Sunday, October 19, 2008

Boy Plunger's Pivotal Point Theory



I just finished reading an excellent passage in Richard Smitten's biography of Jesse Livermore, the world's greatest stock trader.

The passage was on Livermore's pivotal point theory (p. 213-215):

The pivotal point theory allowed Livermore the chance to buy at the exact right time. He never wanted to buy at the lowest price or sell at the top. He wanted to buy at the right time and sell at the right time.

This required patience to wait for the perfect trading moment to form. He did not care if the right formation did not occur on a particular stock he was following, because the pattern would appear on another stock sooner or later. Patience, patience, patience - that was the key to timing success.

Livermore always considered time as a real and essential trading element. He often would say it's not thinking that makes the money - it's sitting and waiting that makes the money.

This has been incorrectly interpreted by many people to mean that Livermore would buy a stock and then sit and wait for it to move. This is not so.

There were many occasions where Livermore sat and waited in cash, holding little or no stock, until the right situation appeared. He was able to sit and wait patiently in cash until the perfect situation presented itself to him.

When these conditions came together, when as many of the odds as possible were in his favor, then and only then would he strike.

Buying into the pivotal point assured him the best chance of coming into the situation, just as the action was about to begin. And once he was sure of his play, he was not afraid to make his commitment. He was not called the Boy Plunger for nothing.

His decision was always clear, as he wrote in his own book, published in 1940, How to Trade Stocks:

When a speculator can determine the Pivotal Point of a stock and interpret the action at that point, he may make a commitment with the positive assurance of being right from the start.

But bear in mind when using Pivotal Points in anticipating movements, that if the stock does not perform as it should, after crossing the Pivotal Point, this is an important danger signal.

I have found the study of Pivotal Points fascinating almost beyond belief. You will find a golden field for personal research. You will derive a singular pleasure and satisfaction from successful trades based on your own judgment. You will discover that profits made in this way are immediately more gratifying than any which could possibly come from tips, or the guidance of someone else.

If you make your own discovery, trade your own way, exercise patience, and watch the danger signals, you will develop a proper trend of thinking. Every time I lost patience and failed to await the Pivotal Points and fiddled around for some easy profits, I would lose money.

Livermore knew that this pivotal point theory applied to trading in commodities, as well. While he did not consider this method foolproof, it was a core part of his trading strategy.

Why did a copy the passage above? Because I believe we have reached an important Pivotal Point in the stock market.

When I read articles like this one, discussing how some retail investors are growing leery of stocks in grim market and cashing out, I immediately start thinking about Livermore's pivotal point theory.

The charts above (click to enlarge) come from a recent conference call by the investment consultants, Wurts & Associates (to download material from this October 17th conference call, click here).

They are not the only ones questioning whether or not there is too much irrational pessimism governing market movements right now.

In his blog, Displaced EMA, David Spurr wrote that the NYSE bullish percent says BUY:

During the 1987 Crash, the NYSE Bullish percent got to a low of 6 and then reversed straight up to 28, then reversed down to 20 and moved straight up to 72 without another reversal. The Bullish Percent last Friday 10/10/08 got down to a low of 2.76%. This is the lowest that it has been since 1974. It reversed up this week, providing an indication to buy.

It is possible for the BP to reverse back down. If it does reverse down, then a bull confirmed status will be attained when the subsequent column of x's exceeds the prior column of O's.

David followed that entry with another excellent entry, What Should I Buy?. Last week, I looked at a few stocks that top hedge funds and mutual funds are buying in my post, Beyond the 2008 Stock Market Crash.

Finally, I have looked at the carnage in hedge funds, mutual funds and pension funds and concluded that there are powerful vested interests that will be buying each dip on this manic-depressive market as it slowly grinds higher.

Last week the Dow posted its first weekly gain in over four weeks. Let's see if the momentum will continue this week.

As you decide your next move, keep in mind Livermore's Pivotal Point theory as well as my vested interests theory and try to remain patient and calm despite the emotions du jour.

***Hedge Fund Manager Slams Idiot Bankers

From the FT:

A hedge fund manager who made what is thought to be one of the biggest percentage profits of all time bowed out of the business on Friday with a fierce attack on the “idiots” running big banks who were willing to take the other side of his bets.

Andrew Lahde, founder of California’s Lahde Capital, used his farewell letter to investors to round on the US “aristocracy” able to pay for their children to gain a top-class education.

Mr Lahde, who has made tens of millions of dollars from his highly successful bets against the financial and property sectors during the past two years, also called for the legalisation of cannabis and said he was now dropping out to spend time with his money.

Saying he was “in this game for the money”, Mr Lahde went on to mock those who traded with him.

“The low-hanging fruit, ie idiots whose parents paid for prep school, Yale and then the Harvard MBA, was there for the taking.”

“These people who were (often) truly not worthy of the education they received (or supposedly received) rose to the top of companies such as AIG, Bear Stearns and Lehman Brothers and all levels of our government.

“All of this behaviour supporting the aristocracy only ended up making it easier for me to find people stupid enough to take the other side of my trades. God bless America.”

Mr Lahde is one of the few hedge fund managers to have correctly predicted the subprime crisis. One of his funds made a return of 870 per cent last year. Money is now being returned to investors as the remaining business is shut down.

On Friday, Mr Lahde said he would no longer run other people’s money, preferring to concentrate on managing his own, and urged wealthy hedge fund managers and corporate chieftains to “throw the Blackberry away and enjoy life”.

“I will let others try to amass nine, 10 or 11 figure net worths,” he said.

“Meanwhile, their lives suck . . . What is the point? They will all be forgotten in 50 years anyway. Steve Ballmer [Microsoft chief executive], Steven Cohen [founder of hedge fund SAC Capital] and Larry Ellison [chief executive of Oracle] will all be forgotten.”

Mr. Lahde may be onto something. I suspect many others will follow him into retirement, not through their own volition, but because they will not make enough money to collect performance fees.

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