all:
1) Positive macro trend: Air travel is rising and this is a trend that will rise for decades to come. More passengers = more aircraft = more meals = more $$$ for service providers. SATS is a natural beneficiary of the growing proliferation of air travel and one with a low maintenance capex nature (unlike airports that generally have to fund huge spending for terminal expansion). SATS spends approx. SGD80-90m per annum in capex relative to the SGD300m in operating cash flow, translating to a free cash flow of SGD200m/annum and rising that has been used to support dividend payments. In fact, SATS is one of the rare gems in the Singapore context that still pays an ever increasing dividend/share over the past 5 years.
2)Consolidating market leading position: Already a market leader in SG and Asia Pacific, SATS is aggressively looking at opportunities to further expand its market share of the aviation catering market as well as ground handling market in this region (APAC is the fastest growing region in the world, in terms of aviation catering and ground handling).
In the company’s recently concluded Capital Markets Day (powerpoint slides can be downloaded from SGX), management highlighted the opportunities of them further increasing their market share dominance in this region due to airline-affiliated caterer divesting these entities to focus on their core passenger business.
In fact, management is so confident of the company’s current strategy that has taken them c.5 years to refine, that they are now going out with a bang è leveraging on its pristine balance sheet (net cash) to increase its investment momentum.
The company targets SGD1bn in new investments over the next 3 years vs. SGD680m done over the past 5 years. Imagine the earnings accretion if each investment yields an immediate 8% ROIC on purchase.
3)Diversification: According to SATS, the company is looking to build up a strong network of central kitchen and food factory facilities in China and India to target the Fast Casual Restaurants (FCRs) – think the likes of Starbucks, Haidilao, Yum! China that owns KFC, all of which are existing customers of SATS.
It makes perfect sense to us why the company is targeting this non-aviation segment (and seemingly losing focus on maintaining its aviation dominance).
To serve the fast growing China aviation market, you need an efficient aviation food processing network which entails having central kitchens. These kitchens need not be exclusive to the aviation market and SKUs developed can often be sold to FCRs as well.
Hence by leveraging on already existing assets originally catered towards its core aviation business, SATS can now achieve diversification through the fast-growing FCR market.
Who ya manager?
It is always comforting to know that a good business is run by a good management. Warren Buffett once famously said that a good business is one “your idiot nephew” could run.
Over the past 10-years, according to management, SATS generated total shareholder returns of 472% (dividends plus capital appreciation), rivalled by only one other company in the STI index (Which one you might ask? Well that’s another read for another day).
SATS in today’s context is definitely not run by a bunch of fools (well one day it might, who is to say never) but with a business that is almost a monopoly in Singapore (80% of market share) and one with an ever growing business presence in APAC through multiple JVs, it is hard to ignore this business that is a natural beneficiary of one of the clearest macro tailwinds in the coming 2 decades.
Good things ain’t cheap
The reason why the counter is still in my radar and not already in my portfolio is due to its hefty valuation. (You can’t be generating 472% return and still look cheap, can you?)
My main grouse has been its premium valuation, trading at a hefty 21x forward PER while the past 2-years historical earnings growth profile has been less than A-star. Much less.
However this could all change with the company’s new growth strategy in place, one which entails accelerating its M&A profile to grow top-line (SGD1bn spending!!! Take my MARNEY) while keeping operating costs in check (check out the impressive growth in operating margins below).
Replacing the need for additional manpower with automation, robots, AI, digital platforms are just some of the “new-age” tools SATS engage to stay at the forefront of the current technological revolution, elevating its productivity and efficiency to be ever so relevant in a fast-changing world.
With Terminal 5 set for opening in 2025 that will almost double existing terminal capacity at Changi, businesses that can capitalise on this huge growth opportunity while ensuring optimal cost control will be the long-term winner.
And I believe that SATS has the in-built DNA to be one, regardless of the captain of the ship.
Can you just take my money already?
Well after all that has been said. Is there a buying opportunity?
There is always an investment case for SATS and given my view of the company’s long-term rosy fundamental outlook, this is one that I am confident will sit well in your core (investment, and possibly trading) portfolio for the long-term.
If most of the stars are well-aligned, you get a company that can demonstrate double-digit EPS CAGR over 3-5 years horizon and get paid a yield of 3.5-4% as you wait for your fruits to ripen.
On a technical basis, I would be waiting for the counter to dip to a support level of SGD4.50 before making a purchase. You can see from our proprietary charts below that SATS does well on a broad basis when it’s in a bullish phase (blue candles). Which is right now.
No-telling if dropping to SGD4.50 would ever happen but with Trump being in the “driver sit”, I would bet that the chance of a significant market correction is more than even and SATS might well is the unwitting collateral damage, like so many “opportunities”.