The Wisdom of Peter Schiff

With the last video I posted on this site, I recommended a weekly webcast called the Financial Sense News Hour. One of the advantages of listening to this program is that one can become exposed to the ideas of many different guest speakers.

Peter Schiff is a regular contributor to this internet radio show, and is where I first came across his ideologies. Peter Schiff is a stock broker, money manager, author, and, in my opinion, an expert in his field.

About 1 year ago, I read Schiff's book, Crash Proof. In it, he explains his outlook on the US economy, the housing market, the US dollar, and gold. Looking back now at this book, I am amazed at the clarity of wisdom, and the accuracy of his predictions. Most interesting of all, so far only half of his predications have come to pass, with the other half still in the pipeline, in my view.

Here is a video of Peter Schiff shot in November 2006:

Trading Gold Corp's Relative Strength

In the previous post, I mentioned the importance of managing risk by hedging. I also talked about how profitable traders tend to buy strength and short sell weakness. One way of following both principles is to buy a company that is showing strong relative strength, and short sell the index.

The following chart shows Gold Corp, symbol G.to, divided by an ETF that tracks the entire gold stocks sector, XGD.to:

The above chart shows how your profit and loss diagram would look like if you had bought shares of Gold Corp and short sold an equal dollar amount of XGD. With this type of strategy, you are not betting if the price of gold will rise or fall, since you could make money either way, so long as Gold Corp continues to outperform the index.

This type of strategy does not involve making forecasts or trying to predict what the future has in store. It only involves following the trend for as long as it lasts, and getting out when the trend ends.

The next charts show XGD by itself. As you can see, it is very choppy, trendless, and difficult to trade at this time:

One difficulty that trend traders sometimes face is that they need to wait for long periods of time before a major trend develops. But by using ratios, hundreds of combinations can be created, and trends can be found.

By trend trading hedges, I feel that I significantly reduce the level of risk, and at the same time, extract money from the hedge by following the trend. Reducing risk is important, especially if you are dealing with Horizon ETFs, since these products are exceptionally volatile.

The chart below shows an ETF a have talked about a few times before, HNU.to. This ETF tracks the price of natural gas, and, as you can see, is one of the riskiest funds out there:


If you had made a $10,000 investment in this fund three weeks ago, it would have dipped to nearly $4,000 in a matter of days. This is why it is essential the manage risk, and cut losses short if the trend moves against you.

Reducing Risk by Using Hedges

One trait common amongst all successful traders is the ability to manage risk. Experienced traders ask not how much money a trade can potentially make, but how much money a trade could potentially lose. Put another way, not losing money is more important than making money.

When I first started trading, I would usually bet all of my account on a single trade. I have learned (the hard way) that this is not a wise strategy. What I like to do now is go long and short different markets simultaneously in order to reduce risk.

As an example, for the past couple of weeks, I was long gold and short Canadian financials. I did this because the trend for gold was up, and the trend for financials was down. My plan was to hold on to these positions for as long as the trend persisted, which could end up being a day, or a year.

I got blown out of my financials short last Tuesday, but am still holding the gold position. Since I like to have a long and short position on at the same time, I decided to off set some of the risk in my gold position by shorting natural gas. I decided to short natural gas because the trend has turned down.

Being long one commodity and short another substantially reduces risk, but still allows for profit if one of the following three outcomes occur:

1) Gold and natural gas both fall, so long as natural gas falls faster
2) Gold and natural gas both rise, so long as gold rises faster
3) Gold rises and natural gas falls. This is the ideal scenario!

The following chart shows an ETF that tracks gold, GLD, divided by an ETF that tracks natural gas, UNG. If you are long gold and short natural gas, you want this chart to be rising:

As the above ratio chart shows, there are clear times when gold outperforms natural gas, and vice versa. Using this type of ratio charting can help you spot trends that are occurring beneath the surface, which I think allow for an opportunity to profit at a reduced level of risk.

For example, there are times where commodities will correct dramatically, and every commodity will be in the red. If we get one of these days, it probably will not negatively affect my account.

Again, the goal of this position is to remain long gold and short natural gas for as long as the trend persists. If the trend turns around, I will be out.

Interview with Oil Expert Matt Simmons

I feel that when someone works hard, does research, and makes a bold forecast that eventually comes to fruition several years later, that person should be given credit. Along with Richard Heinberg, who I mentioned last time, Matt Simmons is one such person.

Matt Simmons, who spent his entire career working with the oil industry, is author of Twilight in the Desert. Simmons also appears frequently in interviews, such as the one done by Bloomberg above, and was featured in the documentary Crude Awakening, which I highly recommend.

Every weekend I listen to a radio broadcast that can be downloaded from the internet called The Financial Sense News Hour. You can download for free the interviews done with Matt Simmons on this show by clicking here and here.

The Financial Sense News Hour piqued my interest as soon as I began listening to it over 3 years ago now. The program is about 4 hours every weekend, and can be downloaded to an iPod or MP3 player.