Over a span of 10,000 hours of active trading, equivalent to nearly five full years of working forty hours a week, I've managed to cross a significant threshold in my trading journey. The lessons I gleaned during this formative period have since become cornerstones of my trading philosophy.
There's a prevalent myth that successful traders are merely born with an exceptional talent. The reality, however, is quite the contrary. Achieving consistent success in trading is not the product of innate skill but rather, it results from years of hands-on experience. While good advice might pave the way for beginner's luck, one's individuality and emotional tendencies can often become a stumbling block, leading to costly mistakes – a scenario all too familiar to every trader.
In this discourse, I aim to shed light on the five most critical lessons I've acquired during my 10,000 hours at the trading desk. Even though some of these insights were hinted at during the outset of my trading journey, their true importance only surfaced through first-hand experience. If you're new to trading, pay close attention to these lessons.
Lesson #1: The Multi-Dimensional Nature of Risk Management
In the early stages of my trading career, my perception of risk was quite linear and straightforward. I decided the amount I was comfortable investing and remained firmly committed to that budget. Trading decisions were based on this predetermined budget, while the decision to sell largely depended on instinct.
I overlooked an essential element - defining the magnitude of loss I could tolerate before opting to sell. During a market slump, I held on to my investments, convinced that the market would rebound, thereby recuperating my initial investment. In retrospect, this wasn't a robust risk management strategy. Instead, it was a dangerous blend of instinct-driven decision making and gambling, which has led many traders to their downfall.
Risk management in trading is a complex, multi-dimensional concept. Having a set trading budget is a solid first step, yet it is equally important to have a disciplined approach towards setting stop losses. Early successes with a few options led me to allow my ego to interfere with this discipline.
For effective risk management, employing automated tools such as Tickeron is advisable. With Tickeron, I've been able to predict suitable exit points, in both profit and loss scenarios, with greater precision. It's critical to bear in mind that risk can go both ways; excessive greed may result in holding a position for longer than is prudent.
Stock promoters, like Jim Cramer, often employ flashy antics to excite their audience, inducing a buying frenzy. However, basing trading decisions on their views is a sure path to disaster. In reality, it's more about sensationalism than it is about methodical analysis.
Over time, I've learned to ignore the cacophony created by stock promoters. I've stopped tuning in to CNBC, and instead, rely on technical analysis to gauge whether a position is likely to be profitable or not. Any viewpoint expressed on television is merely an opinion.
While Cramer and other stock promoters may boast a decent success rate, it's not prudent to rely on them as a reliable source of informed trading strategies. Promoters are better suited to serving long-term investors rather than active traders.
Based on my experience, the commentators on financial news networks don't significantly influence trading decisions. While a press release about a corporate merger or acquisition might offer valuable insights, spending hours dissecting the motives behind the deal is hardly productive.
My personal preference is to rely on chart patterns for trading decisions. I maintain a list of preferred stocks, providing the volatility I seek, diversified across multiple sectors. When it comes to trading these stocks, I rely solely on my own judgment and not on external opinions.
Visualize a scenario where every stock is anonymous and the only guiding force is a performance chart. Seasoned traders exploit these chart patterns to make informed trade decisions. In my formative years, I leaned excessively on supporting documentation, which hampered my trading pace. That's no longer the case.
For those who opt for long-term investments, financial reports and news articles can be handy. Yet, for traders, chart patterns are the primary indicators. Proficiency in interpreting patterns and understanding their implications has honed my trading skills.
Learning to ignore irrelevant chatter and avoid distractions turned out to be the most crucial lesson. While media is instrumental in spotting sector trends, it falls short in identifying individual stocks. Chart patterns, conversely, provide insights into a stock's likely behavior.
However, discerning the correct pattern is often challenging. What initially seems like a 'cup and handle' pattern may transform into a bearish 'head and shoulders' or the second phase of a 'triple bottom'. I made numerous errors initially, but time has made me adept at identifying patterns.
A significant perk of relying on chart patterns is the capacity to execute more trades throughout the day. By viewing stocks as anonymous entities, I am able to buy and sell devoid of any emotional bond or attachment.
The stock market's unpredictability was underscored by the unanticipated global pandemic of 2020, which sent shockwaves through the market. The pandemic had a significant impact on stock values, and it's unclear if technology stocks would have appreciated in its absence. Additionally, the pandemic either expedited or delayed existing trends.
In such uncertain times as we are currently in, I tend to employ more of a scalping trading strategy. Quick trades and swift exits are effective tactics to navigate an unpredictable market, enabling me to observe emerging chart patterns.
What I've learned is that trading strategies must be adaptable. Even when the market isn't undergoing dramatic shifts, changes are inevitable. Markets fluctuate, and innovative technologies surface. It's an integral part of the business.
An insight gleaned from my initial five years is that adjusting strategies doesn't entail going "all in" on certain stocks simply due to a perceived new pattern. My risk tolerance is predetermined, and I maintain it regardless of whether I perceive a potentially beneficial situation.
Take the pharmaceutical sector as an example. Although I'm generally not keen on pharmaceutical stocks, the race for a Covid-19 vaccine has yielded some opportunities this year. Moderna and Pfizer have proven profitable for me in the short-term.
These companies were incorporated into my trading portfolio by reallocating resources from other sectors. No additional funds were added, nor were the dollar amounts on individual trades altered. Just like the other positions in my portfolio, these companies are simply anonymous entities represented by chart patterns.
In the preceding scenario, diversification was accomplished by reallocating resources towards sectors that were previously bypassed. Prior to this year, I generally steered clear of healthcare and consumer discretionary stocks, concentrating primarily on energy and technology stocks. However, my perspective on diversification as a trader might vary from a financial advisor's viewpoint.
The market is composed of sectors (11), industry groups (24), industries (69), and sub-industries (158). While financial advisors typically curate portfolios that are diversified across all sectors, traders are granted a greater degree of flexibility. The secret is to discover the approach that aligns best with your objectives.
My counsel is not to diversify merely on the grounds of someone's suggestion. The strategy of diversification varies according to individual preferences. As a trader, your focus isn't necessarily fixed on long-term trends that could influence multiple sectors. Gains and losses can be witnessed within a single trading day.
On a personal note, I favor operating with a limited number of variables. Different sectors and industries exhibit varied chart patterns. Pharmaceuticals, for instance, can experience rapid and unforeseen fluctuations. In contrast, blue-chip technology stocks generally demonstrate more predictable trends. A balanced strategy can be achieved by trading both.
Certain traders emphasize a single sector, diversifying across industries within that sector. For me, this approach seems too restricted, but it works profitably for many. Diversification can manifest in myriad ways, but the fundamental principle remains unchanged: avoid staking all your resources in a single venture.
In the previous scenario, diversification was achieved by reallocating funds to previously avoided sectors. Before this year, I typically stayed away from healthcare and consumer discretionary stocks and focused heavily on energy and tech stocks. However, as a trader, my concept of diversification may differ from that of a financial advisor.
The market is divided into sectors (11), industry groups (24), industries (69), and sub-industries (158). While financial advisors create portfolios diversified across all sectors, traders have more flexibility. The key is finding what works for you.
My advice is to not diversify just because someone said you should. Diversification looks different for everyone. As a trader, you're not necessarily looking for long-term trends that will affect multiple sectors. Money can be made and lost in a single day.
Personally, I prefer to work with fewer variables in the equation. Sectors and industries display diverse chart patterns. Pharmaceuticals, for example, can rise and fall quickly and unexpectedly. Blue-chip tech stocks are more predictable. A balance can be achieved by trading both.
Some traders focus on a single sector and diversify across industries within that sector. This approach is too narrow for me, but many traders make good money doing it. Diversification can take many forms, but the concept remains the same: don't put all your eggs in one basket.
Perhaps the most insightful lesson I've garnered as a trader is the significance of discipline and emotional neutrality towards any specific stock. My personal sentiments about the companies I trade never factor into the equation. The only considerations during a trading day are profits and losses.
This marks a stark contrast between investors and traders. Investors frequently construct portfolios based on personal convictions, such as a heavy investment in environmentally friendly stocks or abstention from oil stocks. As a trader, my primary tools are chart patterns, and oftentimes, I am uninformed about the company's operations.
Discipline is paramount in executing a trading strategy. As previously mentioned, it's feasible to suffer substantial losses in the morning only to recoup them later in the day. However, this recovery won't materialize if you deviate from your strategy at midday. It's vital to exercise self-discipline, sticking to your plan even amidst high emotional pressure.
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