What To Do And Not To Do When Trading

Source: Read And Grow (YouTube)

The book How to Trade In Stocks is a timeless compilation of:

-         Practical trading advice 

-         Market analysis 

-         Money management systems, and 

-         Emotional control guidance

We have gathered the most important takeaways from the book, presented in the author's own words.

This transcript's illustration was done by Vu Nguyen: minhvu94@gmail.com.

1) Successful traders always follow the line of least resistance. Follow the trend. The trend is your friend

• Always track two stocks in the same group. They always move together and confirm the movement of each other

• That way, you have absolute confirmation about the trend

Figure 1. Example of a line of least resistance

2) Never long a stock under decline - Never short a stock on a rally

Figure 2. The unpredictable, yet not randomised, limits of a financial instrument

3) Just because a stock has fallen in price does not mean it will not go lower

• Do not anticipate market moves with your hard-earned cash 

• Wait for the market to confirm your judgement 

• Do not look for the top and bottom 

4) The understanding industry group is essential to successful trading:

• Examine the market, the industry group, the sister stocks, and the actual stock in one glance 

• Go with the market leader, the most powerful stock in the group 

• Do not look for the bargain - instead, the weaker sister 

• Do not have an interest in too many stocks at once. It is much easier to watch a few than many. Follow the leaders on the market

Figure 3. SPY ETF - It is designed to track the S&P 500 stock market index.

This fund is the largest ETF in the world

5) Establish a profit target risk-reward ratio before you enter a trade       

• Decide on the potential of the trade versus the size of the investment

• If it is a significant investment with a small potential return, then pass 

6) If you want to buy 500 shares of stock, start by buying 100 shares

• Then if the market advances, buy another 100 shares as a probe to see if your judgment is correct, and so on

• But each succeeding purchase must be made a higher price than the previous one

• Avoid averaging down

Figure 4. Performance-based investing strategy

It is a simple yet effective investing strategy

7) Set a firm stop before making a trade, and never sustain a loss of more than 10% of invested capital

• Take your loss quickly and get out if you lose more than 10% on the trade.

• Have two stops in mind when you enter a trade:

  • A price stop, and

  • A time stop

• If the stock does not perform as expected, don't stay with any trade more than a few points against you or more than a few days

8) A change in volume is an alert signal

It almost always means there is something afoot, a change, a difference.

Figure 5. Example of using the Change of Volume to make an informed investment decision

Figure 6. Example of using the Change of Volume to make an informed trading decision

9) Don't chase a stock. If it gets away from you, let it go

• I would rather wait and pay more after the stock has regrouped, and I receive confirmation that it will most likely continue its move. 

• There is a never-ending stream of opportunity in the stock market

  • If you miss a good opportunity, wait a little while

  • Be patient, and another one will come along

Figure 7. Jessie Livermore quote visualised. He was basically a breakout trader

10) Do not reach for a trade. All conditions for a good trade must be on your side:

• Market direction 

• Group direction

• Sister stock direction, and

• The timing must be in place 

11) Remember you do not have to be in the market all the time.

• It's not the thinking that makes money. It's the sitting and waiting that makes money

• Patience. Patience. Patience.

• Wait for the right moment and have the cash ready

Figure 8. Mixed market condition vs. trend-regulated market condition.

12) Don't try to figure out why something is happening

• Let the market give you the clues 

• The movement of the stock is the Empirical Evidence

• The reasons will be revealed later when the chance to make money is gone

13) The market always precedes economic news. It does not react to economic news

• The market lives and operates in the future time

• It is, therefore, foolish to try to anticipate the movement of the market based on current economic news and current events 

• The market has already factored in those events

Figure 9. Good job Paulson, you gave the right call at the bottom

14) Acquire fundamental knowledge of economics and thoroughly familiarise yourself with conditions of each sort:

• The financial position of a company 

• Its past history 

• Production capabilities

• The state of the industry in which the company is engaged 

• The overall economic situation 

15) All tips are dangerous - take no tips 

16) When the margin call reaches you, close your account

• Never meet a margin call 

• You are on the wrong side of the market

• Why send good money after bad?

17) Do not lose money, do not lose your stake, do not you lose your line

• A speculator without cash is like a store owner without inventory.

• Cash is your inventory - your lifeline - your best friend.

• Without it, you are out of business 

18) Cut your losses - let your profits run

• As long as the stock market is acting right, do not be in a hurry to take profit 

• If there is nothing negative, let it ride

19) Have the courage of your convictions. Stay with it

• It's the market's money

• If you lose all this profit, well, then you have lost money you never had in the first place!

Figure 10. As long as the market displays the signs of a bull trend, I will not change my view

20) Always have a method of speculating, a plan of attack

• And always stick to your plan. Do not constantly change it

• Find a method that works emotionally and intellectually for you, and

• Stick with it

Figure 11. Example of a plan of attack

21) Have your own customised rules

• Once a trade has been entered, the trader must assume the status of autonomous, a robot, and he must follow his rules.

• Always be aware of your emotions:

  • Do not get too confident over your wins, or

  • Too despondent over your losses 

22) You must achieve Poise - a balance in your actions: 

• Cultivate Poise, Patience, and Silence.

  • Poise: handle hopes and fears in a calmer manner

  • Silence: keep your victories and failures to yourself

23) Greed, Fear, and Hope distort Reason and cloud Facts. The stock market only deals in FACTS

See you again for the next update. 

- v

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