The most subjective facet of my decision-making system

2月21日

In the previous publication I started talking about my decision-making system. I use it when investing in stocks. This system allows me to answer three questions:

- which stocks to choose?
- at what price to make a trade?
- and in what quantity?

In this post, I will continue to answer the question Which stocks to pick? and tell you about another facet of my crystal.



As you can see, my decision-making system is quite formalized. What do I mean? It has clear criteria for which a company must be checked before investing in its stocks. If we go deeper into this idea, we can say that the state of affairs in any public company can be assessed using numbers from its statements and stock exchange prices for its stocks. All this can be visualized, put into a form that is readable for the investor, and accelerate the decision-making process many times over.

However, there is an area with information that hovers around the companies, directly or indirectly influences it, but is poorly formalized: this is News. News can be called a message related to a company and distributed through its website, media, and social networks. This message triggers an almost knee-jerk reaction among stock investors (and traders). They will try to interpret the information received, make a forecast, and in some cases even make a trade. It is for this reason that the moment the news is published is often accompanied by a sharp movement in the stock price and an increase in trading volume. The order book now has a lot more players than before. These are traders excited by the news, confident of what will happen next.

Here I can’t help but recall the allegory about Crazy Mister Market from Benjamin Graham. It presents the market as a partner who is constantly knocking on your door and offering you crazy ideas (stock prices). Where does this mister get his madness from? My answer is simple — from the news. Despite this, I cannot help but pay attention to the news, I cannot help but interpret it, to build predictions in my head. This happens reflexively, as a reaction to boiling water hitting my skin. However, will I make a trade under the influence of this information? We'll talk about this at the end of the post.

Let's find out what news is available and where to find it. In this publication, I will only consider matters relevant to the stock market. That is information that can directly or indirectly affect the state of affairs in the companies. As I work, I divide the news flow into two categories: macro-event and corp-event.

A macro-event is something that can indirectly impact the state of affairs in a company since it impacts the external environment in which it lives.

For example:

1. In the third quarter, US GDP grew by 4.9% year-on-year, which was better than expected (*).

GDP Dynamics are a general economic indicator of economic growth in a particular country. This event only indirectly affects the business of the US companies. In other words, a company can be unprofitable even if the GDP in the country of its business is growing.

(*) In the news, you will often see the following wording:

- better than expected
- worse than expected
- as expected

These are significant clarifications since it is believed that the exchange price already considers expectations for future events. Therefore, the coincidence with expectations will most likely be perceived calmly by market participants. Conversely, price fluctuations can be significant if the news can be qualified as a “surprise”.

2. The EPA is setting rules for a proposed “methane fee” on waste generated by oil and gas companies.

This news also refers to macro events, as it impacts an entire industry: the oil and gas business. Moreover, please note that methane fee is only suggested. That is, it is not at all a fact that it will ultimately be implemented.

Unlike macro events, a corp-event directly affects the state of affairs in the companies. Let's look at some of them.

For example:

3. Hilton's (HLT) 3rd quarter Profit was in line with revenue forecasts.

The news contains information about Hilton's financial results for the 3rd quarter. Of course, this directly impacts investors’ assessment of the company's prospects, and therefore the volume of investment in it.

4. Devastating wildfires have forced California's largest utility, Pacific Gas and Electric Company, to plan the sale of gas assets.

Based on the news headline, we can conclude that the company is considering selling a significant part of its business (since the word “gas” even appears in the company name) to compensate for the damage from the devastating fires. Of course, this directly points to the difficult situation in the companies.

Well, we figured out which news is considered a macro-event and which is a corporate event. Now let's find them where we need to. First, let's look at the event calendars that are available on TradingView. They are convenient because they inform us in advance what event to expect on the date in question.

Let's start with the ⁣Economic calendar. You can find it in the main TradingView Products menu (Products -> Economic calendar ). This calendar shows upcoming publications of key macroeconomic indicators such as GDP, ⁣ interest rate, unemployment, and inflation. It will also reflect national events — for example, presidential elections. Thus, you will only see macro events in it.

Click on globe and select the country you are interested in, a group of countries, or the whole world: this way you will filter events by geography. If you are interested in tracking only important events, there is a special button for this High importance. There is also a three-column importance indicator next to each event. If all are shaded, the event is of maximum importance. You can expand any event, read information about it, view statistics, and even add it to your personal calendar.



In terms of importance, the higher the importance of the event, the stronger the market reaction may be after the information is released. Furthermore, the strength of the reaction will depend on how much reality diverges from expectations for this event (with the forecast). Please note that the current value published is published to the left of the forecast, and the value for the previous period is published to the right. This allows you to evaluate the released metric over time.

So, my standard set of filters for the economic calendar is:

- Geography: all over the world;
- High importance;
- This week;
- All categories.

The economic calendar has been set up. There is another calendar on TradingView: this is Earnings calendar. It is located in the interface for working with Supercharts and, of course, is intended for analyzing corporate events. Once you go to the chart, click on the calendar icon in the menu on the right, and the events panel will open in front of you.



The Earnings calendar will contain the names of the companies, their next reporting date, and analysts' estimates of earnings per share: EPS. In its meaning, this estimate is an average expectation or forecast. Therefore, any strong discrepancy between current data and the forecast value can greatly change the value of the company's stocks. By the way, you can check this simply by clicking on the company's name in the calendar: the window with the stock price chart will update instantly. The released earnings per share value can be viewed both on the chart itself and in the company's information (the top menu button on the right). The current value will be marked with either a red circle (below the forecast) or a green circle (above the forecast). The gray circle indicates the forecast itself.



Calendars are convenient because they present us with the main essence of the news in a compressed, digitized form. The description of such news is not as important as the value of the key indicator. However, if you want to read classic text news about a related company, simply click on the lightning bolt icon on your chart.



You can also find news grouped by asset class, region, news agency, etc. in the main menu of the TradingView site's root page. Of the groups presented, I most often use News Flow to get a general context of what is happening.

Returning to my decision-making system, there is news (let's call it critical) that can trigger the closure of a position or non-opening of a position in the shares of a particular company, even though the main indicators do not suggest this.

To determine such news, I ask myself three questions:

1. Do I trust this news source?

We are surrounded by many sources of news: social networks, news sites, television, etc. It’s easy to check everyone’s reputation on the Internet. Therefore, to take the news into account, you must trust its source. If you see significant news about a company, but it is not in reputable media resources and/or on the company's website, this is a reason to think whether the source is trying to increase its popularity through a loud headline and unverified content.

2. Does this news describe an accomplished fact?

Even in reputable publications, you can find publications with versions of events, forecasts, and opinions. This is good food for thought. However, when deciding, I constantly try to separate the standpoint from the fact confirmed by a reliable source. Only facts can be considered when deciding.

3. Is an accomplished fact capable of leading the company to bankruptcy?

This is a difficult question that requires an assessment of the company's economic damage, and its comparison with the level of total debt to creditors and current assets. Even if a company is facing bankruptcy, it can be saved by providing assistance from the government or other businesses. Answering this question, I can listen to the opinions of analysts and my intuition. Therefore, this is the most subjective facet of my decision-making system. I just have to tell myself: “Yes, this fact can lead the company to bankruptcy” or vice versa: “No, this news is bad, but it does not pose a critical threat to the business.”

So, if I answer “yes” to all three questions, then I can close a position in the shares of a particular company or not open it, guided simply by my “yes, this should be done.” The fact is that critical news comes out now, and reporting on a specific date in the future: there is a time gap between these events. Therefore, I find myself in a situation where I just need to decide and evaluate it later, in the future, based on published reports. It is similar to flying an airplane that fails during transit. The pilot may not fully understand what happened, but the choice must be made right now. If I answer “no” to any of the three questions, then I continue to use other facets of my “crystal” in standard mode, and leave the news “just for my information.”

In future publications, I will continue to elaborate on my decision-making system and share my approach to choosing the price and quantity of a stock trade.