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Monday, 26 February 2018

40% GAINS FROM TOYOINK-WA : A BLOW-BY-BLOW ACCOUNT

On February 22, we were down heavily on a trade. Our paper loss was somewhere to the tune of RM4,000. A part of us thought we were making a terrible mistake due to the usual reasons; arrogance, failure to cut losses, overtrading, a fixation on trading the technicals, et cetera.


When we first began trading about four years ago, such a situation would probably be accompanied by the three -tions : perspiration, palpitations, and constipation. Nausea and visions of homelessness would ensue.

 Ever lost money in stocks? You know that feeling.


Then, on February 24, my position rebounded significantly. The final result was a 40% profit; it's one of those short term high-yield trades I've written about here.








Was it skill or luck? It could really be either. The only elements of skill that we're aware of from this trade was:


1) My EXECUTION in terms of entry price, analyzing the price/volume activity, managing the position and exiting the trade.


2) The CONVICTION to stay in the trade at its lowest point.


3) Prior EXPERIENCE with this type of stock price behaviour. Or to put simply, my homework.


4) An understanding of the RISK-REWARD probability and the acceptance of higher-than-normal losses if the trade fails.


For your benefit as much as ours, we will try to articulate the thought process that went through this particular trade. In any form of investing or trading activity we have zero control over the movement of stock prices. We can only manage our own positions, regardless of where the stock goes. A well-planned trade that loses money is better than a profitable one based on sheer dumb luck, since only one strategy out of these two can be sustainable in the long run.


So let's look at a fairly turbulent 24-hour period with the trade itself. The timestamp is reconstructed from TOYOINK's 5-minute price charts and from my own notes.


CHAPTER 1 : EXECUTION


Toyo Ink Group Bhd came into our radar for one simple reason: it had a near worthless company warrant. On February 23, 2018, the mother share staged a serious rally from 84 sen to breach the RM1 mark. For context, it closed at 78 sen the day before, so its intraday maximum price limit was RM1.08 (a 30 sen increase).




For reasons that remain unknown at the time this article is out, the company is seeing renewed trading interest. One could attribute it to its upcoming earnings disclosure, but no one knows for sure. The company is a not-very-profitable ink manufacturer that is venturing into power plants.



 My attempt at fundamentals research burst into flames before it even started. Link here.


This is a trade that does not involve fundamental analysis, although one metric does help - the asset heavy company carries a net asset value (NAV) of RM1.09, and its stock has been trading at a 50% discount of that for a very long time. At least the upside is partly justified from a valuations perspective.


TOYOINK-WA is a company warrant that expires this year. Its exercise price is RM1.50. With the mother share trading at 55 sen earlier this month (and  being totally illiquid - until recently), the warrant's near worthlessness was justified. But the quick rally to RM1 changed all that.


The higher the stock price, the greater the likelihood that the warrant may actually be worth something. The concept of time value is a very important thing to understand when trading warrants or investment bank-issued call warrants. This is why TOYOINK-WA  rose 1,900% in one day.






9:30AM : The warrant rises from 0.5 sen to 5 sen. That's a 900% gain. My thoughts were : "is everybody out of their minds?". The mother share rises to a peak of 99 sen. That's already a 26% increase from the day before on low liquidity.


We try to visualize different scenarios: could TOYOINK go as high as its limit up price (RM1.08) today? (very likely) What's going to happen to the warrant - will it go up further? (it might but imagine how bloody hard it is to enter a position after it's up by 900 percent).


Mentally our game plan is set : in these kinds of trades it always helps to be reactive, not proactive. I'd initiate a position if the warrant breaks 5 sen. If this happens, there's a chance it can be one of those 'black swan' trades in which prices can increase tenfold under the right circumstances (more on this later).


10:50AM : TOYOINK-WA hits 10 sen within 10 minutes. It was time to react. The mother share hits RM1.04 and was close to the limit up.


In my mind we're anticipating either one of the following scenarios:


1) Share price hits limit up and gets stuck there as new buying volume arrives. There was nothing left to trade but the warrant, so its potential for further price increases are magnified.


2) Share price hits limit up but retreats back to the RM1 range or below on profit taking. This could negatively impact the warrant but the existing volumes suggests an inclination of price stability, and perhaps a price increase.


Another Google search goes awry - TOY OINK?


11:05 to 11:20AM: Bought 100,000 warrants at 12 sen. Then another 50,000 at 12.5 sen. Immediately the warrant rises another 5%. I ended up buying 47,000 more at 14 sen. At this point we were anticipating a potential move towards 20 sen - it seems farfetched but the sheer trading activity at the time was enough to make this a possibility. Stupider things have happened in the markets.


11:25AM : The warrant peaks at 14.5 sen. So does the mother share - it briefly hits RM1.08 but immediately fell to RM1.03. Scenario 2 is the likelier possibility now. The warrant declines to around 12 sen, already a paper loss for me due to the trade taken at the 14 sen mark.


CHAPTER 2 : CONVICTION


3:15PM : The warrant looks shaky as it hovers between 11 sen and 12 sen. We ended up cutting the position by more than a third at 11.5 sen (77,000 warrants). Acceptable losses. At this point the total volume for TOYOINK-WA was at more than 100 million warrants traded - who's accumulating and why? Can it resume the rally tomorrow? (at this point I gave this a much lower probability than the stock just collapsing).


4:00PM : The warrant recovers from 10.5 sen to 12 sen quickly. We made a pivotal call to increase our exposure by 50,000 warrants at 12 sen. The price stability and high turnover is suggestive of a continuing rally; this is purely based on my past observations of similar situations, so it's not a gut call. A trader is required to pull the trigger under severe duress, so the decision was made without hesitation.


4:30PM : Surprise! An immediate price retreat towards 10 sen. This was the low point : my position is down by 16% with a net exposure of 170,000 warrants. I had to make a Trump-ian decision : to drop the bomb (sell everything) or not?


We decided to stay put. There were a lot of market signals (ones we can't disclose here) that the warrant can continue its rally. We were a bundle of nerves but we held our ground. We're  completely emotionally detached to our trades; the three -tions haven't happened to us in years.


There is no panic or extreme emotional peaks here; ourconviction was strong enough to stay invested and we bear full responsibility for the outcome of this trade.


4:50PM : It's market closing time. TOYOINK-WA settled at 10 sen. TOYOINK closed the day at RM1.01. It actually bounced back from 98 sen at least four times in the past three hours, suggesting some sort of price support. It could be worse - the stock could've gone back to 80 sen, or the equivalent of a doomsday scenario.


CHAPTER 3 : EXPERIENCE


Your conviction cannot be based on pure intuition or 'gut feeling' - that's a one-way ticket to bankruptcy and homelessness. It needs a solid foundation; in my case it was homework. We make our trading decisions based on prior observations of similar stocks and warrants. These are repeated empirical observations; what's happened before can and will happen again, and this is one of our competitive advantages in trading.




A caveat : we don't undertake these kinds of trades often. But we'd do it when we encounter these 'black swans' - basically a rare situation in which a stock/warrant can rise by hundreds of percent in a short span of time. It can be due to mispricing, sentiment, or others, but identifying them is a way of boosting trading returns significantly in any given month or year.


Spotted in the wild : a mispriced warrant


Want some examples? There have been a couple this year and we're only in February. We've written about them here and here (one was up 781% at its peak, the other was up 866%). In our mind we had good reasons to approach TOYOINK-WA the same way. It's mispriced and its time value will become apparent once the mother share rises significantly.


A neat summation : mispricings offers supernormal profit potential. New trading interest will bring the stock to what reasonably constitutes fair value. An overshooting in sentiment can lead to short term upside shocks; this is when the profit potential becomes abnormal. Conceptual thinking and practical execution is required to undertake such a trade.


The worst thing to do would be to treat TOYOINK-WA as a gamble.
 


CHAPTER 4 : RISK-REWARD

To make 40%, 80%, 100% profits you have to be willing to risk 15%. There are no easy lunches or low risk high-reward situations. Several profitable trades of this magnitude can make all the difference in your capital position. I firmly believe that such trades are worth hunting down; they can make all the difference in the world.







9:00AM : We were fully prepared to cut my losses if everything goes south. The warrant holds steady at 10 sen on fairly heavy buying volume. The mother share hovers between 98 sen and RM1 for about 15 minutes.




9:15AM : TOYOINK-WA suddenly experiences a drastic surge. It quickly rises to 12 sen, or a 20% gain from the opening price. Heavy buying volume hits the mother share too; now it's well-supported at RM1.01. A rally is imminent.


9:25AM : We decide to increase our exposure by 50,000 warrants. In the ensuing rally we only managed to get 30,800 filled from the order; it's usually a good sign when this happens. The full net exposure is 200,800 warrants at this point. By this time the price hits 14 sen, or a 16% paper profit on my position.


9:30AM : TOYOINK-WA turns out to be a black swan trade. As you can see here:

Warrant goes ballistic: Up 80% from 9:19 to 9:32AM. WTF?

9:25AM : The warrant becomes illiquid beyond the 14.5 sen mark; there's just far more buyers than sellers in this market right now. We're preparing to dispose the entire position beyond my 30% profit target (16 sen) and above. Anything more is just a bonus. By the time it reaches 17 sen we knew from past experience that 20 sen is a distinct possibility. It quickly broke this point.


9:32AM : Sold 100,000 warrants at 21.5 sen. The intraday peak was 22 sen; we were lucky to sell at that price. The buying mania was obvious to us and it was time to exit as there is little upside at this price point. The mother share rises to its own intraday peak of RM1.13 around this time.


9:38AM : Sold the remaining 100,800 warrants at 18 sen. Overall profits of 44% were beyond initial expectations.


And that's it. We're completely out of this trade with no intention of returning to it. There is no happiness, giddiness or slap-on-the-backs here. It's time to move on to the next trade.













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