This article is about how things can go wrong. Really wrong. The day was 11th March 2014. The stock was good old Fannie Mae (FNMA). Read it. Learn from it. And do not make the same mistake, ever.
» The Return of an Old Friend
From late November 2013, after Bill Ackman announced his investment, to mid February, FNMA did not trade very well (see Figure 1). Volume died out as it traded range bound. Then on 19th February, it started to pick up involume and range again. The chart finally confirmed the real breakout that would establish a new trend with higher highs. We loaded up. We were drooling over the possibilities because known story-driven momentum names, especially those with a cult following like FNMA, tend to trade in phases – breakout, trend, continuation, parabolic, panic, bounce. And we knew we could make good money during every phase of the story. It was one hell of a ride.
We made good money every single day on the way up. The phase that I made most of my money in (panic and bounce) had not even occurred yet. Every time it looked close, like it was about to finally happen, the market makers would support the stock before panic occurred and it would sustain trading in a more controlled fashion. Then came 11th March 2014. The Day of Reckoning The day started off great – maybe the best trading open I have ever seen. I was up $20,000+ in both accounts combined. Around 1.45 EST, FNMA started to show sustained weakness. It had the look. I saw dollar signs. I started thinking first six figure day. Finally. After all those controlled pullbacks, this sucker was going to tank! How I Learned to Stop Worrying and Love Taking Pain In order to play a bounce in a stock that is traded over the counter (OTC), you want it to go down as much as possible. The panic should be as turbulent and violent and frightening – as if it is headed towards a number below zero. The better the panic, the cleaner the pattern. But it does not always do that. Even steep pullbacks could end with controlled herky-jerky support rather than trade towards full-blown climactic exhaustion. That is what had been happening lately. FNMA’s patterns the past couple of weeks had not been super clean, cut, and dry as in the past. It would look like it was about to panic, pause, chop up and down, then rip back up – patterns like that. And every time that happened, I would trade it too lightly and torment myself afterwards. Damn it, you are such a coward. Look at all the money left on the table again. So instead of sticking to my low-risk one-shot, one-kill entry method, I did something very different. Something I had never done before when trading an FNMA bounce. I decided to scale in on my firm’s account. With 3,000 share tier sizes every ten to 15 cents on the bid. I wanted to be a hero. I wanted to deliberately jump the gun (buy before a proper signal) and force myself to psychologically commit to some size. Take some pain early so I can numb myself to it later. I would bid small amounts, just to get some skin in the game. Dare the stock to go down even further than my initial entries, because that makes it an even better trade! “Ping-ping-ping”. That is my platform notifying me through sound of my orders getting filled as the market makers continued to walk the stock down.
Even though it was completely unnecessary to be buying (and nevermind the fact that I should be short), I just did not care. My size and drawdown was still peanuts to what I anticipated my full size and actual gain was going to be. The First Bid
The first bid to soak in came in at 4.54. Here we go! This was already a substantial move, down two points from highs. This bidder was the first real signal to buy, or in my case, add. I added more in the firm’s account and initiated long in my personal account. The Fakeout Let me digress for a second. Have you ever gotten stuck in a bounce trade after the first bid drops out? It has happened to me so many times. That is always the risk of playing a bounce trade. The best way to deal with it is to be hyper-vigilant and defensive when they sell into the first uptick attempt. If you use stops or wait for that bid to actually drop, you are going to get slipped badly. I call this flow trading – both the entry and exit plan is based on reaction to the order flow. Over time, this became automatic procedure, hence how I made so many momentum trades the past four months without being burned by any large loss. You are not supposed to trade these plays like a setup trader with stops or a position trader who scales in and out. If you are taking pain on an FNMA bounce trade, you are doing it wrong. Okay, back to the trade. In the next three minutes, I watched closely, waiting for that explosive move off the bid to confirm the bounce. They kept trying to lift the offer on huge volume. Come on. That green candle should happen any minute now. I could feel the tension coiling up in my chest. Tick tick tick, in my mental clock, as the sellers refused to relent. Something felt a bit off.
This was the pivotal moment. It is as if my internal decision maker – the little voice who I trust to manage risk in hot think-on-your-feet situations like these – decided to splinter into two factions. I sold flat within 60 seconds on my personal account. This action relaxed me too much, as if my mind just totally compartmentalised the risk of holding the other 100,000 shares. Heck, my maximum daily loss limit was only $10,000. The little voice that whispered “be careful“ had left thinking his duty had been done. I did not even type in sell orders on my platform. The lack of urgency was startling. It was pure cowboy delusion. I just held on and went for the ride of my life.
Trapped The uptick failed and it traded right back to the 4.54 bid. And it dropped quickly and violently. Sellers were storming the front and traders were beginning to panic. Down to 4.30. Inner monologue: “This is scary, maybe I should hit out and re-evaluate. Save what I can until I see the next signal.” And then: “No! You did not care to hit 4.50’s but you are bailing now? That makes no sense. Stay the course.”
Down to 4.15. “Why am I even in this spot? What is wrong with me!? I never try to take pain, why did I start
now?! I told you to eat it 20 cents ago! Stupid! Well it is too late now, you are committed. Just man up, focus and nail the next entry, that is the only way out.” I would pay offers at prices like 4.13, 4.11 for 5,000 to
10,000 shares just – well, just because. Because why not at this point? Just a little more.
Around four dollars, there was a little bit of buying. A pause. The bid did not quite stick it and show that surge of volume but in my desperation, I could not distinguish between an average signal and a great one. I clicked away furiously with no idea how many orders I sent in and for how much in total. I went way overboard.
Fear and Loathing
Four dollars dropped way too quickly. Everything just became a blur. As soon as I cross the six-figure threshold, I cannot process anything coherently anymore. Down to 3.78. FNMA was down 35 per cent.
Without a Lifeline Now I was staring at around -$130,000. That was 13 times my maximum loss limit. Usually firms would blow out their traders positions at the maximum loss point.
Nobody had said a word to me in person yet. At this point, I was carrying an enormous level of anxiety while, on the exterior, trying to pretend nothing was wrong. I felt like a teenager who had not only totaled his parents’ car while joyriding, but had gotten involved in a hit and run accidental as well. I had blood on my hands. Oh My God. What have I done? I tried to stay engaged and stem the tide. It was going to bounce somewhere. If it bounces and fails to catch up close to my average price, it is going to be a loss and it will hurt but at least it will be less than this. This is too far and too much. I cannot puke it on the way down! Then, when I tried to enter a bid at a lower price, I got this message:
The platform had locked me out. No new orders allowed other than to liquidate an existing position.
Then someone finally spoke up. “What is your plan?“I turned around to see my risk manager behind me, justhis usual calm demeanor. We had always been on good terms. He understood the delicacy of the situation. There was no judgment in his eyes. Yet I felt stung by a pang of unassailable guilt. I fucked up and now it was official – they knew.
“Um. 3.50. Then I will get out.“ I replied. Obviously I had no plan but I had to come up with something.
He added one more thing: “There is news on it right now. The Senate committee agreed to a deal that is going to phase out Government Sponsored Enterprises.“
Wait. This is news-driven? Now I had all these questions and thoughts rushing to the forefront.
My thought: “Is this old news? Did they update it with a key item? Is there some live event going on right now? Why did I not pick this up on Twitter or in the chatroom? Had I been blind all along? All along I was trading on an implicit assumption this was FNMA as usual, trading on panic rather than any kind of fundamental re-pricing. What if this is still the middle of the move? What if technical areas like 3.50 and 3.00 did not matter? What if the panic occurs at one dollar with a bounce to 1.50? But I uttered nothing except a quick “Thanks.“ I knew it was over. There was nothing left to do except feel the rope tighten up around my neck. The Longest Road They continued to walk it down tick by tick. Just a marching line of red candles. There was no pattern change. No sign of bottom. No bidders stepping in front to save the day. I did not care to pray. I knew I deserved everything that was about to happen. I was only thinking about the emotions that would come rushing out of the floodgates once the adrenaline wore off. How would I feel? How would I cope with that feeling? Would I want to jump off the building? The guilt, the regret, the anguish, the desperation, the self-loathing, the unbearable shame of losing big – I was dreading the moment when it would all hit me at once.
3.50. No bid.
For the first time since entering the trade, I finally followed a plan. I sold flat. Picking up the Pieces For a while, I just sat there without speaking to anyone, or even standing up. I was not ready to experience all that emotion. So I kept staring at my screen. 3.30. Just go to three dollars already. Then, it was taking a little longer for the offer to step down. It had been trading above 3.30 bid for five minutes now without a new low. The pattern was changing. I got long in my personal account. My plan was to risk to below 3.30. It acted right, showing the immediate explosive price action, so I never had to pull the trigger. That was the bottom. After the bounce peaked out, I just kept trading in and out of FNMA the way I always traded it. Play both sides. Precise execution. Do not ever take pain. Never hold onto a bias, just react to the flow. Take profits and get flat when in doubt. Only trade the size you can handle, not the size
that you want. I finished the day up $48,500 on FNMA in my personal account.
There is still so much to write about: what happened after the trading day ended, what I should have done
differently, lessons learned about the relationship between my trading and my emotions. One of my biggest regrets is not recognising the moment like I should have. Clearly I recognised what was going on at
4.55, from a pattern recognition standpoint, considering I quickly sold flat on my personal account.
I had all the experience on bounce trades. Yet I still screwed up. «