Partiers and party poopers

Another day, another equity party.  While any one week rally of this magnitude inevitably brings out the equity cheer-leading squad, more macro driven investors are facing a crossroads.   Specifically, anyone who tried risky asset shorts has been forced to cover; the question now facing them is whether to stand pat and await another level to sell, or to rent some long beta and see what happens.

USD/MYR is a perfect example (though this chart will be dated by the time you read this.)  Having gone up in more or less a straight line between May and August, the price action has become increasingly erratic and overlapping, and punctuated yesterday with a sharp downmove.   True, if you were long the whole way up you still have the psychological cushion of being onside; however, as anyone who's ever taken risk will tell you, once you've banked some P/L in a prior month's return, you are loathe to give it back in a new month.  Even within the boundaries of a normal correction, USD/MYR can drop another 5% and still remain well within its secular uptrend.  That's a tradeable move...so do you stop and reverse, or merely stop?   To a large degree, it's a function of trading style and time horizon.


How markets choose to navigate the current crossroads will likely dictate the next few days' or weeks' price action.  Macro Man isn't really a short-term punter, but to him it looks like there's more to go, particularly if China re-opens today and joins the party rather than raining on the parade.  Of course, the longer the party rages, the more likely it is that the cops get called in the person of the Federales...the prospect of which could easily tip the whole thing over again and send us back to square one.

However, even yesterday there were a few turds in the punchbowl, to extend the analogy.  Oil looked set to build on breaking out of the market's pincers but was undone by a much larger than expected inventory build; while the correction was swift, crude remains comfortably above yesterday's breakout point so technically there was little damage done.

Rather more damage was announced by Deutsche Bank after the close, which disclosed an expected 6.2 billion euro loss for Q3 thanks to what owners of the stock hope is a kitchen sink goodwill impairment.  (Remember the kitchen sink write-downs of 2007-08?  You could have fed millions with the contents of those sinks.)  Significantly, the bank also suggested that it dividend would be slashed or even eliminated altogether.

Cynics can and have pointed to DB as a repository for much of the murky detritus that flows through the global and European financial systems, and its hard to argue with that assessment.   For several years after the crisis DB's balance sheet remained as bloated as it was before 2008, though over the past couple of years they've managed to shrink it a bit.  Nevertheless, slashing the dividend is not exactly what equity holders were hoping for, and served as a timely reminder that Eurostoxx dividends and banks trade cheap for a reason.   Remember, kids, you can't spell "SX7E sucks" without "SX7E"!

Finally, Brazil.   The BRL was off to the races on Wednesday, trading 1% stronger against the dollar even when Spooz briefly dipped into negative territory.   And then....bad news from Congress, which couldn't muster a quorum to vote on giving Dilma some budgetary veto powers.  When your friends not only don't support you, but can't be bothered to show up, it's not a good sign.  In any event, USD/BRL performed a volte-face, rallying even as equities came roaring back.

In the grand scheme, of course, the magnitude of the move was nothing special- certainly not in comparison with what we've observed over the past few months.  Then again, the abrupt reversal was a timely reminder that idiosyncratic factors can play a large role in EM valuation, and that Brazil has very few that aren't a headwind at the moment.

For fun, Macro Man dug up an old Brazil PPP spreadsheet that he first wrote in 2005.  The base period was 1994, the date of Brazil's last mega-devaluation (as opposed to the much more garden variety "large scale" devaluations!)

In any event, imagine his surprise when he found that the spreadsheet, this iteration of which actually hadn't been updated since 2007, spat out a PPP for USD/BRL of 3.91.   Way hey!  Of course, looking at it historically, it's kind of hard to suggest that the modeled PPP bears much resemblance to where the BRL has traded in the past.


The original piece of work actually made an adjustment to the PPP to account for shifts in the terms of trade.   As you can see, it worked very well indeed up until the currency wars/Fed forward guidance period from 2011 onwards.  It has identified that the BRL's equilibrium level has gotten weaker, but not to the magnitude of that observed in the marketplace.  That Brazil continues to run trade surpluses would appear to underline that fact.


Of course, the overall current account is well into deficit, thanks to the large and growing income deficit that Brazil runs.  Moreover, the capital account balance doesn't look particularly rosy with corporate indebtedness and foreigners fleeing Brazilian assets.   The PPP tells a story, but not the whole story, and when you add the other factors in (including Bacen perhaps playing along with the government's program) Macro Man continues to see a good old fashioned EM crisis bubbling away.  As such, this remains one market that he expects to remain a party pooper.
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Anonymous
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October 8, 2015 at 8:53 AM ×

The consensus expectation of a sell-off was met with ferocious buying on Dax this morning. Bears once again taken to the slaughterhouse (lol).

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Nico G
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October 8, 2015 at 9:15 AM ×

if people want to ignore warnings so be it. I have written a few times than Deutsche was a time bomb. This is only the start, it's much bigger than Lehman (i know a few cats there) Interrupting holiday to short 100% Stoxx on current bounce from DB morning dip in one trade. Sell 3225 target 3028. Unbelievable price action of late, and fingers too itchy to stay away

Current basket of EM currencies is feeling dandy with MYR leading and i'm spending like a fat gringo in cheap Brazil until i get mugged. Good luck everyone (bulls should trail their profit, there can't be greed in face of current warning).

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Anonymous
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October 8, 2015 at 11:19 AM ×

Sell at 3225... so you caught the exact top tick of the day (again). How fortunate.

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Anonymous
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October 8, 2015 at 11:45 AM ×

FT: MM, brilliant piece...
As much as USD/BRL undershot the PPP a few years ago, I think it's likely to overshoot in the 2 to 5 coming years;
I would taget the 2018 elections (if Dilma can stay until then) to get long; we could well see a USD/BRL topping around 6.5/7 by then as I think we have so far only witnessed the first leg of the Brazilian crisis.
Still, I believe in the long term potential of the country if they can elect someone as good as Cardoso.

I know, regarding the long term potential.....Georges Clemenceau famously said (I paraphrase)

"A country full of future promisses and which will stay thus for a long time"

(Un pays d'avenir et qui le restera longtemps)

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Booger
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October 8, 2015 at 1:20 PM ×

Looks like spoos is still very choppy and coiling up. I wonder which way it will break? My guess is down so I am hoping it will get to 2000 before falling apart.

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Nick
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October 8, 2015 at 1:23 PM ×

The high print was 3227 (2 times), and it VGZ5 traded 4241 contracts with the VWAP of 3255.30 in the first minute when the high was established. Is there any value in doubting other people executions? Better heed the warning or just mind ones own positions. Who knows what's right or wrong.

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October 8, 2015 at 1:56 PM ×

Interesting to note that the A shares, listed in new York ASHR are indicated down over 3%. Domestic china rallied less than NY expected after golden week.

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Anonymous
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October 8, 2015 at 2:45 PM ×

@nick - is there any value in posting hindsight calls claiming to have repeatedly bought/sold the top/bottom tick? No. I will also take no notice of the "warning" as most of these calls have been wrong.

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Anonymous
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October 8, 2015 at 3:39 PM ×

FT@Anon 2:45
Well, that's your privilege but Nico's advice has been spot on this summer and until recently and this forum is about diversity of views and analysis...is there any value in posting that you won't listen to someone's opinion?

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Nick
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October 8, 2015 at 3:48 PM ×

There is probably some value in it to show that there are some weak longs. Sort of market sentiment indicator on a tiny sample.

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Anonymous
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October 8, 2015 at 3:49 PM ×

Getting ugly in Germany..Volkswagen AG facilities and private homes raided. Must have awakened a few children.

Never the banks... though.

My advice to VW...lay off 10,000 and see what the government does then.

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Anonymous
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October 8, 2015 at 4:01 PM ×

DB is arguably worse than VW when you look at what they have done over the same period, the write downs they've taken and equity they've had to raise. And yet... Guess it shows the value in fighting and prolonging things.

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Anonymous
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October 8, 2015 at 4:04 PM ×

http://www.insurancejournal.com/news/national/2015/10/08/384259.htm

"Volkswagen AG reported death and injury claims at the lowest rate of any major automaker in the U.S. over the last decade. The numbers are so good that some industry experts wonder if they add up. The average reporting rate of the 11 biggest automakers was nine times higher than Volkswagen’s."

“The data demonstrates that even on a fleet-adjusted basis, the number of reported incidents by Volkswagen is significantly below what one would expect based on those reported by other automakers. They are also significantly below the reporting of automakers that have already been cited for non-compliance.”

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Anonymous
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October 8, 2015 at 5:02 PM ×

No models here to speak of ,but I commend the macro economic narrative of where we've been, where we are ,and probably where we are going.

https://woodfordfunds.com/insight/a-letter-from-america/?utm_source=alert-button&utm_medium=email&utm_campaign=letter-from-america

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Anonymous
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October 8, 2015 at 5:17 PM ×

ft - I have nothing against market views or live calls. I'm extremely skeptical when people claim to repeatedly top/bottom tick the market (especially in current conditions) & the posts are some time after the event. All I see is repeated bearish bias in the face of a rising market, and retrospective claims. To me this is just indicative of ego.

nick - 3225 & high of the day was just taken out on stoxx - as it rises to the upside along with all other equity indexes. Must be those "weak longs" lol. Call me when you want me to buy your margin liquidation.

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Nick
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October 8, 2015 at 5:24 PM ×

I think Nico made this point before, but what are you talking about: 5 points and you are talking about margin calls? Just give me a break

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Anonymous
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October 8, 2015 at 5:47 PM ×

FT: well, this forum is probably not the best suited place to brag about selling or buying the high / low tick....
However, when you do, there is a sense of elation that you sometimes can' t suppress....it's lonely out there, in front of a screen when you used to be on a desk...

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washedup
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October 8, 2015 at 6:41 PM ×

FT: I get it - my suggestion would be to treat this forum exactly like you would colleagues on a trading desk - my guess is that in that situation, one would figure out how to express elation in a self deprecating enough manner while being sensitive to stepping on your colleagues gonads who had the opposite view. I daresay the community here seems rather aware that trading is a PnL management, and not a 'getting it right all the time' business.

No worries, I belong to the generation that still harbors a sneaking suspicion that blogging, and all of the internet may just be a passing fad, so this will all just sort itself out one day!

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Anonymous
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October 8, 2015 at 6:49 PM ×

FT: @wash
I couldn't agree more on the étiquette
Regarding blogging and the internet, I must confess I was in my early 30s when google suddenly replaced most search engines but I have the feeling it would take a mass extinction event to go back to the old days

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Anonymous
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October 8, 2015 at 7:29 PM ×

New high of day on stoxx... just sayin'

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Anonymous
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October 8, 2015 at 7:33 PM ×

Just saw the above: "trading is a PnL management, and not a 'getting it right all the time' business" - most sensible comment all day.

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Anonymous
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October 8, 2015 at 8:47 PM ×

I will also take no notice of the "warning" as most of these calls have been wrong.
So here's what actually happened: http://i.imgur.com/H9M6pMT.jpg
Yep, a parabolic rally in equities, with shorts once again obliterated (courtesy of those "weak bulls"). Quod erat demonstrandum.

For the record, I hope equities do re-trace soon so that I can buy some more.

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Leftback
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October 8, 2015 at 9:05 PM ×

Mr Shorty looks quite uncomfortable, almost as though he was caught bending over in the wrong direction again this morning. Thanks again to all the punks who "made my day"...!!!

All those "strong resistance" stops have been run now, 1980 was going to be the Line In The Sand. Then 2000 was going to repel all those silly Bulls. Keep those shorts with tight stops running kids, we are going all the way to SPX 2040 or beyond!!!

VIX 17.68, there's plenty of juice left in that lemon, let's squeeze this down to 12-13 next Friday, on the way to who knows where.... come on guys, where are your pattern recognition skills? How many times have we seen this movie?

You don't have to love the economy, the market, the Spoos, Draghi, Kuroda or the Fed. You just have to make money. Right now that's what a lot of people are focused on, and it's going to be like this for a lot longer than you think.

LB doesn't mean to be obnoxious [insert Dr Evil laugh track] but seriously, how can you short this low volume melt up??

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Anonymous
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October 8, 2015 at 9:12 PM ×

adding to scale sales into spx....ez not keeping up, trying to keep enough ammmo dry here- nothing changes sentiment better than price action! but sticking to plan of selling rip buying dip-though haven't seen a dip in a while!

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Anonymous
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October 8, 2015 at 9:24 PM ×

LB - what patterns are you referring to? intraday chop in SnP, $/yen, crude, and etc... are menacing. or do you mean the pavlov pattern of no-hike-in-sight-risk-on?

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abee crombie
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October 8, 2015 at 9:35 PM ×

Glad you are having fun in Brazil mr nico. Have bolinio for me! I seriously doubt we will go to 6.5/7, unless there is a complete blowout of inflation expectations. The root of the problem in many EM is political. Dilma is going to be impeached (my guess) and the FX will rally massively ones that becomes a factor. But for now I am staying away from it. Content to ride MXN.

DB is a special case of crap. I am not sure it represents all eurobanks but it has proven completely incapable in the past few years, ROA, restructuring, dealing with the market, all just horrible. I hope Nico is wrong bc it would be a big blow to all of Europe if a big bank was indeed in trouble. But with DB who knows.

I'm still undecided, like many, how this move plays out, so I am sitting on my longs waiting for a signal.

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Anonymous
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October 8, 2015 at 9:53 PM ×

FOMC top. NFP bottom. Shall it repeat?

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AL
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October 8, 2015 at 9:54 PM ×

Boy it's getting a bit like The Hunt for Red October here .... ahhhh green everywhere!

Seriously, in my humble opinion this bashing between bulls and bears in this blog is somewhat annoying. I know, I know, I could simply open it early in the morning, read the always insightful MM piece while sipping a cup of coffee, without going through all the comments for the rest of the day. But hey, as a long time reader (2008 and counting ...) I must admit, I care about this space and those like me who spent hours reading it.
I think that most of the misunderstanings here are due to the fact that each one of us works with different investment "mandates": from the "one man show" sitting at home in front of his screens, to the money manager, to the prop trader (the few remaining), etc. etc. Myself for example: an old fashioned long only guy who works with traditional asset classes that when decides to shift the asset allocation it takes hours, not seconds. The choices I can make vary from being more long or less long both in terms of equity weighting or duration, countries, sectors and finally single names ... cannot go short, cannot do too many "sexy things" ... and yet I really enjoy the debates, discussions, insights and ideas that are emerging here. Let's just keep it this way and respect each other's work ... Good night everybody.

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Anonymous
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October 8, 2015 at 10:35 PM ×

FT: I felt like a small victory lap at the close (taking the wife to a fancy bar, maybe; she hasn't seen much of me these last 6/8 weeks). But seeing AA results, I think I'll wait till tomorrow. If we have a >O Spooz tomorrow....oh boy....we are off to new highs by Q1. I know SPY is well behaved after hours but it doesn't always means much; this is information theory after all and it takes a while to sink in.
That's why the n blue eyed islanders leave on day n+1

Regarding BRL topping around 6,5/7, I know it's an outlandish call; still, I was almost fired by my (socialist / polytechnician / head of treasury ) boss in the late 90s for asserting Gold would go to 1000 in the following 10 years (it was trading between 250 and 350) and, being at the time so politically conservative fitted nicely with a bullish view on PMs. Mind you, I'm not even short BRL so it's easy for me to say; but I would definitely like to accumulate EWZ below 10 and run it for the following 5 to 10 years.

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Anonymous
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October 8, 2015 at 11:15 PM ×

FT: (well , it depends if u consider the day the info got into the market as day 1) otherwise, it's day n

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Mr. T
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October 9, 2015 at 12:01 AM ×

I dunno guys - there is no equity melt up going on here - indices are flat-to-down ytd. We've seen the previously popular sectors (biotech, banks) get sold and the unpopular (cmds, EM) get a bid. If this is just a suckers rally we should be seeing the previously popular getting bid - and were not. That leaves a rotation, which is not unhealthy at all and leaves plenty of runway. What if TWINE for the commodity names? Focusing on the spoos during a change in leadership is to miss the nuance of whats going on.

As someone who's made some largish bets on energy and related sectors this is a most welcome change. I still see sectors trading at pessimistic price deck levels and played out bearish themes of midsummer. Everyone has a different idea of what macro really means, but I see this as a sector-over-index environment.

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abee crombie
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October 9, 2015 at 4:23 AM ×

Agreed mr t. Sectors and time frames are what matter now. No more buy and hold.

All rallies start with short covering. Cough cough em.

While indexes are still down on the year, let's not forget we are still likely in a secular bull .. Hadn't had a 10% decline for 2.5 years. Very easy to rationalize both sides, imo.

Energy and commodities for me are dead money for the next few years. I'm hoping we bounce a bit more so I can punch out the last of my longs and take a few shorts.

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Anonymous
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October 9, 2015 at 7:19 AM ×

LB,
"come on guys, where are your pattern recognition skills? How many times have we seen this movie?"
The researched sample data tell us there are no such things when expressed in terms of recognising successful outcomes (excluding hindsight of course). Where pattern trading leads to positive returns it does so because it's employed with sound money management NOT because of a higher than random chance recognition of patterns and their outcomes. That's not an opinion ,it's research on the subject.

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Anonymous
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October 9, 2015 at 9:42 AM ×

@Anon 7:19 - So you're basically saying that money management alone can lead to +eV? In which case you are wrong. I suggest you go to a casino and try your "sound money management" skills there. Report back when you've lost all your money and learnt some basics...

To all the shorts, can we stop the silly posts now? The facts remain that: LB, abee, CV, Pol, MM etc (apologies if I missed someone) have correctly called much of this recent up-move in equities. The bears were massively wrong. Shorting an aggressively bullish equities market prior to a dovish FOMC is not a great decision. Period. Sorry to be blunt, but those are the facts.

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Anonymous
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October 9, 2015 at 10:34 AM ×

Anon 9.42am
"Reporting back" . I didn't say probabilities were not a function of +ve returns. I did say those probabilities are not higher than random chance (50%) hence to suggest that pattern recognition was the basis for action is not sound. I really don't need to point you at backtested data ad infinitum that shows +ve returns arising from sub 50% win rates. Indeed sub 40% and why is this ? Money management. Your analogy to a casino doesn't hold true probably because the win rates are too low to combine with money management to achieve a +ve return.
Now see how nicely I played. You might want to try it some time.

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Anonymous
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October 9, 2015 at 11:06 AM ×

@Anon 10:34 - You may believe that pattern recognition results in a win rate equivalent to random chance, many others will disagree with you. Among other things, it comes down to the definition of "pattern recognition". Be aware that many of the "back-tests" are poorly done; they cater for patterns without taking into factors such as: context, news, and many other variables. In brief, most of these "back-tests" are overly simplistic and the results therefore the same.

I am fully aware that sub 50% win rates can (and often do result) in +eV (trend following being a prominent example). However +eV is NOT due to money management. It is due to the combination of win rate and payoff ratio. Ofc a small win rate & large payoff ratio will result in +eV. And money/risk management, correct psychology, execution skills are all necessary to trade that edge, but are NOT in themselves an edge. Finally, one cannot "beat the house" in a casino because it is impossible to derive a sustainable edge (let's leave aside card counting & poker for now).

PS Can't I just stick to aggressively toned posts? They're more fun.

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