Newsletter as a Trading System
If you buy a newsletter, you probably get a monthly trading recommendation. And that is usually a recommendation to buy an investment. The newsletter will also have its own stop rules (those that do have stops). As a result, the newsletter will generate a set of profit and loss statements which could be treated as R-multiples. In fact, if the newsletter does not give you initial stops, then you can probably simply use 25% of the entry price as the stop. Thus, I'd recommend risking 1% on that investment and having your total investment be 4% of your portfolio.
In the new edition of Trade Your Way to Financial Freedom, I did an analysis of nine newsletters, using four different models for how to evaluate them. The models included
1) the Win Rate (what percentage of the time does the newsletter make money).
2) the Expectancy… this is the average R-multiple of all of its trades. We actually had two of them with expectancies above 1R.
3) the Expectunity in two years … this means given the number of recommendations given, how much could you expect to make in terms of R in two years of recommendations. In other words, I calculated the number of recommendations given on average in two years and multiplied it time the expectancy.
4) I used my proprietary measure of success, the System Quality Number, which generally tells you how easy it would be to use position sizing to meet your objectives. The higher the system quality number the easier it is to use position sizing to meet your objectives.
While I don't want to repeat what I said in that chapter here, I would like to point out that one of the newsletters evaluated cost $5000 each year. That's right, you'd pay $5000 for a yearly subscription. And this newsletter consistently ranked worst in all of the categories, including having a negative expectancy and a negative system quality number.
What's ironic is that after I did the analysis, the newsletters said that they would guarantee that you'd make a million dollars trading their recommendations in 2006-2007 or they give you a complete refund. The person who had this subscription tried three times in the prior year to get a refund and failed each time. The excuse was either our computers are down or you'd suddenly get disconnected or something else strange would happen.
Anyway, one conclusion that you can easily make from this study is that there is probably no correlation between the price of the newsletter and the quality of the newsletter. In fact, the best newsletters were relatively inexpensive.
One of the newsletters I analyzed was one called MicroCap Moonshots. It effectively recommended microcap newsletters that were trending. And overall the newsletter did not do very well and it is now closed down.
However, there were two phases of the newsletter. The first 38 trades were taken by the originator of the letter, Brian Hunt. For his 38 trades the newsletter had the third highest win rate, the second best expectunity, and the second best system quality number.
However, in March of 2005 the editor remarked that the market was enough to drive him to drink and suddenly another editor was making the recommendations. Lest you think that was good news, there were another 41 trades with the new editor. Those 41 trades had the worst expectancy of any of the newsletters (-0.3R), the second worst expectunity (also negative) and the worst system quality number of any of the newsletters.
And to me that says that the newsletter editor is a major factor in the performance of the newsletter. Imagine one newsletter went from being a star performer to one of the worst, just because the newsletter editor changed. And unfortunately, what was a good idea is now a defunct newsletter.
Have a good weekend. Until next week, when my tip will be steps to discipline, this is Van Tharp.
Dr. Van K Tharp
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