Survival Rules for Trading
David Bickings, Optionetics.com
April 30, 2002
April 30, 2002
This week I’d like to walk you through the rules I follow when looking at investment opportunities and hopefully, you’ll learn a few that will help you with your results. They are by no means the Bible of trading, just 14 basic rules I follow and have had success with.
1) Don’t trade and then go to sleep.
Unless you’re trading LEAPS, you always need to be aware of the market’s movement. This is not to say you must be in front of a monitor all day, just keep abreast of the daily activity. You must learn to adapt quickly to changes. I check on the broad indexes every day, and on my individual trades two to three times per week. I almost never trade options with less than three months to expiration, so I don’t need to make urgent changes intra-day. Be able to admit when you made a bad trade, learn from it and move on. Opportunities happen every single day that the markets are open!
2) Be disciplined.
I can’t stress this enough. The best traders always follow a game plan that they follow regardless of whether they are hung over, fighting with their spouse, or otherwise don’t feel well. A trade does not simply consist of a position. It consists of a position plus reasons for having the position and an exit plan. Over time, strong discipline will save you when markets become turbulent and everyone’s running for cover.
3) Either buy high and sell higher, or sell low and buy lower
Whether you are a value, growth, or trend investor, the object is the same. What are your reasons for favoring one type of strategy over another? If they make sense to you, ignore what others tell you. It is difficult to time the market and bottom fish or pick tops. Would you rather buy into a trend and make 25% on a trade or buy a losing stock and watch it languish for months? When you think you know the trend, try to follow it. Look at what large institutions are doing—they usually ARE the trend
4) Learn the fundamentals as well as the technicals.
It is imperative that you understand the fundamentals behind your investment ideas but you need to understand technical analysis too. This doesn’t mean becoming an expert at both evaluating a balance sheet and reading Japanese candlestick charts. It simply means familiarizing yourself with as many factors as possible that’ll lead you to the most profitable trades. I’m not much of a chart reader, but I do follow relative strength, a technical indicator. When your fundamental and technical signals both point in the same direction, you have a very good chance of success
5) Do not use excessively tight stop losses.
It is hard to determine what your stop losses should be, but often you’ll trigger a stop loss only to have the stock rise again after a brief consolidation period. You must be patient with some trades, especially in volatile markets. I use a 10% stop loss on equities and never gamble more than 8% of my capital on any one trade.
6) When your stop comes up, get off the train!
The first stop is the cheapest stop on a losing position. Do not give in to the demons of temptation and continue to hold a losing position. Accept your error and minimize your loss. If you don’t you’ll do well on some trades, but eventually your Enron will arrive and you’ll be kicking yourself. Don’t trade without discipline
7) Accept losses—they are inevitable!
Prepare yourself mentally and emotionally for this eventuality. Take some time off and come back fresh if you have been hit hard. Do not fight with the trade, curse the market or make bargains with yourself such as: “if the market goes to my initial level I will get out!” A close friend of mine did this and lost tens of thousands of dollars on Red Hat, waiting for it to “just get back to where I bought it!”
8) Never add to a losing position.
With the exception of dollar-cost averaging into a diversified mutual fund or several high-quality blue chips over many years, this is a recipe for disaster. Add to winning positions especially during periods of consolidation when the fundamental outlook is still bullish.
9) Do not turn a winning position into a loser.
Learn to take profits and don’t be too greedy.
11) Keep technical analysis simple, unless you are willing to learn it thoroughly.
Use easy-to-understand tools like support and resistance, relative strength, and moving averages
12) Understand how the “magazine cover” theory works, and use it to your advantage.
Be aware that the most likely time for a bull market to end is when everyone is bullish and the bottom of a bear market occurs when everybody is bearish. When the CEO of the company you’re making a killing on is gracing the covers of Time, U.S. News & World Report, Money, and Fortune, forget about the last couple of points and get out! Academic studies have proven this to be a reliable contrarian indicator time and time again.
13) Be patient.
Give yourself and your trades time. In options, look for reasonable time frames to ensure yourself adequate time to be right. Daytrading stocks (and options) is a dangerous game that most often leads to losses, despair, and wasted lives! Some traders are successful, but the majority are not
14) Have fun!
If trading or investing stresses you out and dominates your mind, convert to cash and take a break. It’s not worth your relationships, your job, or your health!
Good luck and enjoy your trading
David Bickings
Staff Writer and Trading Strategist
Optionetics.com ~ Your Options Education Site
dbickings@optionetics.com
Email This Article
View Full HTML
Digg This
Delicious
Subscribe© Copyright 1995-2009 Optionetics. All rights reserved. This material is for personal use only. Republication and re-dissemination, including posting to newsgroups, is expressly prohibited without the prior written consent of Optionetics. Optionetics is a registered trademark of Optionetics, Inc.