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Speculating or Investing By Terry R. Davis

When a person first comes to the commodity markets, he/she is initially attracted by the high returns possible. They have been contacted by a broker or have seen something on FNN and have been told of the “easy” money available to them in the markets. They are told there is a lot of money to be made. There is ! Unfortunately, none of it has ever come easy to me. It’s been said that over 90% of the people end up losing in the futures markets. That probably is accurate. Have you ever seen those disclaimers stating to risk only money that you can afford to lose? Does that tell you something? Speculating is a risky business! Is there a way for Mr./Mrs. Joe Average to turn speculating into investing and take an above average return out of the market? The answer is YES!…and it is above 90% accurate! The method is so simple that you will probably say, “It can’t work!” Folks…it does!

Before we go any further let’s define speculation versus investing. The word speculation conjures up mental images in my mind. I would not classify these images as conservative. How about the word investing? Different image, correct? What are you trying to do with the money you have to “play the market?” What do you want it to do in one year? Do you want it to double, triple or (dare you think) quadruple? The chances for doubling and above are very close to nil ! Your chances are so low you have to look up to see bottom. That’s low!

Let’s spend a minute looking at the safest investment vehicles around. The first that comes to mind is passbook savings. There are no minimums and it earns 5 1/2%. The next and probably as safe would be some type of money market account or a small T-bill or treasury bond. You can expect to earn 79%. These are all very conservative and very safe. Right? The next would be some type of mutual fund. You can expect (if history is a judge) to earn between 8-18%. In the past they have been moderately safe. Since mutual funds are predominant buyers (versus short), if the markets are moving up they do well. If the market goes down so does your investment.

The next investment we should look at is real estate. Historically, real estate has made more people rich than any other investment vehicle. It is moderately safe but requires (generally) a large capital outlay and substantial time for it to grow in value. If you are managing it yourself you will also have to deal with tenant problems. Not fun!

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Let’s move onto the un-conservative (maybe the wording is high-risk) investment vehicles. Your list may not be the same as mine! They are stocks and commodities. This list is not all inclusive but you get the idea of what I am speaking of. There is no doubt that when the market is right stocks and commodities can make a bundle. Especially commodities! Since we know the opportunity exists to make big money….WHY(?) don’t we? Why is it that fully 90% of people lose in the open-outcry markets. The reasons for failure in the markets is beyond the scope of this article but suffice it to say we all have some losses.

Since the opportunity definitely exists for great gains maybe there is a way to cut the risk and earn a moderate profit. My definition of moderate is 25-50% per year. THIS IS POSSIBLE WITH ALMOST NO RISK! ! ! (If you think this return is low in the commodity markets I would suggest that you take a look at the yearly returns for any of the publicly traded commodity funds handled and traded by “professionals”) The minimum amount of capital you will need is approximately $6,000. With this amount you will be trading on the Mid-Am exchange only! ALL of our trades will be low risk and all will be BUYS !

The basics of this “system” are from the book, “YOU CAN’T LOSE TRADING COMMODITIES”, by Robert Wiest and this article is being written with his kind permission. I have several methods with which I trade with. All, but this one, are my own discoveries. I have taken 30% of my trading capital and put it into this conservative method. IT WORKS… I AM USING IT NOW! Your question should be,-”If you are a successful trader, why use somebody else’s work”? This method is so dumb simple you can’t go wrong! Have I peaked your curiosity yet? This article, if you apply it, is worth the cost of your yearly subscription to this magazine many times over.

Okay, let’s get going. This method won’t work with stocks. By the way, Mr. Stock Trader, what is the lowest price a stock can get to? In 1929 a lot of them got to zero ($0). There are even a few today that reach this level! On the other hand, what is the lowest price that soybeans ever got to? This year November soybeans reached $5.96 per bushel before they started back up. Why didn’t the price go further down? Physical commodities have intrinsic value. The price cannot go to zero! At least it never has in my recollection. If nothing else, government programs set a support level that prices rarely achieve on the downside. The last time that corn got to $2 a bushel there were a slug of advertisements in the live-off-the-land magazines (Mother Earth News) for wood stoves that burned corn. When corn is under $2 … corn is a better “wood” (dollar for dollar) than wood. Go figure! If you believe that commodities have intrinsic value then let’s just pick the bottom and ride it back up! That should be simple, right? Wrong, wrong, wrong soybean breath! Picking bottoms and tops is an exercise in futility. Well then, what do we do? I have already told you we will have between 20-50% return and trade above 90% ACCURATE! SOUNDS IMPOSSIBLE! You are probably asking yourself…”When is he going to tell us!” Drum roll, please! We are going to SCALE TRADE!

Let’s set some basic rules and then spell out how we will apply them:

  1. Take a 5 year weekly chart of the commodity you want to look at and divide the high and low into 1/3 rds.
  2. If price IS NOT in the lowest third (or getting ready to move into the lowest third ) of the 5 year price range, DO NOT scale trade this commodity.
  3. If the commodity that you are looking at is currently in or is entering into the lowest third estimate the lowest price that this commodity could reach on this move down.
  4. Re-estimate the lowest price but set it lower than #3 (worst case scenario).
  5. Establish how much money you have to invest (not speculate) in this commodity.
  6. Start in the bottom 1/3 of the last 5 year range and buy on a scale down.
  7. Sell on stops as prices rise.
  8. Continue looking for other opportunities and follow steps 1-8 again.

Simple, huh? If you cannot or don’t want to do anything in the markets but make a CONSISTENT return on your capital this is the system for you! Let’s go on and define the rules one by one so that you have a better understanding.We are going to use line drawings for our examples. When you double check me (l hope you don’t take everything I say as gospel… but if you do I have some ocean front land for sale in Nebraska) you will find that real-time examples are just as good as the line drawings.

Rule 5 says, “how much money do you have to invest?” If you bought your first contract as prices entered the bottom third, how much would it take to hold the commodity to the worst case scenario? If that amount uses all of your available capital you are starting your scale too high. You want to use approximately 80% of your capital and buy the maximum amount of contracts on a scale down to your worst case scenario spot. It is highly unlikely prices will ever hit that level and your scale will normally only use 50% of your capital. You need to remember that it is possible, though! Your scale may be every 10 down or it may be every 13.5 down. Remember, you want to buy the maximum amount of contracts with your available capital but never run out of money. This is one of the keys! You have to allow for accumulated (paper) loss as well as margin required. You compute your scale and then place ALL of your BUY orders at once. When you actually start trading you will probably be using daily charts instead of weeklies. We will continue to use weeklies for this article. This is Figure 3 with the buys in place.

The KEY to this method is that commodities have intrinsic value and can only fall so far before SOMEONE wants it. If you hold the position and correctly distribute your available margin you CAN’T LOSE! Did you hear that?? You can’t lose!

Let’s hypothetically say we bought every 10 down. How do we get out? A rule of thumb I use is to sell every MidAm contract with a $100-120 profit. If you are trading full size contracts multiply this figure by 51 If we bought every 10 down we will sell every 11-13 up (capturing that much profit per contract). Let’s use our example again. Let’s assume that we were correct in our assumption and we filled all of our buys to the bottom. This can either happen over a period of months or sometimes days. Final bottoms are many times reached with a rush! Just like a coil spring must go the opposite way when it is released …. so must prices. This is our Figure 4.

Seven out of seven, not bad trading! This kind of trade may take months to fill and then to liquidate. There are many little nuances I have not touched on but I have given you the basics as I am trading them now. This method of trading is nearly as exciting as watching shellac dry! I never said this kind of trading was exciting… quite the opposite in fact. It only makes consistent money! Are you doing that now?

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