Betfair Race Trading Strategy: Part 2: Liquidity, Cash, News, Volatility, and the Herd Mentality
One of the biggest stock market losers of recent times came in the form of a UK-owned online casino operator.
Listed in June 2005, it was one of the London Stock Exchange’s (LSE) biggest offerings since 2000.
Investors splashed out $1.9 billion, all going to the founders rather than the company itself.
Operating from computers in a Native American territory in Canada, the company drew nearly 90% of its revenue from U.S. residents, where online gambling has always been officially illegal.
The company made no attempt to physically hide these facts in its prospectus, stating openly that its directors "take comfort...in an apparent unwillingness or inability" of authorities to enforce the available legislation.
On October 13 of this year, the U.S. officially banned outright money transfers to offshore gambling sites, clearly stating its prohibition and intent regarding foreign online casinos that flout their rules.
The first news of the legislation hit the UK on September 29, and shares of the company plunged 56% on the LSE.
A spokesman for the company said, "The original owners still hold 70% of the stock and have suffered too." Oh, dear!
Too risky for the US.
Greenberg Traurig lawyer Jeffrey R. Houle put the catastrophe in perspective by emphasizing that the U.S. would not even permit such companies to go public.
“The Securities & Exchange Commission wouldn't have been satisfied with the risk disclosure in the prospectus. The threat of class actions would have been another obstacle.”
The tale, however sad, is a great analogy to use in understanding the essential relationships of liquidity (cash) and volatility (news) in relation to trading on horse races.
Floating on the London Exchange in 2005, the online casino proved an irresistible pull for the world's media: exciting and glam, it was a great "gamblers" punt that was destined for huge and rapid expansion. They loved it. High tech, high risk—the return of the dotcom stock destined for global expansion—was what they loved. Sound familiar?
Experienced traders, who vividly recall the dotcom boom and bust from 1997 to 2001, may recall it with joy or sadness, depending on their individual experience.
Brokers and the Herd Mentality
Newspapers, magazines, and tipster sheets all flooded the market with strong "buy" recommendations. The internet was awash with online poker recommendations.
Within weeks of flotation, it’s a big player in the FTSE 100, the LSE’s flagship index, worth over £9 billion.
Despite the prospectus's open disclosure of small print warnings about the illegality of internet gambling, punters continued to pour in.
The US Senate is also proposing and drafting legislation.
The share price surged rapidly, rising from a float of 116p to a high of 176p. Just for the record, that’s 66% on your investment in a matter of weeks.
This is indeed a classic example of the herd mentality influencing market prices.
The key takeaway is that Betfair amplifies the herd mentality 100 times.
Think about it this way.
If stock brokers, pension fund managers, and full-time professional day traders can make mistakes despite possessing extensive information, experience, and qualifications, imagine what could be happening dozens of times a day on Betfair, where the majority of users are merely engaging in a casual wager?
For experienced traders, events like the online casino debacle are manna from heaven. Take advantage of the bull's rise to 176, closely monitor the technical charts for indications of a shift, and promptly exit the market.
Unexperienced traders remained motionless, akin to rabbits caught in the spotlight. This is a classic example that shows how only experience can assist in knowing when to sell a stock.
Here are a few mental arguments that consistently deter an inexperienced trader from buying or selling:
1. The stock price is rising, so I would be foolish to sell because it might go up some more?
2. The index is unlikely to correct or crash; it will likely continue to rise. I'll wait until the index begins to decline before I sell.
3. This stock has recently experienced a significant decline, suggesting that it is not a company worth investing in. Conversely, the stock is surging; if I don't invest now, I'll lose out.
All three statements may appear logical at first glance, but to an experienced trader, they are fundamentally incorrect for three simple reasons.
1. When supply of a stock outweighs demand at any given price, the price will fall and vice versa. It can be challenging to precisely predict when this will occur. Hundreds of theories abound, millions have been spent on research, and there are libraries full of literature. Nobody has discovered a reliable method for accurately predicting the market.
2. News and events, whether related or completely unrelated to your specific stock, can occur at any time and have a direct impact on the stock or the index associated with your stock. This can significantly impact your stock price at any given moment. In the global economy, news can come in at any time—day or night—and can affect your stock price within minutes. Can you keep up with it all the time?
3. When a stock crashes, the effect of the “herd mentality” can leave it massively undervalued, at which point, although the stock may look like it is in the doldrums, it has actually become a “value” buy. The nature of the crash's cause significantly influences this outcome. If the firm is in financial distress, it will never be considered a good investment. Similarly, when it soars, it can end up massively overvalued and, in reality, represents very poor value.
With all this conflicting information stacked against you, it becomes clear why so many day traders fail and lose faith in the stock market, and why betting exchanges are experiencing such rapid growth.
A good knowledge of technical analysis (TA) and fundamentals combined with personal experience of both winning and losing trades are the only ways to profit long-term from liquidity and volatility.
For those seeking short-term hedging and scalping without the prolonged agony and uncertainty of having medium- or long-term trades open in the stock market, horse racing trading with Betfair is increasingly becoming the preferred option.
• You can choose your race and your horse.
• You know the exact time of the race.
• You can open your trade in the morning and close it in the afternoon.
• You can open it 15 minutes before the race and close it out when the horses are in the stalls.
• You can even wait until the race has started and take advantage of price swings that would cause a day trader to hide behind the couch.
• At the end of each day, you can log into your online profit and loss account, sleep tight, or cry into your whisky, depending on the outcome.
• There is no global economy. There are no hurricanes, earthquakes, interest rates, or profit warnings. There is no setting the alarm clock for opening time, and there is no watching a static stock for months waiting for the quarterly accounts.
All the Fundamentals are free online at http://www.RacingPost.co.uk and http://www.OddsChecker.com.
I will teach you how to use free tools to perform basic technical analysis.
There are paid-for tools for those who really want to take TA to another level.
Prices move so quickly that a real-time charting facility and the ability to fire trades into the market within microseconds are absolutely essential. I will show you a free tool that has these features.
Most importantly, you will need some cash, an open mind, and some bottles.
Let's conclude the unfortunate story of the online casino operator.
Before the inexperienced trader heard the news and had their sell order in for the morning of Monday, October 2, the price had plummeted to 47p, a 56% drop—one of the biggest drops in stock market history.
The Moral: If you do not make liquidity and volatility your best friends as a trader, they will become truly feared enemies.
You must identify a trend early, disseminate all the information and fundamentals, identify the risks, use technical analysis to accurately time your trades, enter the market before the herd stampedes, exit the market before it peaks, and avoid falling off the cliff.
If you think the stock market is volatile, wait till you start trading horses.
