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Perception Trumps Reality


This isn't a game of proving how smart we are, but rather of proving how well we can observe and respond to the final arbiter - the price action.


Critters rejoice as the newest professor steps into the 'Ville. We are proud to welcome Jeff Cooper into our community. Jeff has written several books and released a DVD on trading. He currently consults and trades for himself from his home in Malibu, California where he lives with his wife and daughter. Join us in welcoming Jeff to the 'Ville!

Half the people can be part right all of the time, an'
Some of the people can be all right part of the time,
But all the people can't be all right all of the time.
I think Abraham Lincoln said that.
I'll let you be in my dream if I can be in yours. I said that.

--Bob Dylan

Greeting Minyans or as Robin Williams would say "Gooood Morning Minnnyanvilllle." It feels good to have found such an illustrious new digital home. I'm honored to be part of the Minyan circle.

I'm glad to again be sharing my vibes and views on the market.

Those of you who are familiar with my approach know that I deal exclusively in technicals – time, price, and patterns – believing that what the market does always trumps why it is doing it.

I don't deal in indicators as all indicators are derived from price (or price and volume) so why not go right to the horse's mouth? For me price is the final arbiter. While for my money, the key to the market is sentiment and psychology – not value – hence, the truth of the tape. Valuation is in the eye of the beholder and valuation always goes to extremes on the upside (and downside) – just as the most bullish thing a bull move can do is get overbought and stay that way for a long period, likewise bear moves get oversold and stay that way for long periods as well.

Perception trumps reality every time. One year P/E ratios on a stock are ten, another year they are one hundred. One year Yahoo (YHOO) is Emperor, the next it has no clothes. One year the mantra is that it doesn't matter what you pay for the new paradigm internet stocks. The next year many of those same names are out of business. Three years ago US Steel (X) couldn't hold a bid. A few years later there was no offer it couldn't build on. One year it's all virtual and digital, a few years later it's all basic materials and brick and mortar. We don't forget that at one time Lucent (LU) was the single largest owned name in the United States. Do the underlying fundamentals change that drastically, that quickly or do the underlying perceptions simply get discredited?

If you go on the assumption that perception trumps reality your decision making can be derived from the idea that it is the state of mind of the crowd that determines the fundamentals rather than the other way around.

For me, because psychology drives the game I see the market as the ultimate arena of self discovery. The most important trading weapon you own lies not in any book or Holy Grail Strategy or Black Box system but within yourself: it is, simply put, the power to refuse to allow small losses to turn into large losses. Fundamental rationalizations are meaningless to understanding the psychological nature of the game. There's always a favorite Auntie Rationale of why you should hold on when a stock is going against you. But respecting your Uncle Point keeps you in the game.

Greed, as Gordon Gecko said in the movie Wall Street, is good. But, but fear is great. In relationships, as in our relationship with the market, fear drives us: we sense that if we could just figure this thing out we'd be in control. And, if we're in control we'd feel safe. So we buy the new hot book proclaiming the Holy Grail and seek out the next guru in order to try to figure this thing out and get control of the market. Perversely, the only way to gain control is to give up control. Why? Because speculation is observation, pure and experiential. Thinking isn't necessary and often just gets in the way. In order to observe, you have to be in the moment and you can't be in the moment unless you feel safe. You have to give up the perceived sense of control of locking into a thesis or opinion to truly hear what Mr. Market is saying. How many traders figure out where they're going to be wrong before entering a trade? The only way to feel safe is to determine where your fail-safe point is ahead of time. This goes against our human nature as most traders enter into a set-up convinced they are right. But discipline trumps conviction every time. Moreover society instills in us a sense that never giving up is the road to success. In the market this is the kiss of death. Set-ups are only set-ups. The market can do anything at any time. There is little logic but much truth on the tape. As my buddy Todd says, "In the purest sense, trading is about capturing the disconnect between perception and reality." Any fool can believe the truth; it takes a genius to believe a palpable lie.

This is an up, down, sideways game of expectations and how we and the crowd react to those expectations. This isn't a game of proving how smart we are, but rather of proving how well we can observe and respond to the final arbiter – the price action. Tune in tomorrow to see what I think about what the current price action is saying.
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No positions in stocks mentioned.

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