Being a winner as a trader is not being great at picking a stock that will go up. Your success will be measured on how well you manage your losses. Today there are over 10,000 mutual funds to choose from. Less than 5% of them will perform as well as the S&P 500 Index, which is the benchmark by which they all compete. As traders we feel we can out perform those numbers. It’s not as easy as it would appear so we need to take advantage of every bit of leverage we can muster.
We start managing our losses long before we buy into a position. We must first look at the overall market to make sure it is strong and moving in the right direction. Two out of three stocks follow the overall direction of the market. There are several ways to determine market direction and, once these techniques are mastered, the trader will be well ahead of the novice trader. One of the best I have found is by checking the number of new lows on the NYSE each day. You can find this information on several websites. I use Yahoo Finance to find this and other important facts. If the number of new lows on the NYSE is below 30 then we are in a good stock market. If they are below 20 we have a strong stock market and it should be safe to enter a long position. Also a check of the daily and weekly charts for the $INDU (Dow Jones Industrial Average), $COMPX (Nasdaq 2000 Composite Index), and the $SPX.X (S & P 500 Index) will provide an excellent source to determine market direction.
We should also buy stocks that are in Industry Groups that are among the top performers at the time. Seventy percent of the price movement of a stock can be credited to the Industry Group it is in. Make sure the stock we are looking at is in an overall uptrend and that it has formed a good solid foundation. We want to buy stocks as they breakout on very strong volume (usually 150% of the 50 day average volume). This means there is sufficient interest from institutional traders to carry the price higher. Make sure the stock is fundamentally sound, i.e. it has proven it can make a profit period after period. Earnings Per Share and Relative Strength are the two most important factors to consider. Today we have access to volumes of information about stocks from websites such as Yahoo,
Barron’s, etc. Do your homework and make sure you buy nothing but the best.
Determine your own status, whether you are an investor or trader. An investor is in for the long haul, they buy and hold. A trader on the other hand, buys for a quick profit and moves on. Many believe the present market lends itself better to traders as the volatility has increased tremendously with over 3 billion shares of stocks traded each day on the NYSE and NASDAQ. Much of this is due to day traders, and that is a story in itself.
Limit the amount of your equity you risk on any one trade. See the 2% rule I wrote about in my eBook “How To Trade The Cup with Handle Family of Trades”. This is key for having any success in the markets as either a trader or investor.
After you have done all this work, and followed everything to a tee, you feel you have a great chance at being successful. WRONG! You are going to be wrong at least 60% of the time. So you say why bother, “I’ll go to the mutual fund store and let them pick out a fund for me.” If you aren’t willing to put forth the effort it takes to study and learn the principles to be a successful trader, then going to the mutual fund store is exactly what you should do.
At the outset I stated "to be successful you first must learn how to manage your losses". When we finally accept the fact we will have trades that go against us, we can set up a plan of protection to minimize the damage. Most people don’t want to admit they have made a wrong choice and will stay with a losing stock trade until it becomes devastating. The first thing we must do after entering a stock trade is to place a stop loss order with our broker that will get us out if the price drops by more than 8%. Notice I said "MUST DO". It is not enough to say I will watch it and if it goes down 8% I will call my broker and get out. YOU WON’T. Emotions take over and they are stronger than your will power at that time. You will think of countless reasons why you should stay in this loser. You must learn to trade without emotions and do what is right, which is to follow your Trading Plan. It is a sound, well thought out plan that you devised while you still had your wits about you. Never deviate from your plan in the middle of a stock trade. If after several trades you find through analysis that it needs to be changed, do it then.
With your stop loss in place wait for the price to rise. As it goes up, raise your stop loss to lock in profit. Keep doing this as the price continues to rise. Before you entered this trade you should have determined your profit goal. If you reach your profit goal before being stopped out make your exit, take your profits and move on. There is no need to look at this stock again. If it continues to go up so be it. You met your goal and that is a very successful stock trade. If you get stopped out at a loss, take it and move on as well. This also was a successful stock trade, as you did exactly what you planned. If you follow these steps you too will become a successful stock trader. There is a lot of satisfaction in being successful at what we do. Most of the time we just have to know what to expect and plan for it. No one ever told us to expect to lose. Once we know it is normal and plan accordingly then we can become successful.
As I have written in previous blogs and explained in articles on this cupwatch.com website we follow the principles laid out in the book “How I Made $2,000,000 in the Stock Market” by Nicolas Darvas. His methods are used by more successful traders today than any other. Many traders today use computerized trading systems to trade the markets. This takes the emotion out of their trading, which is the cause for the majority of losses. The CupTrade Strategies© is a set of ten trading systems that will automatically trade stocks that meet the Darvas Principles. In addition they include strategies that use the Cup With Handle Family of Trades to take advantage of up and down stock markets. When using these systems the trader can safely trade the stock markets while working a full time job without setting by a computer all day long. Every aspect of the stock trade is taken care of automatically.
I have been perfecting these strategies since 1998. Go to www.cupwatch.com to find out more or give me a call at 800-453-9080.