Thoughts and Lessons from the ‘Great Fall of China’ - Part 1

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IMPORTANT HEALTH WARNING This Blog revisit’s a very traumatic period in the Markets. If you are of a Nervous Disposition or if you suffer from any Health Maladies it might be best not to read it or at least to be sitting down and away from Sharp Objects. Alcohol may help in this case, but WheelieDealer makes no suggestions that Readers should use Booze on a regular basis (this goes for Crack Cocaine also).

Unless you are seeing this Blog some time in the distant future (do you guys still have PCs and stuff or does info just automatically appear in your Brains?), I doubt if any Readers are unaware of what happened on Monday 24th August 2015 (I am starting my first draft of this on Tuesday 25th August 2015) and it feels to me like this will become a day in Stockmarket Folklore like the ‘Wall Street Crash’ and the ‘1987 Crash’. Funnily enough, with both of those I suspect many Readers did not trade through either - but we still know all about them nonetheless.

Monday 24th really felt Historic - I have been trading for 17 years ish and have experienced many tough days but even the worst days of the Credit Crunch in 2008 did not feel as bad as it was yesterday. Maybe it is my selective memory or perhaps the Human Mind’s ability to wipe out pain, but the aforementioned day was really something terrifying I felt.

I had the idea to write this Blog as it struck me that there were a lot of Lessons to be drawn from what happened and it will help me with my Investing in the future and hopefully Readers may find some interesting ideas in here also. I wanted to crack on with it as it is fresh in my memory (I can still feel the sting !!) and hopefully my words can give justice to what happened and give us all some sort of Historical Document that we can refer to in the future to help cope with similar tough days to come.

How did the Day unfold?
Before I dig into the particular Lessons, I think it will be a good idea to get down in text a rough view of what actually happened as I experienced it (‘suffered’ may be a more appropriate word). 

On the preceding Friday we had a bad day on the Markets following a week or more of pretty relentless downward moves - I don’t recall them being particularly steep moves, but it just kept grinding down as clearly the Bears were holding the upper hand. As usual the Media have to have a reason for the falls, and this was really blamed on the Chinese Stockmarket which was basically an exploding Bubble (nip over to Wheelie’s Bookshop on WD2 (www.wheeliedealer2.weebly.com) and get a copy of ‘Popular Delusions and the Madness of Crowds’ to give insight into these kind of Bubbles) and a Slowdown in the Chinese Economy from perhaps 6% to 7% Annual Growth to a shockingly pedestrian 3% to 4% (that’s irony by the way).

Friday was quite bad and we went into the Weekend with a lot of stories about further falls and how it was the ‘End of the World‘. I even remember tweeting out the key line of the REM song “It’s the End of the World as we know it, and I feel fine” late on Sunday Night. My god that was a dumb-ass thing to do and I certainly did not feel fine on Monday !!

I did a Blog on Sunday night based on the Charts with regard to how I saw them - I like to do this over the Weekend so I know exactly how the Charts of the Indexes look and I am prepared both practically and psychologically for the Week ahead. I didn’t see much to worry about although in my Blog it did say that the FTSE100 had violated its Uptrend Channel and this could be a problem, although Overshoots are not uncommon. You can see that Blog here:

http://wheeliedealer.weebly.com/blog/phew-that-was-a-tough-week-whats-most-likely-to-happen-now

I remember lying in Bed on Sunday night just after midnight and listening to CNBC and they had John Bollinger (of the Bollinger Bands fame) talking about how he saw things playing out. He said something about a bit of a dip down and then a Rally and then more Selling Pressure in the Autumn - that all ties in with my view and I was quite relaxed - after all, I had a Short FTSE100 Hedge Position and I didn’t expect much bad to happen as I think the China thing has been totally exaggerated as usual.

I woke on Monday probably just before 8am ish and I had no News for my Stocks on the RNS wires - but there was much talk of the Markets dropping at the Open and I recall Asia had had a bad time with the Chinese Market collapsing yet again. The Markets then opened and I can’t remember the precise details but I think they just started dropping straightaway and the Prices of most Stocks were massively down and this was especially the case with Small Caps  - for instance, I think Empresaria EMR was down something nuts like 14% at one point in the morning.

It carried on in this vein and Twitter was pretty busy with people clearly feeling some Fear and I remember tweeting that this was the first time probably since October 2014 that I had seen such Fear in the Markets. I love to see some Fear (as long as it isn’t mine LOL) as it usually marks a ‘Capitulation’ day where even Strong Holders finally throw in the towel and sell their Stocks in disgust and revulsion and terror because they keep dropping. It’s amazing how irrational our minds can become - I think the thought process is that Prices are dropping so fast that if they don’t sell out now then it will go to near Zero and they will lose all their money. I know this because I am pretty damn sure I was having similar thoughts around Lunchtime on Monday 24th which I will come on to !!

It really is quite stupid. It is classic Kahnemann ‘Fast Thinking’ where our lazy, quick, reactionary, Brains just send out Panic signals and make us do dopey things (Daniel Kahnemann‘s ‘Thinking Fast and Slow‘ can be nabbed in Wheelie‘s Bookshop on WD2). We really are convinced that the Stockmarket is going to fall to Zero and we will lose all our Money - it is utterly illogical as our ‘Slow Brains’ would tell us if we were to calm down and take a breather and think things through properly. It would also help to revisit our Rules - particularly with regard to Long Term Investing time horizon.

I am not overly bothered as a Long Term Investor by falls in my Normal Stock Accounts (ISAs mainly) as I know from experience that they always recover and it gives me the opportunity to Buy more Stock at lower Prices - ‘Buy Low, Sell High’ and all that. However, if you have read my Leveraged Spreadbetting Blogs or seen some of my Twitterings about how I use Spreadbets, you will understand (perhaps if I have explained it well anyway !!) that I use Spreadbets to create a ‘Mirror’ Portfolio that copies my ISA Stocks and uses the huge advantages that Spreadbets provide like Leverage, Tax Free nature and Free Cash Generation.

The Key to this Approach is to be very careful with regard to Exposure (this is the equivalent value of the Spreadbets as if they were normal Shares) and to carry a big ‘Cash Buffer’ in the Account. I also Hedge using FTSE100 Short Positions which obviously gain in value when the Markets fall - these help to reduce the pain of such Market Collapses and they mean my Cash Buffer does not get depleted as much as if I had no Hedging. The Hedging helped hugely on Monday 24th and actually worked out very well. However, I do think I was underweight on the size of the Hedges and a Lesson for the future is to use probably 50% Bigger Hedges.

Most of the time when Markets fall I am not overly concerned. I keep a very large Cash Buffer in my igIndex Account and this can cope easily with the Ups and Downs of my Spreadbet Positions and there is a huge amount of ‘Natural Hedging’ - where the movements of the Stocks themselves sort of cancel each other out in a good way. However, on Monday 24th things were very different because all of a sudden all my Stocks became highly Correlated (i.e. they were all moving in the same direction as a group) and they were all going Down in a big way. I am pretty good normally at doing some quick calculations in my head and figuring out what the impact is on my Cash Buffer (if the Cash Buffer goes to Zero and beyond then I might get a ‘Margin Call’ from igIndex and the danger is that if they cannot get hold of me or if I don’t contact them, then they might start selling my Long Positions - which would have been exactly the wrong thing to be doing, as I would have then been out for the bounce.)

Anyway, I think around 10am things were starting to get a little hairy and with such big moves I felt it would be wise to get out of Bed and go and check my Cash Buffer position on my Big Tablet (I could have done it on my Fone but I find that if I need to add Cash it is easier on the Bigger Screen). I logged on to igIndex and I was down a bit but it was not too bad - the Hedge was clearly helping a lot but Markets continued to drop and the Fear was palpable on Twitter. I decided that a bit more Cash wouldn’t hurt and I transferred quite a lot of money into the Account.

This gave me a Chunky Cash Buffer and I felt quite relaxed then. Things were going OK with Twitter abuzz but not too concerning. I think I watched a bit of BBC News and had a brew and then probably headed off for a Shower and to get dressed and stuff. I then settled down to Lunch around 12 ish (I had an Apple Strudel from Tesco with Custard on it - so decadent !!) and all was fine and I remember doing a bit of Twitter.

Then it hit me hard.

I think it was a Tweet from Nicola Duke (@NicTrades) and it said something like ‘Nasdaq Futures Suspended’ - I nearly had a coronary. This was unbelievable and I started to get really freaked out. I honestly cannot remember this happening in the Credit Crunch and I think the ‘Circuit Breaker’ idea was brought in after that particular turmoil. It really hit me though just how serious things were. The idea of the Circuit Breaker is that the Market gets Suspended (Closed) for 5 minutes I think, which gives Market Participants time to think and to calm down a bit !! Hopefully they then re-open and everyone is now completely sensible (or not !!).

Then it got worse.

I recall seeing a Tweet with something like ‘Dow Futures down 600 points’ - that’s a big move, something like nearly 4%. Then there was one like ‘Dow Futures down 800 points’ (5%) and it went to 1000 down and then 1200 down - this really hit me and I think there was something like 2 more suspensions and even the Dow Futures got suspended.

I then had a moment of utter Terror and decided I needed to Short the FTSE100 more - so I rushed to my Tablet and Logged on to igIndex (by this time I was convinced that all my Cash Buffer would have evaporated) - only to find that I could not logon and it was telling me to phone them up - which I always hate doing (it’s not a problem with igIndex Staff, they are great - it’s a weird thing I have where I just like to trade over the computers). Of course, being unable to Logon just freaked me out even more and I was really getting stressed.

I then decided to logon via my Netbook and I managed to get in and I found my Cash was fine and there was nothing to worry about - so I then started to calm down and I gave myself a good talking to for being such a Panic Merchant and for nearly making a Stupid Snap Decision which was driven by Emotions during the Trading Day. I was actually very annoyed with myself because I have a Strict Rule that I only make Trading Decisions out of Market Hours when my Emotions are calmer and under control. I tweeted about this which I find helps to relieve the annoyance and tension.

As it happens there was an incredible Intraday Reversal where the Market rallied something crazy like 800 Points on the Dow Jones - that is about 5%. And if I had put another FTSE100 Short on it would have quickly moved into a Big Loss. It turned out that I closed all my Shorts at the End of the Day and banked a nice Big Profit.

By the Close of the Day my Portfolio had been hit really hard but the Reversal was a really good sign that this was a ‘Capitulation’ day and it was funny how all the TV News Programmes that night were leading with the ‘Stockmarket Meltdown’ as their main headline - it even knocked the terribly sad Hawker Hunter Airshow Jet Crash in Shoreham off the top spot. It is always an amazingly reliable Buy Signal when the TV News and the Normal Papers are leading on a Stockmarket Meltdown. Equally, when the Mainstream Media say that Stockmarkets have hit New All Time Highs, it is time to get Selling.

Later that night I did my usual look at the Index Charts on ShareScope and decided that the Reversal was very nice and I decided to Close my FTSE100 Shorts - the hope being that we would get a bit of a Rally and I could then open the Shorts again a bit higher up. I suspect that the remainder of Summer (what Summer you may well ask?) and especially September and October could be a very difficult and Choppy period for the Markets - so Hedging would be a help. The clear Technical Signs which led me to close my Hedges were the lovely Hammer Candle that was generated (by definition, these are always generated when there is a huge Intraday Reversal after a long period of down days) and the extremely low RSI (Relative Strength Index) readings around 28 or less.

I really can’t see myself doing much Trading until we get to late October - maybe I will do the odd Sell if something gets a bit high or has problems or something. I need to cash in QED at some point but there is still a chance of a Higher Bid so I am sort of giving it space to play out. But at some point I will lose patience and cash it in so that I have some Cash to buy any Bargains in October - I particularly want to pick up more ARM if it stays around these levels or gets cheaper (but of course I don’t want to go in too early and catch a falling knife.)

OK, that’s enough trauma for Part 1. I hope everyone is still with us……

The next Part will go in detail into the specific Lessons that Black China Monday has thrown up.

Let’s hope that’s the last day like that this year, cheers, WD.