This is perhaps the key section of this e-book: It is your trading methodology that will ultimately determine whether you win or lose in the markets. While, it is vital that you have the discipline to stick to your plan, it is equally vital that you have one to stick to in the first place.
Sadly, I cannot develop your methodology for you. I can make suggestions and put forth examples, but you ultimately must devise a system that is your own. This is because you must be able to follow it. In order to follow it, your system has to reflect who you are.
Every successful trader has a winning system and there are as many successful systems as there are traders.
Some systems get you to buy on strength and sell on weakness; others do the opposite. Some investors succeed as value investors, suck as Warren Buffet; others make their millions in momentum trading. I have even heard of an astrologist who is said to trade profitably using the stars. Although there are a variety of methods, the point I am trying to illustrate here is this: there are many ways to profit from the markets.
Despite their differences, there is one common element amongst all successful traders: they have a systematic way they approach the market. This approach is unique. In reality, no two people have exactly the same amount of money, tolerance for risk, personality, time or experience. Therefore, the key to success is to design a system that is suited for you.
Many traders fail because they do not assess how well a trading system matches their personality. Instead, they chase fads, searching for the "Holy Grail" of trading success; worse yet, they waste their money on the latest investing software or buying up the tapes of the latest self-proclaimed stock market guru.
The fact is there is no perfect system. Successful investors succeed because they choose a system that they feel comfortable with, not one that claims to be the cutting edge. A cool, disciplined trader will make money with an “average” system, while a nervous, arbitrary trader will wreck a “brilliant” system.
The key is to develop a methodology that maximizes your strengths and minimizes your weaknesses. But how do you do that? Firstly, you must define your objectives.
Ask yourself these questions:
- Am I designing a trading system for cash flow or capital growth?
- Do I want to trade part time or full time?
- How
- What annual rate of return do I want? (Note: the higher the return, the higher the risk, in most cases).
Take a minute to think about and answer these questions:
Decisions such as these will have the largest impact on the style of your trading system.
For example, if your goal is cash flow and low risk, buying or selling at extreme levels (overbought/oversold) isn’t suited to you. If your goals center on quick capital growth, high returns and high risk, then bottom picking strategies and gap trading may be your style.
Styles range from aggressive day traders looking to scalp a few point gains to investors who are looking to capitalize on long-term macro economic trends. In between, there are a whole host of possible combinations, including swing traders, position traders, aggressive growth investors, value investors and contrarians.
Moreover, your style will depend on your level of commitment. Day traders are likely to pursue an aggressive style with high activity levels. The goals would be focused on quick trades, small profits and very tight stop-loss levels. Intraday charts would be used to provide timely entry and exit points. A high level of commitment, as well as focus and energy would be required.
Unlike day traders, position traders are likely to use daily end-of-day charts and pursue 1-8 week price movements. The goal in this case is to be focused on short to intermediate price movements and the level of commitment, while still substantial, would be less than a day trader.
With this in mind, be sure to define your trading objectives as best as you can since your system must match your own criteria or you will never make big profits. You need to complete this simple sentence: "I am trading in the market because I want to......" complete this and you are well on your way to setting your portfolio objectives (see lesson 1).
What Should You Trade?
With a few portfolio objectives defined, your next step is to decide what market you are going to trade in order to reach your portfolio objectives.
To select the most appropriate market, I suggest you pick a market you are familiar with or one in which you would ultimately like to trade. There is no right or wrong answer. Unfortunately, there is no “best” performing market…
The important decision is to select one market. Avoid the tendency to want to trade everything and realize that there are enough potential profits by trading just one market. Many traders fall into the trap of thinking the more they trade, the more money they will make. Unfortunately, this could not be further from the truth.
Real money is made by mastering your chosen market and understanding it is not the selection of the market that makes the money. I personally am less concerned about the markets I trade, and the securities I choose within those markets, than I am with the plan I am entering those specific markets with (but more on this later).
You can successfully trade any of the markets I have outlined below… just be sure to choose only one:
1. STOCKS
Plain and simple, stocks are a share in the ownership of a company. Stocks trade on a stock exchange, which is basically a venue to buy or sell a stock. In this arena, big players such as Warren Buffet and Merrill Lynch dominate the market. That said, don’t be scared off because, if you’re new to trading, this is probably the best place to start.
2. OPTIONS
Options are a leveraged instrument that derives its price from an underlying security (stocks for example). They give the buyer of the options contract the right, but not the obligation, to buy or sell an underlying asset at a specific price on or before a certain date.
So, unlike a stock, which represents equity in a company and can be held for a long time, if not indefinitely, options contracts have finite lives.
Basically options are the next step up from stocks in their complexity. They introduce the opportunity to leverage your money and increase profits.
3. COMMODITIES
Without going into too
Commodities trading can be a great stepping stone for trading more advanced markets.
4. FUTURES
In a similar vein to options, futures contracts also have finite lives. They are primarily used for hedging commodity price fluctuation risks; or for taking advantage of price movements, rather than for buying or selling the actual cash commodity.
The buyer of the futures contract agrees on a fixed purchase price to buy the underlying commodity (wheat, gold or T-bills, etc.) from the seller at the expiration of the contract. This differs from options, where the buyer has the right to purchase the underlying commodity, but is not obligated to do so.
As time passes, the contract's price changes relative to the fixed price at which the trade was initiated. This creates profits or losses for the trader.
Futures trading is one of the more complex forms of trading, but along with the increase in the skill level required, there are greater rewards (in terms of return on investment (ROI).
5. FOREX
Forex - short for foreign exchange - is trading where the commodity is currency. What makes the Forex market unique is that, unlike other financial markets, the forex market has no physical location or central exchange. Additionally, this market trades 24 hours and its daily volume exceeds $1.4 trillion, making it the largest and most liquid market in the world.
While this sounds exciting, it’s not for the faint hearted. Forex trading can be fast and furious. If you’re just starting out, unless you have your heart set on trading the Forex, I recommend that you prove that your trading plan can trade profitability in other non leveraged markets (e.g. stocks) before entering into this market.
Side Note: Remember, with trading any leveraged product, you are faced with a double edged sword. On one hand, the leverage will increase your winning trades, however on the other hand, it will increase your losing trades too. The secret to successful trading is to first learn to trade unleveraged markets profitably and then take this system and increase the leverage gradually. In this way you will clearly understand the risks involved and also position yourself for the best possible chance at success.
After reviewing the markets outlined above, write down - in the space below - which market you would like to trade in:
Alternately, if at this point you are new to the trading game and have absolutely no idea what you would like to trade, I recommend you purchase Bill Polous’ course “Instant Profits”. What makes this course so invaluable to the beginner, and even the advanced trader, is that you will learn the key principles to trade multiple markets. With this knowledge you can then choose the market that makes most sense to you.
Let’s get your psychology right.
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1 comment:
Good tips for the newbie stock trader.
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