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Last week, the week of the 400 point DOW meltdown, was the worst week I have had trading since the Internet collapse of 2000. On Tuesday, I woke up to Bloomberg discussing China’s 9% fiasco and the concerns of it carrying over to our markets. Certainly stops would be triggered, at the opening, which would set off a domino effect. Where would the market stop for a breather? It was anyone’s guess. Not being a fan of hard stops – I thought that my mental stop strategy would work in my favor. My preference is to set mental stops and close out positions at the close if triggered. This is a technique that I use to take the intra-day emotions out of my trading strategy.

Since I trade primarily commodity stocks, I had one eye on the DOW – but my focus was on Gold. As the markets gapped down at the open the Gold ETF (GLD) followed suit down 1.5%.

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Then it stabilized and started rising. This was exciting. Money was flowing out of the general market into Gold as a safe-haven. However, as the DOW continued selling off Gold gave up ghost and followed suit.

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The DOW’s 200 point freefall around 3PM was simply too much. I couldn’t stand it anymore and I started selling. Although most of my stops were triggered, I selectively sold off stocks. That’s one of the problems with using mental stops. Your emotions can still get in your way. Obviously, I felt like a schmuck on Wednesday as the market bounced. Thursday would be another down day and I would sell some more.

After the market closed on Thursday, I reflected on a story that I shared with a wife a few years ago. In 1991, I started a video production company. When I resigned from my job as an engineer, I left on positive note. In the back of my mind, I knew that I could always go back if the business didn’t work out. In less than a year, I would be back there working. Several years later, while thinking back on my entrepreneurial experience - I would wonder if I had given it my all. I would recall that some of the people in the business didn’t have a safety net; they seemed to work a little harder than I did.

While reading Napoleon Hill’s book “Think and Grow Rich,” the demise of my business would become apparent. In describing the power of a definite desire, he shared a story of Edwin Barnes - a man who desired to become a business associate of Thomas Edison. According to Hill, “Barnes desire was not a hope! It was not a wish! It was a keen, pulsating DESIRE, which transcended everything else. It was DEFINITE.” Barnes described his desire as such, “There is but ONE thing in this world that I am determined to have, and that is a business association with Thomas A. Edison. I will burn all bridges behind me, and stake my ENTIRE FUTURE on my ability to get what I want.”

When I started my video business, I didn’t burn any bridges behind me. I conscientiously created an exit plan that was executed on cue. Now in my current moment of self-doubt, I reminded myself that this time the bridges figuratively have been burnt. Nearly one year ago, I left my 9 to 5 to trade full-time and I have absolutely no plans to go back.

After the reflection / pep talk, I started devising a trading plan for next day. I considered a non-trade that had been haunting me for weeks. I have been keeping tabs on the subprime industry and recently wrote an article “Subprime Lenders Gone Too Far – A Time Bomb Waiting to Happen.” I made a few bucks shorting a couple subprime lenders last year, but have only been an observer lately.

On February 12, I half-heartily joked in a weekly email to my subscribers that I should short the subprime lenders. This was after HSBC and New Century (NEW) had imploded. Since they had already taken a pounding, I really didn’t think they would continue in free-fall mode. Best case it would be “dead money” for awhile. However, I was quite certain that they were not going up anytime soon. Here are their results since that email through March 1:

  • Accredited Home Lenders (LEND) -8.0%
  • Countrywide Financial (CFC) -8.3%
  • H & R Block (HRB) -8.4%
  • New Century Financial (NEW) -7.9%
  • Obviously, shorting now after such moves would be asking for trouble. I pulled up their charts. For the day, the group was up on a bogus upgrade. I decided that if it sells off tomorrow I am going short.

    new0227

    lend0227

    The subprime lenders gapped down on Friday. So at 11:15, I went short NEW. I added a LEND short at 12:30. At 2:30, 3:40 and 3:50, I added more NEW shorts. By the close, I had a nice short position that was already profitable. Check out the headlines that were released after the close. Each one gets progressively worse.

  • Lender New Century lays off 4.4 pct of work force
  • S&P cuts New Century deeper into junk on mortgages
  • New Century says accounting errors being probed
  • New Century says investigators are probing stock trades
  • New Century faces probe, Fremont to quit subprime
  • New Century says it won’t meet financial duty to banks
  • New Century says it faces criminal probe, will breach covenant
  • On Monday, New Century gapped down at the opening and closed the day down nearly 70%. Needless to say this turned out to be a great trade.

    The market enjoys giving a body blow on occasions, but how you respond will determine your success. I am not much of a fan of the Donald, but he is well known for saying the following: “Never, ever give up. Never quit. You can never be successful if you give up.”

    Thanks Napoleon. Thanks Donald.

    Note: I had a “friend” review this article before it was published. Notice the quotes around friend. I wanted to make sure that article did not come across as boastful. He said that it didn’t appear to be, but pointed out a couple of trading mistakes that I made early in the week. After I calmed down, I admitted that he “may have” some valid points. However, considering that the DOW was down 500 points intra-day and cratered 200 points in one minute. Gold dropped like a brick - with two days of $20 declines. Silver completely buckled. It’s surprising that I didn’t make more mistakes.

    Going into the week a trading service that I use was 50% cash and 50% bonds. However, I had a better idea. Unfortunately, it went awry and put me into scramble mode. Net-net I made money and now have this story to share.

    I chose to publish this article in spite of my “trading mistakes” to hopefully communicate a larger message. That is - how do you respond to adversity? After Thursday, I could have crawled into a hole and relied on the good old “buy and hope” strategy. However, instead I formulated a new plan and acted on it.

    Disclosure: Author holds a short position in NEW and LEND.

    Source: Subprime Trade Nailed (With a Little Help From Napoleon and Trump)