Many of us would consider ourselves as being quite “intelligent”. Let’s face it, if it wasn’t for our own individual brilliance, we wouldn’t be where we are today. But one aspect of true intelligence (in this authors view), is to identify our own personal weaknesses, and seek the knowledge of a person who can provide a superior level of information to meet our needs.
For example, whilst I drive a car and also participate in organised motorsport as a driver, my limited knowledge of motor mechanics does not provide me the skills to conduct work on my vehicle. I understand how the internal combustion engine works, what the parts are and how to adjust the moving parts. But let me loose under the bonnet, and I will end up causing more problems than solutions. Therefore, I seek the services of a professional to ensure my pride and joy is race prepared for the track.
The Australian Investment Education (AIE) Model Portfolio service is one such service that requires trust in the professionals that provide the recommendations for your hard earned money. We must abide by regulations and law in providing these services, but your role as an investor is to understand what that service is, why we are selecting the trade or strategy that we have selected, and to evaluate whether or not that position should be included in your portfolio.
In this article, we will explore the statistical result of Self-selecting trades from the AIE Trade recommendation service, or following the Model Portfolio of trades.
AIE is here to provide you with the tools to trade stocks, options and futures contracts. Through our online education services, you can learn about the markets, how they work, and the strategies that professionals use to trade different market conditions.
Students are also provided with access to strategy recommendations through our association with Halifax Investment Services Pty Ltd. With trade recommendations developed by a team of professional market analysts, you have the opportunity to replicate the results that they produce through strategies such as the Covered Call (Buy Write), Spreads or Directional trading.
This service is provided as a Model Portfolio. What this means is that the analysts will select positions for the various strategies in an effort to ensure diversification of industry/sector, and to manage individual trades to balance market risks of other positions within the Model Portfolio.
While as traders, we all have to start with capital that is available to us, there is a Risk associated with selecting trades from the Model Portfolio versus taking all the recommended trades for that specific service.
Evaluate a Selection of Trades
To begin, we need to first evaluate a selection of trades. Rather than selecting ‘good’ trades as a skewed reflection of results, we have selected one of the strategies that provides clients with a lower capital expenditure, and where we have had numerous trades over a short period of time. This strategy is called the Butterfly spread strategy, and these trades were all conducted on the US markets. We have not left any US Butterfly trades from the Recommendation service out of this list.
The following table depicts the trades conducted between 15th April and 18th June. There were 10 trades entered and closed within that time frame.
Readers will note that there were 3 loss trades, and 7 profitable trades during this time frame. The largest loss trade was 100% (gross), while the largest gain was 128% (gross).
Let me be clear in stating that brokerage fees will have an impact on your results. Taking smaller position sizes means the brokerage fees will represent a larger percentage of cost of trade, compared to larger position sizes. Brokerage fees are a cost of trading, and vary between brokers. Halifax Investment Services Pty Ltd can be contacted for details on brokerage fees.
However, following a Model Portfolio is best managed when all positions are taken. To ensure diversification and a clear balance is maintained, the analysts will select positions that they believe not only have a probability of profitability, but that will balance the other existing positions.
For the Butterfly strategy, all positions are selected based on a set criteria. Our analysts evaluate stocks on a daily basis, and if an opportunity presents itself, the position will be presented as a trading opportunity.
It is the strategy approach that provides an edge to investing. For the Covered Call (Buy Write) strategy, for example, the edge is in selecting positions that provide a reasonable premium return to offset the Risk that the share price might fall in value, or even rise too quickly in value. For the Butterfly strategy, our edge is that we have identified situations where Implied Volatility declines, and if a share price remains within a certain price range, we can achieve a specific profit target.
The trader who attempts to select trades out of the balance of trade recommendations, your statistical probability changes. We can present historical results to show past performance, and while this cannot be construed as an indication of future performance, it does reflect how we manage our positions with a standardized strategy. The undefined factor is that no-one knows what the market will do in the future, and hence knowing your Risk management prior to entering the position will define what your Portfolio Risk will be if the markets change.
Selecting trades out of the total balance of recommendations will lower your probability of success!
From our experience, it is exceptionally rare for a client to outperform our results by being selective in which trades they take or do not take. If you were to only place 2 trades out of the previously listed positions, how do we know that you will select 2 profitable trades, 2 loss trades, or 1 winning and 1 losing trade?
Your statistical probability will improve if you participate on all of the trade recommendations, and if you have sound money management principles in place. That is, you have equal weighted positions, and lot sizes that provide a profit potential net of brokerage.
If you would like to discuss how to manage the AIE Trade Recommendation Model Portfolio for any of the strategies provided, feel free to contact our customer service