The Three Things 2011 Teaches You About Trading

01/11/12 09:44:37 AM

by Billy Williams

The year 2011 started with a bang and ended up a bust, but for the professional speculator, it left three key lessons on how to approach 2012.

Security: SPX, ALXN
Position: Buy

The market started 2011 off with all the promise of an off-election year in the US. According to statistical studies, if the first week of the year is up, it's often the case that the rest of the year is likely to follow. If you assumed that 2011 would follow that pattern, you would have been sadly disappointed. See Figure 1.

FIGURE 1: SPX. From the first trading day of 2011 to the last on December 30, the SPX ended up almost where it began. A long year of steep declines followed by painful back-and-forth trading made 2011 a trader's market and marked the buy & hold strategy of the past asdetrimental to the pursuit of outsized returns in the current market.

Graphic provided by: www.freestockcharts.com.

The year suffered one steep plunge after another, only to find itself in a painful period of contraction that kept price moving back and forth within a stagnant price range for almost of a third of 2011. This was the result of fears that Europe's debt crisis would spiral out of control, and the impact could be felt to such a degree that a year-end rally that included both the December effect and the January effect could not muster enough force to help the market push higher.

Given that it was a less than remarkable year in regards to market performance, there were three lessons for traders that not only sum up 2011 but act as signposts for the year to come.

FIGURE 2: ALXN. 2011 revealed that buying strength was a far better alternative than buying value. Stocks possessed of high relative strength such as Alexion resisted the pull of the overall market's decline and went on to reach new price highs as well as produce above-average returns for traders who were smart enough and skilled enough to find such stocks.

Graphic provided by: www.freestockcharts.com.

The first lesson is that the market's price action screamed with a fervent hope that traders would understand that buy & hold is not an effective strategy in the current market. The current market is a trader's market, with traders of all stripes more likely to produce higher returns than hunting for value in the current context of the market.

The reason for this can be found in the second lesson, where 2011 has revealed that strength, specifically relative strength, is outperforming value. Stocks such as Alexion Pharmaceutical have held near all-time price highs during the worst of the stock market decline, revealing remarkable relative strength in comparison to both the overall market as well as individual stocks themselves on a comparative basis. Given that reality, Alexion is more likely to go on to higher price highs than stocks beat down to all-time lows. See Figure 2.

Finally, the last and most important lesson that 2011 has taught you is that price movement is king when it comes to above-average gains and accelerated profits. No matter how great a value you may have bought a stock for, the fact of the matter is that its price can always go lower or, worse, stay in limbo for years.

Remember, Warren Buffett was lauded for his investment in the Washington Post in the late 1970s, but it took three years from his initial purchase for the newspaper's shares to start to improve. Any trader would agree that three years is a long time to tie up your money before it goes into the green, and in the current state of the market, you would be better off exploiting the market's price movement -- up or down -- rather than wait for your kids to graduate high school before seeing a return.

Now, as the hope of a more prosperous 2012 begins to dawn, these three lessons will never be more relevant than they are now. As you go forward in the pursuit of tangible and measurable results in your trading portfolio, remember that markets are dynamic and change according to the times, so you must be able to adapt as well.

Fortunately, 2011 has given you the key lessons to do just that.

Billy Williams

Billy Williams has been trading the markets for 27 years, specializing in momentum trading with stocks and options.

Company:	StockOptionSystem.com

E-mail address:	stockoptionsystem.com@gmail.com
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The Three Things 2011 Teaches You About Trading

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