- Juan De Graaff Jacobs
20 Trading Wisdoms: The 'long' and 'short' of it.
Over the course of the last couple of years I have learned many sometimes very expensive lessons while trading. Fortunately, I have always kept a comprehensive journal of where I have gone wrong along with lessons I have learned along the way. Laid out in this blog post i will attempt to provide a non-exhaustive list of 20 trading wisdom's I have managed to pick up from both my own trading as well as from many well known and respected traders in the greater financial world.
If you have read my previous blog post on the importance of trading psychology you will understand that the most important piece of wisdom is learning how to plan and manage your trades, and then sticking to this plan come hell or high water. Once you understand this concept you will be well prepared for whichever event the market might throw at you.
Wisdom #1 - Define Your Strategy
Before you start trading make sure you have a back tested and well defined rule based system for planning, entering, managing and exiting your trades. This should include a clear entry level, stop loss level as well as a target level. Also ensure you have a Risk:Reward ratio of at least 1:1
Wisdom #2 - Define Your Risk
Learn how to lose before you learn how to win. If you cannot stick to your pre-defined stop loss level you will sooner rather than later take the mother of all losses. It only gets more and more difficult to exit once you have disobeyed your initial stop loss level (trust me on this). This is in my opinion the Achilles heel of most traders out there.
Wisdom #3 - Don't Force a Trade
Be disciplined in your trading approach by religiously sticking to your strategy and trading plan. Don’t ever enter trades casually by looking for a trade out of boredom. In a time of utter chaos and uncertainty where the market has no clear direction it is better to sit on the side-lines and protect your capital. As they say, it is better to stay out of the market wishing you were in than in wishing you were out.
Wisdom #4 - Define Your Edge
Ensure that your trading strategy has a high probability advantage or as traders like to call it an 'edge'. To ensure your strategy have an edge back test your strategy by following your trading rules on historical data and then by trying it out in a demo account or through paper trading. Alternatively you can use the automation and back testing services provided by www.FXautomate.com where I will analyse and test your strategy through comprehensive computer simulation.
Wisdom #5 - Trade With The Trend
Only take trades in the direction of the primary trend! One of the simplest ways to identify the primary trend is by using the 200 SMA (Simple Moving Average). If the 200SMA is pointing upwards and the price is trading above it, you are most likely in a Bullish Trend. Likewise, if the 200SMA is pointing downward and the price is trading below it, you are most likely in a Bear Trend. If the trend direction is unclear stay out of the market.
Wisdom #6 - Keep a Trading Journal
As part of your trading plan you should also keep a journal of every trade that you took. For instance before you take a trade, clearly define your entry, stop loss and take profit level along with the R:R ratio. Along with this you should also make sure you have a set of rules that you can tick off before your trade is taken. For instance, am I trading in the direction of the 200SMA? Is my R:R greater or equal to one? Am I okay to take the loss should the trade not work out? Then as part of the journal you can also rate the execution of each trade along with any comments you might want to add.
Wisdom #7 - Consider The Bigger Picture
Before you take a trade make sure there are no imminent fundamental or news events that may have a adverse negative impact on your trade. Always keep an eye out for SENS announcements. Also take into account things like dividends when taking a short CFD position as you will be responsible to pay the dividend if you hold the position over the ex-div date.
Wisdom #8 - Protect Your Capital
To protect your capital, limit your position size and exposure. Never risk more than 2% on a single trade. In other words your stop loss should be set to a maximum of 2% of your available trading capital while still enabling enough wiggle room in your trade to not immediately get stopped out on a price spike. You can also vary your position sizes in accordance with market volatility, i.e. trade smaller positions when the market is very volatile. You should also consider implementing a maximum loss per day of say 5% of available capital.
Wisdom #9 - Never Add To a Losing Trade
Often times when you are very optimistic about a trade and the trade turns against you, you might be tempted to average down by adding onto your position in the hope of getting a better average entry price. This almost never works and is one of the fastest ways to destroy your trading capital. The reason that this doesn't work is because you are recklessly increasing your risk exposure beyond what what your balance can sustain were you to be wrong (which is a very real probability).
Wisdom #10 - Wait For Confirmation
Having planned your trade be careful not to pre-empt the move. Always wait for confirmation that the market is indeed doing what you anticipated it to do. This is especially true when trading breakouts as often times the market will appear to be breaking out only to pull back hard and reverse direction. This is called a Bull Trap (for longs) and Bear Trap (for shorts). Bear traps are often times followed by a short squeeze as traders are forced to cover their shorts. Only trade breakouts after a successful retest of the breakout level and place your stop order at the high of the first breakout attempt. There are rarely more than one false move out of a pattern. As the saying goes rather be late and right than early and wrong.
Wisdom #11 - Trade Price Action
The market can and will seem illogical at times. It has often been said the best reason for the market to turn is, well, none. So just as you wouldn't swim against a current you similarly wouldn't want to trade against where the price action is. Best is not to fight it and to simply go along with the price, again this is why it is important not to predict but react. A trader should be completely unbiased. Rather lose your opinion than your money.
Wisdom #12 - Don't Trade With Your Emotions
When trading it is important to understand you are participating in a numbers game. You have to accept the fact that you do not have control over the outcome of a trade and that losses are normal and to be expected. Manage your emotions and stress levels by taking a break from trading if necessary. And most importantly never ever beat yourself up because of the market not going your way. Don’t look back to a lost trade except to learn from it. Remember that profitable trading is a long term game dependent on small but consistent returns. Not if but when you are experiencing a long streak of losing trades, reduce your exposure and/or trade less until you regain your confidence. And remember to never revenge trade to make up for losses. Always think longer term.
Wisdom #13 - Stay Humble or be Humbled
There are two types of traders, those who are humble and those who will be humbled. Statistically at some point every trader will face both significant winning streaks as well as losing streaks. It is during winning streaks that traders may become over confident starting to think they deserve to win. It is usually at this point that they become sloppy in their trading. And as quickly as the market gives, the market can and will take away. The market has a whole variety of ways to serve a decent slice of humble pie.
Wisdom #14 - Never Chase
Markets are in a constant state of uncertainty and flux. It tends to overreact and then mean revert. This is evident in the way price moves in what seems like waves. Once a trade opportunity has been identified wait for the price to come back to you instead of chasing after it. Try not to enter trades too far away from the 20SMA. There is no place for FOMO in trading.
Wisdom #15 - Trade Like a Poker Player
Trading is like poker; you play the strong hands and fold the weak hands. But remember the market will always call your bluff!
Wisdom #16 - Always Remain Patient
Never settle for lesser quality trading signals. Sometimes the most profitable thing you can do is doing nothing. Remember that to be a successful trader it is all about identifying high probability setups.
Wisdom #17 - Cut Out The Noise
As part of your trading strategy you should identify the time frame best suited to your style of trading. If for example you are trading on the 1 hour time frame, then don't look at smaller time frames as this will only serve to confuse you. Stick to closing prices on your time frame and avoid analysis paralysis by looking at the 1min chart.
Wisdom #18 - The Market Doesn't Listen To Experts
It would seem that these days everyone is an expert in trading. But be careful listening to experts as the market does't care about their opinion. Nobody can 'predict' what the market is going to do, stick with the trend and allow the market to inform your opinion.
Wisdom #19 - Expensive Things For Traders
Ego (No Stop Loss), Fear (Exit too soon), Greed (Trade to big), Hope (hold losers too long), Stubbornness (Refuse to admit you are wrong), Revenge, Prediction
Wisdom #20 - Valuable Things For Traders
Patience, Risk Management, Discipline, Perseverance, Passion