Quote from criveratrading:
So far my "intellectual" edge of analyzing a macro theme, especially in commodities has failed. There are all very logical, very rational, and very well argued positions and themes. One could cite seasonals, i.e. hurricane season, risk/reward reversal i.e. carry trade unwinding etc etc but so far that has meant squat to bottom line P&L. I can make smart arguments, but this isn't a debate, or a term paper, or an academic forum. It's about making a profit. So clearly interpreting or making a theme based trade in commodities doesn't have an edge.
So when is edge gained ? Love to hear what others have felt have been breakthrough situations of gaining edge.
As someone who also trades using "themes", there are a few points I always consider before placing a trade based on them:
1) Good research & analysis: You need to be right about a theme, which requires knowing the fundamentals to a reasonable degree, and having good judgement. Are your themes generally turning out correct, or are you getting many of them wrong?
2) Prevailing expectations: i.e. to what extent is the "theme" already reflected in the price? If a theme is fully priced in then you are unlikely to make any money from it. If a theme is ignored, or even bet against, then if you are right about the theme, you will almost always see an eventual large move in your favour. Michael Steinhardt used the term "variant perception" for this concept - i.e. you profit potential is at its greatest when your thematic view is totally opposed to the prevailing wisdom, and you turn out to be right. Once your view gets fully incorporated into expectations and becomes the new consensus, then it's time to get out.
Have you been placing trades when your theme is truly the contrarian view? Or have you been following themes that are well-recognised and probably already fully discounted in the market?
3) Timing: you can be right on a theme, and the rest of the market can be wrong, yet you can still lose money if your timing is off. For example, in 2003 I was long the Brazilian stock market because it was at extremely depressed levels following a currency/financial collpase. It was also very cheap in 2002, yet that was a bad time to invest because the market was moving down, driven by the deluge of bad news at the time. The thematic case was identical in 2002 and 2003, yet the first year was a bad one to invest (at least until the autumn elections) and the 2nd year was a great time to be investing.
Having a correct variant perception is not enough (unless you are ok with potential 50% drawdowns on your contrary positions e.g. Buffett style "ignore the price" value investing). As a trader you also need to wait until your view *starts to get recognition from the market*. Hold off until the market starts acting in a way consistent with your view, then get more and more aggressive as the market action confirms your view. To maximise your odds, ideally you want to see some kind of market catalyst that sparks off a move in your direction. This could be news, or a strong move to new highs or lows, or something else.
You mention the carry trade unwinding - well this provided a great trade just recently. However it was not a good trade *until* the carry trade crosses (e.g. AUDJPY, NZDJPY) started to show unusual price action in favour of the "unwinding" thesis. You could have been long Yen and short the high yield currencies for years and lost money consistently if you ommitted this timing factor.
So to improve your thematic trading, I would look at these three factors and see how have you been incorporating them.
