The Van Tharp Institute

June 14, 2006 — Issue #275

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In this Issue:

Trading Education

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Feature Article

Hurricaneomics, By Darrell Jobman

Trading Tip

A Review of Market Models: Moving Average Crossovers,  by D. R. Barton, Jr.

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Comments from Peak Performance 202 

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Feature

"Here We Go Again," 
Residents Along the U.S. Gulf and East Coast 
Must Be Thinking as The 2006 Hurricane Season Begins.

By Darrell Jobman

Should storms of the magnitude of 2005's Katrina, Rita, and Wilma strike again, the expanding hurricane impact on financial markets will have a ripple effect on global markets and consumers far removed from the vicinity of the storm.

Welcome to "hurricaneomics," a term coined by Louis B. Mendelsohn, who began developing software in the 1980s to analyze intermarket relationships. Hurricaneomics deals with that imprecise slice of economics that suggests that disasters like a Katrina can set into motion a domino action that will have an effect on every U.S. citizen, no matter where they live, and on many different markets, reinforcing the significance of intermarket relationships.

One of the first markets that typically is affected at the first hint a tropical storm is brewing is natural gas, as traders anticipate that a severe hurricane might disrupt Gulf production and shipping. Anything that affects natural gas is likely to have repercussions throughout the energy sector as was evident in 2005 when Katrina approached.

In the aftermath of disastrous hurricanes will come demand for building materials, which will drive up demand and prices for commodities such as lumber, copper and other materials needed to rebuild.

But all those are the obvious plays, the moves the professionals are likely to foresee and capture before most investors realize what is happening. Successful traders who are aware of the hurricaneomic effect expand their view from the eye of the storm to opportunities beyond its immediate reach.

Throw in extraordinary demand from a source such as China and geopolitical events and you have the makings of full-fledged bull markets in energy, as we have already witnessed. In addition to the higher prices everyone in the world is now paying for gasoline or merchandise that involves shipping costs, markets that may seem remotely related to hurricanes can be affected.

For example the shift to ethanol as a clean air additive, has sparked a big increase in demand. A major source of ethanol in the United States is corn. Corn is also a major component of feed for livestock and poultry, which provide meat for consumers, and the United States is also the world's major exporter of corn.

The shock of the U.S. Department of Agriculture's most recent supply/demand estimates is not that the planted acreage of corn has declined from 2005, as expected, but that the usage of corn for ethanol will increase dramatically in the season ahead. With reduced production and higher usage, spurred by energy demand, competition for corn could become intense.

Market prices of ethanol are currently over $3 per gallon, and ethanol producers could pay near $7 a bushel a corn and still have positive returns, estimates Chris Hurt, Purdue University extension marketing specialist. Corn at $7 is a far cry from the price a little over $2 a bushel that livestock producers have paid in recent years.

Hurricanes, past or future, won't be totally responsible for corn prices, of course, but at least part of the current demand for corn for fuel can be attributed to the 2005 hurricanes. If another severe hurricane season exacerbates the current energy situation or if weather in either 2006 or 2007 reduces corn production, corn may be the next bull market.

"The effect of another severe hurricane season could go far beyond commodities and strike at the core of the U.S. and global economies," Mendelsohn points out. Money spent for any materials for further extensive rebuilding or repairing or increased prices for higher gas pump prices or heating bills takes away from spending for other items that could promote economic growth.

The federal government, now very sensitive about providing disaster aid as a result of the fiasco following Katrina, could be expected to step in more quickly in future disasters, further increasing expenditures that will mean more debt. An expanding deficit and more borrowing is likely to mean higher interest rates and higher inflation rates, as has already been noted in government statistics. That has implications for the U.S. dollar, which in turn has an influence on many global markets as the economic ripples from such large-scale disasters expand.

At the same time, higher costs of fuel for heating and transportation and more expensive building materials could slice corporate profits dramatically, reducing prices of equities and leading to a recession that would affect everyone who owns stocks in pension plans or mutual funds.

Whether it's higher interest rates and larger house payments or increased spending at the gas pump or higher bills for energy usage, every U.S. consumer could become aware of hurricaneomics and not just those directly affected by the hurricanes.

Darrell Jobman is Editor-In-Chief for www.Tradingeducation.com, a web site that provides free information and education for traders. For more information click here.

 

On a personal note from the Van Tharp staff: As we prepared this issue today we were receiving the remnants of  tropical storm Alberto, the first named storm of the 2006 hurricane season in the US. Lots of rain with some flooding, but with little wind. Very topical with today's issue. Tonight we also have our local NHL Hockey Team, aptly named, the Carolina Hurricanes, in game five of the NHL Stanley Cups play- offs!

 

Trading Tip 

Trading Tip

A Review of Market Models:  Moving Average Crossovers

by D. R. Barton, Jr.

“When the market is trending, any set of moving averages works.” — Chuck LeBeau

Every time a new trader ventures into the world of technical analysis, the first thing they look at is, almost assuredly, a moving average.  And with good reason.

Moving averages are very simple to understand.  They are often quoted on TV. And they are ubiquitous tools for traders and money managers everywhere.

But…

The way the tool is used tells the tale.  Most people begin by looking at moving average crossovers to give them entry and exit points.  And this is an alluring market model – it is easy to understand and implement and it is easy to build a belief system around the information that moving averages give.  To see how useful this information is, let’s look at the three main ways to use moving average crossovers:

1.    When price crosses above a single moving average, go long; when it crosses below go short.  In this model, one moving average is used as the “line in the sand” with everything below being bearish and everything above, bullish.  Long- term testing has proved this simple tool useful.  For example, if you only hold stocks when the S&P 500 is above its 200 day moving average, you significantly outperform the market.

2.    Buy when a fast moving average crosses above a slow moving average and sell when it crosses below.  This is the classic moving average crossover system.  The bottom line, as Chuck LeBeau’s quote says above, is that this works great in trending markets, and not so well in choppy or sideways markets.  People spend massive amounts of time trying to figure out what time periods to use for their moving averages; but the time would be better spent working a way to tell if the market is trending or not.  Typical sets of moving averages are 9 & 18 bars and 50 & 200 bars.

3.    Use three moving averages.  Here, you require both the fast and medium speed averages to be above the slow average in order to go long. With both averages below the slow one, you go short; and if one is below and one is above you are flat.  A typical set of three moving averages would be 4, 9 & 18 bars.  This is a very compelling theory for how to use moving averages to keep you out of choppy markets and only long or short for trending periods.  Unfortunately, while the three moving average model does moderately outperform a simple two moving average crossover system, it really doesn’t test out significantly better.

Moving Average Crossovers:  Ditch ‘em or Live by Them?

Now, let’s look at our standard list of questions for market models:

Is it theoretically credible?  You betcha.  They work beautifully in trending markets.  If you can limit your losses and live with low winning percentages and pretty big drawdowns, moving average crossovers definitely make money over time.

Who’s it most useful for?  Long term- trend followers.  Others need not apply.

How Fanatic are the fans?  Pretty modest.  As with most standard technical tools, little cheerleading is needed to convince people where moving average crossovers work.

Is it being used by real-life traders?  As a crossover system, very moderately.  But as we shall see when we get to the section on support and resistance, EVERY trader I know uses moving averages.

Next week we’ll continue our series with another market model.  Until then…

Great Trading!

D. R. Barton, Jr. is the Chief Operating Officer and Risk Manager for the Directional Research and Trading hedge fund group. D. R. has been actively involved in trading, researching, and teaching in the markets since 1986.  D. R. has taught extensively in many investment areas including intra-day trading, swing trading, and cutting edge risk management techniques. 

His writing credits include co-authoring Safe Strategies for Fin-ancial Fre-edom and co-creator and contributing author on Fin-ancial Fre-edom Through  Electronic Day Trading.

D.R. presents the IITM Swing Trading Workshop and Professional Tactics for Day Traders Workshop. Each workshop is only held once each year. 

 

Listening in...  

Here's what Attendees Said About Last Week's Peak 202 Workshop:

'I greatly enjoyed having my buttons pushed and learning tools to deal with my issues. I learned more ways to work on my issues and enhance my trading. I understand much better how psychological issues affect trading and that the key to my trading success will be how well I follow and do the Ten Tasks of Trading. As always, I leave the seminar with a new sense of self and more confidence to execute my trading plan and be more successful in my hedge fund." Chip Williamson

"I thought the course material was excellent. I felt we had enough time to cover all the material rather than rushing through at the end. I really enjoyed Carol's contribution. It added a whole new perspective on the material. The meditation exercises are very beneficial and will help me with keep on track/clearing a lot of issues that have been holding me back (sabotage). Good size group (not too big). Everyone had a great attitude and willing to share..." John Borg

"I appreciate the small group of people in this course. The course content is great and just what I needed at this point. My buttons got pushed even more than in 101, which is what I wanted. I have had a paradigm shift (at least one) as a result of the games part of this course. Day 3 really has done a lot to move me forward. I LOVED the spiritual aspect of this course because this is where I'm at. The IITM staff is amazing. Dinner at Van's was also amazing. I also think it is great that you allow non-traders to take your courses." Thora Pomicter

 

The next scheduled Peak Performance Workshops in the USA are in November 2006.  

Peak Performance 101 will be held in Sydney Australia in September 2006.

Participate on Van's Trading Forum, 
a place for traders and investors to share ideas and learn from each other

 

Special Reports By Van Tharp

Click below to read page one of each report, or to order. 

Self  Sabotage - Two Reports of Self Sabotage

Does Your System Still Work in Changing Markets?

 

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Copyright 2006 the International Institute of Trading Mastery, Inc.

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Quote of the Week:

The trouble with weather forecasting is that it's right too often for us to ignore it and wrong too often for us to rely on it. ~Patrick Young

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Free Trading Simulation Game

A computerized version of Van's famous "marble game." 

It is designed to teach you the important principles of proper position sizing. 

Download the 1st three levels of the game for free. Register now. 

 

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2006 
Workshop Mini-Schedule

Aug 25-27 Systems Development
Sept 16-18 Day Trading
Sept 23-25 Peak Performance 101
SYDNEY, AUSTRALIA
Sept 27-29 Systems Development
SYDNEY, AUSTRALIA
Oct 23-25 17 Steps
Oct 27-29 Mutual Funds & ETFs
Nov 3-5 Peak 101
Nov 7-9 Peak 202

 More Info...

 

 

 

 

 

 

 

 

 

 

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