Nepse Trading Advisors

Nepse Cheat Sheet Poster

Nepse Cheat Sheet: An unofficial translation of  Wall Street Cheat Sheet

Nepse Cheat Sheet – “We have the words on Nepse Share Market

Key highlights:

  • Introducing you to Wall Street Cheat Sheet and its unofficial Translation Nepse Cheat Sheet
  • Cover psychological aspect of trading
  • Embracing the feeling and improving your decision making
  • Detail Examples 
  • GET a copy of  Nepse Cheat Sheet 

Do you want to know, What the Wall Street Cheat Sheet is ? Now, What is this “NEPSE CHEAT SHEET”?

THEN, you are in the right place. Nepse Cheat Sheet was  translated into Nepali from the Wall Street Cheat Sheet for educational purposes. Many questions may come to your mind while reading the cheat sheet: How can this document be relevant to the markets in Nepal (index is referred as NEPSE)? Why should you care?  Can human psychology of market participants(buyers/sellers) and the market cycles really be captured alongside price chart like this?  Can market cycles really be common across geographies and markets regardless of their size and locations?  

Our goal today is that by the time you are finished reading  this blog,  you will be convinced that, while human psychology is very complex, Wall Street Cheat Sheet does a fairly good job of capturing human emotions going through market participants as the market cycles through different phases, be it rise in market price, or  sharp correction, consolidation or capitulation.

WALL STREET CHEAT SHEET: BACKGROUND

Wall Street, per the Wikipedia,  is an eight-block street in the Lower Manhattan Financial District in New York City.1 “Wall Street” is globally recognized as a symbol of the U.S. capital markets as a whole and broadly refers to the U.S. banking sector and financial interests in  New York City. The area boasts prominent investment banking firms and also  houses 2 largest stock exchanges by market capitalization- NYSE and NASDAQ. It is fair to say that Wall Street is synonymous to the “Capital Markets” and represents all the goods and the bads that any market may bring.

The Wall St. Cheat Sheet, a widely recognized infographic/poster showing the market cycles and the investor’s psychology running along its side, was created by Damien Hoffman and Derek Hoffman. Both of them  co-founded and currently manage WallStreetCheatSheet.com and are joint trademark holders of the Wall St. Cheat Sheet. They are both published authors with a book titled: The Wall Street Cheat Sheet: The Proven Investing System for Winning With Stocks in Every Market, in 2012.  In the book, Derek and Damien Hoffman equip their readers with a ten-step framework that guides investors and traders of all levels how to make the right stock choices. Furthermore, it broadly covers “risk-management techniques utilized by pros to maximize profit in both rising and falling markets, and strategies and tactics for mapping market movements, understanding business cycles, and avoiding common mistakes”.2 

Inspired by the Wall Street Cheat Sheet, a simple yet powerful visualization of human psychology and market cycles as proposed by Hoffmans, we, at Nepse Trading Advisors have translated this poster to create the “Nepse Cheat Sheet” to educate Nepali investors and traders about the market cycles and human psychology.

We strongly believe that the human emotions mapped on the cheat sheet mirrors human psychology fairly accurately.  Do you see a problem with this argument? I understand if you are skeptical at first. Stay with us. 

I would like you to reflect back in time to a point when you purchased a stock at NRs 10 per share. Lets  imagine that it is currently trading at  NRs 100 right now. How do you feel? Euphoric, we hope. We congratulate you on a great investment decision.  Now let’s visit the Wall Street Cheat Sheet & its first unofficial Nepali translation, Nepse Cheat Sheet, and map out the emotional roller coaster that you went through as the price accelerated during the period you have owned that stock.

You may find that while you could not pin down our emotions going in your head, conditions outlined on the “Cheat Sheet” chart could be somewhat accurate. I am sure you agree that human emotions are hard to put into words.  Our hope is that after becoming familiar with this idea of looking at the market and tying them to the emotional journey of market participants, you will be able to make more logical choices as a market participant, namely buying, holding or selling and following your own plan.

More importantly, we hope that you will add this as, yet, another tool for your trading and investment decisions. Key here is understanding your own personal emotional psychology and recognizing it as you experience it. You may also make a brave attempt at keeping it in check, but you may find that it is much harder than it sounds. To be frank, just being aware of those emotional feelings in this context is a win in our opinion.  If you have different suggestions or felt differently after looking at these charts, please leave your comments below. We would love to hear what you thought of it.

simplified market cycle wall street cheat sheet

Also, we want to point you to the often overlooked, smaller graph on the cheat sheet at the top right corner that succinctly shows contraction and expansion of market cycles. Key takeaway from the small chart is that the market builds great wealth by expanding higher when real value is created. It also shows opportunities of maximum financial risk and reward. I think this captures this old saying appropriately “be afraid when everybody is euphoric and opposite when others are too afraid”. 

Another insight from that graph is is that, contrary to the popular belief, value is not created through mere speculation. In fact, we would argue that it is exactly the opposite. While speculators and liquidity providers are important for markets to function well, especially in a new sector or company, we believe that the true wealth and prosperity is created only through real innovation. Think airplane when we had railways or iPhone when we were content with clunky Blackberries. Think boring typewriters(forgive us for calling a typewriter boring- it was an amazing innovation at the time and kept everybody in the office awake with their clunky noises), but we love our computers now, don’t we? That kind of true step function innovation is what drives value and creates real wealth in society.

Now back to trading and investing. Our ultimate hope is that you can refer to Nepse Cheat Sheet as a  guide to make more informed trading and investment decisions in the Nepse share market as you appreciate, embrace and understand your own emotion.  A casual observer may catch these emotions on twittersphere, facebook postings or web chatter, or popular news media. Have you ever thought of how you reacted when your or friends claimed that they 10X’d their investments in 5 days in a certain stock?  We will get back to this topic later.

One challenge that we want to outline from the start is, in hindsight, everything looks obvious in the markets for any informed market participant in terms of where we are in the market cycle. For example  Anger phase or Euphoria or at its worst, why did the government let it happen? (Refer to the Wall Street Cheat Sheet to understand the phase in the market cycle that generates such emotion).

   Successful investors in the markets pay attention to market cycles and human psychology. After all, at the fundamental level, demand and supply drive the market and determines the current market price of an asset or commodity. Of course, government fiscal policies may create or swell manias, but it is how people react to the regulations is what drives the market behavior. When you come down to it, price is a function of demand for an asset, and I would posit it is purely due to human psychology. People either want to buy a certain stock due to FOMO (Fear of missing out) or when they recognize how a particular sector is undervalued and is poised for growth in the future.

Sometimes, we feel ashamed that we did not initiate a position in a stock when we could have in the past or before positive earning news. Yes, been there and done that. We fall into the trap of should have and could have. Yes, I should have been a “cowboy”, I suppose. We digress. Living in such hypotheticals (should have, could have) is futile and unhealthy. A better approach is to create a plan after building a conviction(buy, hold or sell or cut your losses) and sticking with it, and being prudent with your risk management.

      In our opinion, people who have invested in good business with a great management team and a track record of consistent and growing cash flows (or often known as value investing) are likely to succeed. Such companies with consistent track records of profitability are worth putting your hard-earned life savings into. Another much-overlooked aspect of investing is that it is no surprise that entrepreneurs get the highest because they offer something unique to the market potential reward and address a customer need or sometimes create a completely new market that didn’t exist before. For example, creating radion before it existed.  

     With this understanding, we would like to highlight how important it is for traders or investors alike to understand which phase of the market cycle we are in right now. I know you may have many questions about this, such as, What can I expect from this Nepse Cheat Sheet that you have translated? The answer to all the questions is that “it is the market-based psychology of the people.” Let’s dive in deeper, shall we? 

  Now let us revisit the story of a friend or you who bought a stock for NRs 10 about, 6 months ago because your friend told you how great of a company it is. Let us suppose you risked a sizable % of your account in that trade and that you are a passive investor(not as active in the markets). Here is the emotional rollercoaster ride that you may be going through as the price moves through the market cycle as outlined in the Wall Street Cheat Sheet.  (NOTE: this is a tabular representation of the data that is nicely captured in the original document in a graphical format along with Nepali Translation for your study)

Emotional State

 

Price

(NRs)

Feeling

Your Mental State and Reasoning

Disbelief

5

I hate it, it is going to zero, Should I sell it? Will this rally fail?

You have uncertainty, doubt, fear

Hope

10

Recovery is possible

Build some conviction

Optimism

15

This rally is real

Happy, Excited

Belief

20

Time to get fully invested,

Feel great

Thrill

30

I will buy more on margin by borrowing

Want to double down

Euphoria

40

I am a genius, we are all gonna be rich

You don’t take any profits, you forget that other people will take profits or early investors will cash out and you fail

Complacency

30

Just need to cool off for the next rally

 

Anxiety

20

Why am I getting margin calls. This dip is longer

 

Denial

8

My investments are great. Buyers will come back

You feel dejected that you did not take profit

when you had the chance 

Panic

5

Everyone is selling, I need to get out

You gave up all the gains back to the market & fear you will lose your investment

Capitulation

3

I am 100% out of the markets

You panicked and sold at a loss

Anger

2

Who shorted this market?Why did the government let it happen?

Why?

Depression

1

My retirement Money is gone. My savings is gone

We enter the dark side

Disbelief

5

This rally is fake

We forget that new participants and insiders will reenter

The poster does a much better justice than above table, but we wanted to illustrate the point about the emotional state of market participants. 

Few pitfalls that readers should be aware of is that, like everything else in life, price charts and price actions (behavior of how the market moves) look very easy in hindsight, especially when you are looking at historical data. The challenge is that these emotions are felt in “real time” when one is in a position and frankly it does not matter whether you are on a long side or a short side of a trade. Our hope is that armed with this knowledge you will internalize these emotions, note them down as your investment’s  value appreciates in the market and take actions that are consistent with your original trade plan. 

One discipline that may guide you to make concrete trading plans and enable you to manage risk and execute on those plans is technical analysis, which itself is too vast of a topic to discuss here. If used well, technical analysis provides you an approach to map out potential take profit targets and help you make measured risk managed bets.  The idea is you may be better served if you write down all your plans, time horizon, exit points, whether it is a short term vs long term investment before you get into the position to remove emotional issues while making decisions in future.  For instance, if your friend had created a plan that he will sell 35% of his position at Nrs 30, 35% at NRs 40, and keep remaining shares regardless of where the price would go to (even if it were to go below his purchase price), he would have been better off and emotionally satisfied. 

Do note however that, not every single market follows similar patterns. Having said that seasoned traders/investors have a clear time horizon, take profit targets and nature of the investment and understand that there is capital may flow in and out of sectors or particular stocks in the markets. Going back to the above example, even if you took partial profits along the way, in case your stock rallies to NRs 200 in 2 years, you were still able to ride that growth albeit with a smaller number of stocks. Perhaps most importantly, you participated in the gains and your emotional/psychological state is much healthier. Again this is just an illustration of a plan; we admit that your plan may be completely different.

We would like ot outline some key takeaways from the Nepse Cheat Sheet to manage your emotions better and protect yourself:

  • Become aware of your emotional state at various phases in market cycles, or better yet, think about how other market participants could be feeling

  • Create a clear cut plan – how much you will risk per trade. One popular method is by using the % Risk/Stop loss distance. If you want to know more about this method, you can watch my video lessons on it.  

  • Have an invalidation level or stop loss. Stop loss – this is the price at which your reasoning for taking the position is no longer valid. You are better off cutting your losses and purchasing another share at this point. Stop loss of zero is ok if you are a long term investor(write it down clearly on your plan though and be willing to accept the roller coaster in your PNL-profit and loss  statement.) 

  • Be aware of market cycles and understand that it is sometimes ok to be out of tune with the markets. 

  • Practice proper risk management practices 

  • Do not try to be a hero and bet your entire life savings in a stock or set of stocks – make sure you are well diversified and  your risk is managed

  • Split your portfolio into investment and swing trading(trades lasting months/weeks trades) portfolio in case you want to make a bit higher risked bets that may offer you an asymmetric risk reward. 

  • Risk only the amount you can afford to lose per trade so that your  emotional and psychological health is ok. What’s the point of earning money if you are always panicking about losing money in the  markets?

  • Be aware that there are always 2 parties in each trade, for each buyer another person should be willing to sell. 

  • Market typically moves into areas where there could be liquidity resting(large orders)

  • Wealth and value is created through innovation and value creation (trading/speculation does not create value)

Please note that these ideas are time tested and practiced by veterans and successful investors.  We are summarizing them here and it is up to you to build upon and take what resonates to you. Our hope is that you will find value in it, especially if you are new to investing and trading.  Trading/Investing is a very personal journey and you should take what suits your style from this blog. 

Finally, be aware that it is perfectly natural to have all these emotions –that’s how we are hardwired as species. So, how can you get hold of these emotions? Well, the best approach is that you become aware of your emotions and write them down through the markets ebb and flow.  At the very least, your emotional state would be much better than the poor chap on the other side, who could be on the losing side of the trade.  We believe by understanding the market psychology well and practicing proper risk management and diversification could help you grow wealth and participate in the broader market expansion cycle. If you would like to take a deeper dive into Risk Management Principles adopted by veteran traders, you may watch our advanced risk management videos.

If you like this poster, please do share with your friends, colleagues and family. 

Lastly,  we want to hear from you what you thought of Nepse Cheat Sheet? Also, If you have any new insights that we overlooked or practices that you think could be useful for your fellow market participants, please leave a comment. We want to hear from you. 

GET A COPY OF NEPSE CHEAT SHEET

References:

1.https://en.wikipedia.org/wiki/Wall_Street

2.https://www.amazon.com/Wall-St-Cheat-Sheet-Investing/dp/0071787003

 

Author: 

Nepse Trading Advisors/ & Team Member Ashok GC

 
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