 |
| |
| About Me |
Name: jaimatadi
Home:
About Me:
See my complete profile
|
| Previous Post |
|
| Archives |
|
| Shoutbox |
Lorem ipsum dolor sit amet, consectetuer adipiscing elit. Duis ligula lorem, consequat eget, tristique nec, auctor quis, purus. Vivamus ut sem. Fusce aliquam nunc vitae purus. |
| Links |
|
|
|
|
|
 |
|
 |
| |
| |
Friday, October 12, 2007 |
|
 |
|
 |
| |
| Trading Basics: Concepts and Psychology |
1. Commissions
How much commission do you pay per trade? You should know this answer without hesitation. Is your commission competitive and reasonable? That might have a number of different answers.
How much you pay for commissions is critical. Before we start it's important to acknowledge that reliable and quality fills are equally as important, that customer service when needed and a well-designed trading interface are also critical to an active trader. So don't let what follows mean we think you should just pursue the very lowest commission charge. That's not the case, but you should be sure you are trading with a firm that is very competitive in all areas - commissions, service, fills and trading platform.
Let's take an example. What if you had a trading system that in 100 trades would "win" 80 times. That's a fairly spectacular 80% win ratio. If you were told you had a guarantee to win 80% of the time, chances are you wouldn't hesitate much more than the time it takes to hit "Submit" to place your first order. But do you realize that it can be fairly easy to actually lose money, even with a system that wins 80% of the time?
Assume that you decided to trade 50 shares per trade and each stock averaged about $20. Your target is 5%. And sure enough, your first trade "wins." So your $1,000 investment makes an easy 5% and you made $50. That was fast. Unfortunately you trade with a broker who charges $24.95 per trade - suddenly your winning trade actually barely squeaks out $0.10 in profit. You can imagine what happens with a losing trade.
Now let's say you traded that same set-up but only paid $5 per trade (very doable) or $10 per trade. Granted you still would take a bit out of your profits but at least in this situation your big $0.10 winner turns into a $40 or $30 winner.
You're saying, "Well, I trade a lot more than 50 shares" and if that is the case, you are definitely helping yourself because the commission is a "fixed" amount in most cases. And therefore the more shares you trade as capital into the market, the more your "fixed costs" will actually go down. The trader who trades 200 shares instead could make over $150, even with that high commission. But the trader paying $10 a round turn adds another $40 - a big increase on any one trade.
Start adding it up over the number of trades you might make with an active strategy. If you traded five times per day - both in and out - and instead of paying $25 for a trade you paid $10, you could actually save or add to your wallet $39,000 in one year. Let's not even start to mention how much that savings can turn into in compounded gains. Even if you traded far less frequently, or didn't save quite as much, it makes a major difference.
The key here is to be very sure you are paying a competitive commission. Be very sure you are trading enough shares per trade. Don't try to trade every set-up and have to spread out your equity so far that your commissions keep eating away huge chunks of your gains. You have to be able to accommodate for the losing trades, slippage and even errors you might make. This is why keeping your costs low when actively trading is important. And remember, these costs are fixed - if you trade more shares, it won't cost you any more and your cost of doing business only goes down for each share added.
2. The Power of Compounding
Not everyone can start with a sizeable account and not everyone is comfortable (even those with large accounts) to have substantial capital at risk. The power of compounding is very important for an active investor to understand. An active investor has the advantage of each day being able to compound their overall profits into the next series of trades and grow their overall capital base quickly if the trading is successful. It is much like a manufacturer who measures "turns" in inventory. The more turns the better. They are using their capital more favorably than slowly turning inventory.
The active trader can do some great things using compounding and even start the cycle at a level they are most comfortable with and in the future use profits to continue to increase position sizing.
Let's take a look at an example. Let's say that you traded $10,000 per trade, made 5% on every trade, and did this ten times in a row without a loss. Sounds pretty great (ok, not that achievable but come with us on this journey!) -- but this time you always take your profits out and keep trading $10,000 each time. Well, we know you'll make $500 per trade and ten winners = $5,000 in profits. Very nice.
Now, let's say you decide to compound these gains and each time you trade you trade all the capital you have - you reinvest your gains. So ten trades that win 5% and you do not take your profits out. This time you actually profited by $6,288 - an improvement of 25%. You didn't risk any more - you started with $10,000 in risk capital in both cases but instead you decided to continue to reinvest your gains to build up your account - and without any more initial risk you added 25% to the bottom line.
This is a convenient example - there will be losing trades, there will be trades that don't make full targets and so on. But you can use compounding to start with a comfortable level of risk and let market profits guide you to a larger account base and faster growth in equity. Not to mention that when you have a loss you actually scale back your risk since you only trade the equity available, making it a great way to ride out more difficult markets as well.
3. "I Always Miss the Winners"
That is the fear of the trader who looks at a list of potential trades and feels that they need to trade every single set-up for fear of missing the "big" one. First, in our type of active trading we're not looking for home run shots. We're looking for steady gains - we know some market months will be easier than others but we're not looking to make or break it off any individual trade.
Next, we learned above how important it is to trade enough equity per trade. Otherwise you'll let commissions eat away at your profit potential.
We also know that it is very difficult, no matter how good your trading platform, to track and trade a long list of stocks. You are more likely to make costly errors on the entries and exits.
And it simply is not necessary. Many of our subscribers only focus on a smaller subset of stocks. The magic number is up to your comfort level but literally any mix will work fine. 3, 5, 6, 8, etc... Do not feel you will miss something by not trading all the set-ups. You are much better off trading fewer set-ups each day and doing them correctly, and doing them with enough equity to make the potential profits worthwhile, and it will make your life in managing much easier.
You might want to take into consideration which sector/industry a stock trades in. If you trade a smaller subset of stocks from the list, you might want to avoid trading stocks that all trade in the same sector. We know on certain days all storage stocks or all chip stocks will move together as a sector. By mixing your sectors you have less chance of getting caught on those days when one whole sector moves against our trades.
4. A Trader's Fantasy - and Nightmare
We consider nice, smooth trending (up or down) markets a trader's fantasy. They are simply the most cooperative markets to trade and thankfully several times a year or more the markets simply trend for many days in a row and sometimes for weeks at a time. These are the moments we "live" for.
Now choppy markets on the other hand can be a trader's nightmare. Not always, but there is no denying that a choppy market is more difficult to trade. Actually, a choppy market that is narrow in range when compared to the prior history is the most difficult. A choppy market with sizeable trading range can work out quite nicely.
What we do know is that the fantasy always comes after the nightmare. The longer the nightmare, the better the fantasy. You can look at any daily chart of the markets - take a QQQ or SPY, for example, to see a big picture view, or any of our individual stocks - and see that there are periods where they are on a run - up or down. That's where your profits typically add up fast. The other times you'll see that the markets have no pattern. No trend, little range and they seem to fluctuate direction nearly by the day. Those markets have pockets of opportunity, but if you can make it through there without a scratch you are doing extremely well. Because move forward on any chart and see the run begin thereafter. |
posted by jaimatadi @ 3:01 AM  |
|
|
|
|
 |
|
 |
|
|
|
 |
|