From my many years on the trading desk, I have witnessed several trading debacles, where either firm traders or proprietary traders have initiated a position (either long or short) and added to the losing position. This practice of adding to losing positions has often accelerated the loss, and even more often, the trader has no exit plan.
The losses on the trading desk do not go unnoticed by the trading supervisor. Not too long after the trading loss has become unacceptable to firm or company standards, a dialogue begins between the trader and the supervisor. Here is an example similar to what I have witnessed on trading desks in the past when a trader has let a position get away from them (names and stocks are fictitious).
Supervisor: Hey, Mike what is going on with XYZ?
Mike: Well it came to my support level and I started buying. It did not hold, so I bought some more.
Supervisor: So you bought on support, it did not hold, why did you not exit the trade and re-evaluate?
Mike: To be honest, I do not know why. I just "like" it here.
Once I heard the "I just like it here" statement, I knew the end result would not be pretty. And more times than not, whether it was several days or several weeks, the losing trade would continue to move against the trader, and eventually they would be forced to puke out the position (often at the bottom), incurring a significant loss in their trading account.
The reason that traders at large firms get caught in huge losing positions, is because it is not their money. It may cost them their job, but not all their savings. Do you think the traders at JP Morgan (JPM) would have ridden that losing trade as long as they did if it was their own cash and not the firm's? The same thing could be said for the Barclay's rogue trader in 2007 and countless other trading fiascos that never reach the front pages.
Whether you are a proprietary trader for a large firm or a retail investor, you need to employ risk-management. It should be based on how much money you are willing to risk as well as the time horizon that best fits your investment or trading needs.
Two weeks ago, I wrote an article on Facebook (FB), and said that I would be a buyer. Fortunately for me, I sat on my hands and actually never did purchase the stock. But even if I had purchased the stock at $40, I would have employed some type of risk control with the position, and would have been out long before the stock reached $32. When I make a trade, I am always aware of how much money I am willing to risk. If the trade moves against me and my risk parameters are breached, I exit the trade. Tight risk control allows me to trade another day.
I do still like the stock, but I am waiting for the dust to settle. The poorly orchestrated and executed IPO has been a "black eye" for Wall Street in their attempt to revive retail interest in the market. From the delayed open, misplaced or lost orders, and most importantly the falling price, plenty of fodder has been provided to the mainstream media to bash the company and those associated with the IPO.
From a technical perspective, there is no reason to own the stock. After opening at $42.05 and briefly trading up to $45 (or $42.99 based on adjusted executions) it has been straight down. Besides Morgan Stanley's (MS) initial stand at $38 last Friday, the only level attracting sustained buying interest has been around $31. After bottoming at $30.94 on Tuesday, buyers stepped in ahead of that level for the rest of the week, with the stock reaching $31.36 on Wednesday and $31.11 Friday. Therefore, those of you that waited to purchase FB , now have a reference point on the downside. If you are tempted to try a long, a stop just under $30.94 would be prudent.
The fundamentals are not looking much better. Of course, MS's slashing of revenue forecasts on the eve of the IPO has been the primary focus of the FB bears. Obviously, that must change and FB must deliver astonishing growth for it to even maintain its current price ($32) at the time of this article.
In my opinion, FB has three potential revenue streams as a result of almost 1 billion users and by far the longest engagement time on the internet in the history of the internet by a large margin.
I did a survey in my family of which has a 75% participation rate in FB (guess who does not have an account in my family of four). Of the three users in the survey, all three of them would pay a minimum of $1 to a maximum of $10 (teenagers these days have no sense of money) per month to continue their subscription. So you do the math, if they even charge $1 per month, how much would that add to the bottom line? But many argue that Facebook would lose the majority of their members if they were to charge a fee. So how about not alienating all the free subscribers and offer some type of premium service to the real FB addicts who would rather die than miss out on a new feature. Something is going to happen in this arena, when and how is the question.
As evidenced by General Motor's (GM) exit from its marketing campaign due to poor results, advertising is a tough row to hoe and with plenty of competition. However, what is the barrier for entry for FB to mimic the Groupon (GRPN) model and tweak it just a bit, to enhance global advertisers with a steady staple of products? Imagine the success this would have in a global market in contrast to GRPN's primary emphasis on local deals.
Finally, and perhaps the most difficult revenue stream to capture. will be from mobile applications. However, since FB users spend large amounts of time on the network through mobile devices, the data collected ("friends" location and what products they "like") will allow the company to better target advertisements to users.
At this time, it is hard to argue that FB is a buy at current levels based on fundamental or technical analysis. So why am I so bullish? Because the herd is so bearish. It is that contrarian side of me resurfacing and concluding that if the majority agrees on one thing happening, the opposite will occur. Similar to the overwhelming bullish sentiment on Apple (AAPL) following its last earnings report.
Once the dust settles from the botched IPO and FB reveals its plan to maximize one or all three of the aforementioned revenue streams (or a new source) perhaps the sentiment on FB will change. There is nothing like a favorable earnings report to awaken the paralyzed Wall Street analysts who at this point are afraid to initiate coverage. By that time, we will have a better understanding of the technicals and more substantiated levels to base any wayward predictions on.
Trading and investing is nothing more then having opinions based on the current information available, and forming a plan based on those observations. If new information becomes available you must incorporate that into your plan and make the necessary adjustments. However, the most important part of any plan is determining your risk/reward ratio and adhering to it, no matter how painful it may be. Keep in mind this old saying my late father repeated to me, "a change of plan is much better than no plan at all".
Disclosure: I have no positions in any stocks mentioned, but may initiate a long position in FB over the next 72 hours.
