Sunday, August 21, 2011

Trading 101-2

I have found it the most profitable to be a "trend trader". This means I make the surest profits when I trade with the trend. That being said, it is necessary to point out that everyone will find their own timeframe to trade in. My best trades seem to last about 3 weeks. So I have to call myself a "swing trader", because I seem to do well trading the swings in the market. However it is important to say that the highest probability trades will be in harmony with the longer term trend. That is another way of saying that it is not a good bet to pick tops or bottoms in any market. (Although I will do that occaisionally) Or to try to trade "countertrend". Catching the dips is a low probability trade.

I also find it best to trade "breakouts". This is when the price has been in some sort of range and then breaks out. The most profitable trades are with the longer term prevailing trends. And, the probability of a major move depends on the time that the stock or commodity has spent making the price pattern or range. If something makes a very short term pattern, say a couple weeks long, it will be more prone to false breakouts, ie, a breakout in price that quickly returns to the previous range. Time is a very important element!  When a market spends time in a range it gives market participants more opportunity to make their "bets" on the future price direction. Some will be buying at the bottom of the range, and selling at the top of the range. Some will be short sellers building up a position by trying to sell at the top of the range. Some will be those that are selling out long positions and "taking profits". (The strong move at the breakout is due to those that were wrong fixing their problem.)

The quality of the selling is very important in a price pattern that occurs in a larger uptrend. All I look at when looking at charts is the patterns that the price makes and the volume that occurs at the various periods in the pattern.  If a stock has risen, and then goes into a range, and the down days or down weeks are on higher volume I will conclude that some large holders of the stock are liquidating their positions. If the volume in the range quickly declines as the range plays out, I can conclude that the liquidators have either sold all they want, OR, there is not enough volume for them to sell what they want to sell without driving the price too far down. Some times this is the cause of failed breakouts as they sell into the increased volume on the breakout.

If a range goes on for too long however, and becomes too tight of a range, ie, in too small of a price band, then the quality of the breakout suffers.
In practice I like to see a range that is fairly wide, and that gets narrower with time, but the price holds near the top of the range. This means that all who want to sell get every opportunity to sell at top prices, but the price still holds up.
The most recent major breakout that comes to mind was in the silver market.

Silver had been in a long uptrend until late in 2008, then it went sideways until September of 2010. Notice that it hit $18 dollars an ounce about three times before finally breaking out to the upside late last year. The first flirt with $18 was in '07.
In practice when trying to catch these breakouts you may find that they break into new high ground by just a few cents, and then pull back. To limit risk, I always buy 1/3 of a position on the initial breakout. If it pulls back and is costing me about 5 to 8 percent, (depending on the width of the previous range, and the volatility in the stock) I will get out of that trade. I am looking for those trades that breakout and keep going. I do not want to risk much on any trade. If the trade keeps working, meaning the stock continues higher without reaching my stoploss, I will add another 1/3 to the position.  If it keeps going higher add the final 1/3. Often the last two buys are not far apart.
The important point to take from all of this is that you may get stopped out 2 or 3 times before the move starts for good. That is why it is important to not take any one trade to heart. You NEVER KNOW WHICH TRADE WILL BE THE BIG ONE. So, as long as you get prices breaking out of a range, get on board.
Think about it this way. If a stock is trading at $10, and eventually goes to $20. It has to go to $11, then $12, then $13.....etc. The price is never too high to buy! And the best trades are when you pay the highest price because the price is going up so fast and there are no pullbacks.
Study charts and look for the volume clues and pick out those spots to buy that would have shown an immediate and sustained profit.

No comments:

Post a Comment

All comments are appreciated as it will give me a chance to adjust my content to any real people who may be out there. Thank you. gh