Debunking Misconceptions – Market Tactics

Misconception 1 – Because of the selling possibility, I am more willing to take a chance on pricing.

Many people believe that if they haven’t gotten a good price, they can make up for it later by making use of the selling possibility. In reality, however, the better the original price, the better off you will be when selling later. That might seem obvious but many customers do not pay much attention to the initial price, thinking they have the option of selling anyway. Carefully analysing prices when buying is an essential part of a well-defined risk management strategy. When the market runs down, you can optimise the price, but it’s always better to optimise the price that was already good. The important thing to keep in mind as well is the fact that market downtrends do not happen that often. That’s why you might not even get the chance to optimise the buying price, and thus it’s important to ensure that you’re buying at a good price in the first place.

Some buyers only consider selling when they have purchased something that wasn’t priced well. Even though selling allows you to fix bad decision, you should use selling as a tool that can be used when buying does not bring the desired results.

Things to remember:

    Key ruleThe better your original buying price is, the better your ultimate price will be when selling.

Misconception 2 –  I should always sell at a higher price than the price at which I bought

The main thing that makes people sell is the possibility of making money when they do it. Nevertheless, the final price is not the only thing that determines profit.  The end customer will have to buy back the energy, and if you have to buy the energy back at a higher price, you will lose instead of making a profit. Sometimes even if you sell back for less than the original price, you can still end up earning money if, for example, the market starts to drop.

Even though the first misconception explains that you should always aim to buy at the best position possible, it is important to be aware of the fact that it can happen that the market drops after you purchased. If that’s the case, the approach that you need to sell at a higher price than the price at which you bought is wrong. In fact, if you hold on to this misconception, you can see some serious losses.

Things to remember:

    Lesson 1When you sell back at a higher price than the original price at which you bought, you will have to buy back and can end up losing money instead of making a profit.
      Lesson 2The position of the price at which you’re selling to the original buying price isn’t important. It’s the drop in the market that can bring you financial gains.  
    Lesson 3Even if you sell at a lower price than the price at which you bought, you can still make a profit.  

Misconception 3 – Bad fixed price can be optimised by selling when the market is on the rise

This Misconception is related to the wrong reasoning of Misconception 2. If you just bought and all of a sudden the market drops, you will most likely feel frustrated and regret. You will probably find yourself thinking that you bought too early and that if you had waited you would have gotten a much better price. Then, if at some point the market starts to rise, you will probably think that now you can compensate for your bad buying decision by selling at a current level. Even if the potential profit is small, you will probably think it’s a good idea to sell.

Nevertheless, you are not a speculative trader, you are an end consumer that will have to buy the energy. For that reason, selling back can be a bad decision if the market continues to rise. If you hold on to your original buying position you can see better benefits than selling immediately when the market starts to rise.

Things to remember:

Rule 1You should buy when the market is rising
Rule 2You should sell when the market is falling

Machine Gun Versus Piecemeal Tactics

If the reality of the markets was predictable and markets moved in straight lines, buying and selling would be extremely easy. All you’d have to do is buy when the market starts to increase in a straight line and sell when it goes down in a straight line. Unfortunately, however, that’s not how markets work. They tend to go up for a few days, then go down for a while, and go up again. Most of the time, it is impossible to tell when a certain trend will commence. One of the biggest downtrends that happened in the energy market was in the 2008-2009 period. During this time, the market drops were much more significant than the days when the market would rise. Many people who wanted to sell during this period were wondering if that was a temporary trend or more permanent market characteristics. Knowing how to distinguish between temporary trends and lasting changes will determine how successful you will be in buying and selling energy.

A strategy that is commonly applied to deal with this problem is the machine gun tactic. Many traders buy every time the markets increase and sell each time they go down. There are many variations to this tactic such as buying on the third day of increasing prices, buying when the prices have increased by at least 3%, etc. You can decide on your own rule but whatever it is, the reasoning behind it is that traders want to make sure that they make the most of the trade reversal and that they don’t miss it. Because each time you do miss it, you will see yourself losing money, and you might struggle with compensating for these losses.

When you’re using the machine gun tactic, it’s very easy to sell out and buy back too soon. This strategy requires a lot of effort and doesn’t always result in financial gains.

So what method should you apply instead?

To deal with the problem of an unpredictable trend reversal, you should consider using the piecemeal approach. You should build up and sell in small portions as the trend advances. To minimise the portions, use risk limits. This way, if you sell at the wrong moment and the market movement changes right after, your losses will be smaller. You will also be able to better manage the entire process.

The biggest downside of this tactic, however, is that you’re likely to miss the absolute highs and lows of the markets, thus losing opportunities. The thing about the markets is, though, that sometimes you have to take the risk.

One mistake you should try to avoid is being too active when it comes to buying and selling. Customers that buy and sell too frequently are prone to making mistakes and consequently losing money. In fact, history has shown that trends that could allow you to make money only occur every few years. That’s why you should have patience and buy and sell carefully. This way you will have a high chance of success.

Sometimes people only realise losses at the end of the year when it’s too late to do anything about it and change the strategy. Buying and selling techniques should not be used to make quick wins. If you want to really benefit from them, you have to take your time and use them with patience.

What are the benefits of using the piecemeal approach?

  1. Once the downtrend that you’ve been waiting for finally happens, you will make more money as you will have gathered large forward positions.
  2. If the market starts to increase, you will be able to build up your positions on all the available forward products.
  3. When the market starts going down again, you will be able to sell them off progressively, getting income over several years.
  4. The probability of getting a downtrend is higher if you commit several years.

Are there any controversies around this strategy?

Some argue that building a long-term perspective into buying energy is a logical step for the budget risk client, but not for the market or survival risk client.

Nevertheless, that’s not true as adding the option of selling limits the price risk when buying. If the market starts to fall after you have bought, you can sell the position again. Using the piecemeal tactic and risk monitoring allows all kinds of clients to eliminate the risk of big losses when, instead of going up, the market keeps going down.

The important thing to remember is that no matter which approach you use, risk limits and value-at-risk calculations should guide you when buying and selling energy. Without a doubt, however, adopting a longer-term perspective is beneficial when optimising your chances of making a profit.

Start working with Niccolo