Knowing when to dip your toe in the water
There are lots of indicators that can tell a trader when to take the buy and sell, writes Katie Hope
One trader I know reckons whether he has a good or a bad trading day depends on whether he has had time for a bath that morning or not. A half hour soak at 5.30am guarantees a day of winning trades, but a five-minute shower dash-and-splash ruins his entire day. He says he can’t think quickly enough and all his trades go one way – down.
While this might be an individual quirk, a surprising number of superstitious investors rely on some kind of personal ritual to steel themselves for the day ahead. I am sceptical that a quick dip in bubbles holds the key to investment riches, but there are contracts for difference (CFD) investors who definitely win many times more than they lose. What is their secret? What are the buy and sell signals for CFDs?
Clem Chambers, chief executive of financial information website ADVFN, seems somewhat aghast at my question.
“If it was that simple then we’d all be millionaires,” he says. “There is no green light that says buy or a red one that says stop. In a signal you are looking for a correlation between cause and effect, but it could just be good luck.”
It’s all about information of course. But what do you trust? Chambers says that he almost got taken in by an unsolicited daily email which eight times in a row told him correctly that a particular stock would move up that day and then asked him to sign up for his pricey newsletter.
He quickly worked out that if the sender sent half his audience an email saying something would go up and half down, then in 50 per cent of cases he would be correct.
Random Chance
“At the end of the process, two people or so would think they had the best tipster in the world,” he points out. “There are lots of ways to be cheated by random chance.”
As this cautionary tale illustrates, there are no instant answers to when to buy and sell, but there are some common signals that experienced traders follow. They fall into three broad categories which apply to the trading of most instruments, not just CFDs:
- Fundamental data such as profit to earnings ratios or yields
- News stories such as profit warnings, dividend and contract-win announcements
- Technical analysis of charts for trends, support levels and resistance levels.
For the majority of retail CFD investors, who invest on a short- to a medium-term basis, news and technical analysis are likely to prove the most useful.
News stories tend to be factored into the asset price very quickly, but can still offer trading opportunities. In its simplest form, better-than-expected profits will act as a buy signal. Remember, though, that in the current volatility share price moves are often exaggerated.
Buy and Sell Signals
Chart analysis is one of the most popular ways used to track buy and sell signals. Chartists base their trading decisions on analysing price movements. “Support and resistance levels are often talked about and these in turn can present buy or sell signals, as can trends,” says Adam Seagrave, senior trader at CFD and spread bet provider CMC Markets. “Often, moving averages are talked about too, when a price breaks above the moving average it constitutes a buy signal, while a break below suggests it is time to sell.”
Brokerage Lite Financial has set up a system that combines some commonly watched indicators including the moving average and relative strength indicator, which compares recent gains with recent losses to try to determine overbought and oversold conditions of an asset. Based on these, it throws out buy and sell signals. These include whether the market as a whole is oversold or overbought and could be due a bounce or a dip.
As good as it sounds, the system simply provides ideas and as chief executive Iain Rogers readily admits, it is no guarantor of success. “We have to judge the conditions alongside the model,” he says. “In the current volatility we are getting signals every day, but a lot are proving false breakouts. In such cases we often do the opposite. We’re not robots.”
Models might work in some situations, but they have their limitations. Namely, they can’t predict the unexpected. Shares typically move within a tight range and events such as Vodafone’s 14 per cent one day fall last week, which followed the company issuing a warning that revenues would be at the lower end of guidance, for example, is unlikely to have been picked up by any model.
Gut Instinct
“All technical analysis has one thing in common – the belief that history repeats itself,” notes Martin Slaney, head of derivatives at CFD and spread bet provider GFT. In current conditions, when rare events are occurring in financial markets, technical analysis can therefore fall short.
In conditions such as these, Alastair McCaig, senior trader at WorldSpreads, says it often comes down to old-fashioned gut instinct. “If things are moving quickly then technical analysis tends to be thrown out of the window,” he admits.
But, even when things aren’t going as expected, one popular method is the rather inexact science of “contrarian” trading. This simply means going against the crowd at extreme points. When something becomes too popular, that can be a sign of an imminent market top.
“When the crowd throws in the towel, it can be time to get back in,” says Dave Evans, market analyst at fixed odds better Betonmarkets.com. “Humans aren’t entirely rational. At times of stress we can display behaviour that hints at the market’s direction.”
In short, there is no magic solution, but any thing should be better than relying on an analysis of your bathing habits for your trading guidance.