Picking apart more trading rules

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John Forman - The Essentials of Trading author

A member of the Trade2Win forum posted the following set of trading rules. I love it when people do this - in a twisted sort of way. It lets me poke holes in them because the almost always tend to rely on a set of assumptions, ones which are often not uniformly applicable.

Here we go.

•Always use stop losses to your position at a smaller loss preventing a large devastating loss
Not all trading strategies work well with stops, for one thing. For another, I personally don’t use “stop losses” because I employ stops to exit positions which are not performing properly, not just to guard against a large loss.

•Do not change your stop loss after you’ve entered it
Assuming the poster mean that you shouldn’t make your stop wider after putting it in, then that’s generally good advice.

•Close your position when you have a decent profit
Close your position when your system/method says you should close it. Don’t just take profits to take profits. That’s a quick road to poor results.

•Do not over trade and do not hold oversized positions
Definitely! Over-trading kills a lot of traders.

•Recognize the difference between a trending market and a range bound market
This certainly can be very helpful.

•Know who is in power, bulls, bears or neither
This is basically saying the same as the previous rule.

•Recognize when your position is good, or if it’s a miss, act swiftly and exit
Your system/method should have a way for you to do this.

•Use if/then logic. If interest rates go up, price goes up, etc
Basically this means set up clear rules in your trading plan.

•Use small lot sizes
Use the right position size. Large and small are relative.

•Place paper trades using your trading demo account until you are sure of your trading plan
Good advice.

•Trade to trade well not to make money
Trading is all about consitently making good trades. The profits will follow.

•Do not force the trade by entering at any old price
In other words, trade according to your plan.

•Use the best entry and exit price points possible
Again, trade to your plan.

•Never take a trade unless three or more indicators come together
If that’s what your system is all about, then fine. My general feeling on this is that people who feel the need to use multiple indicators are expressing a psychological shortcoming. More indicators generally doesn’t increase the odds of success.

•Always trade in the direction of the current trend
Not all strategies are optimally placed to trade in the direction of the trend.

I’ve said it before, and I’ll no doubt say it again. Be very, very careful when someone tells you “never” or “always”. There are very few absolutes in trading. People who suggest otherwise are almost certainly speaking from a very narrow perspective and/or lack of experience.

Your trading success is determined by your trading consistency

Consistency is the key.

When I was coaching volleyball I was involved in a discussion with one of out players after her freshman year. She had had some very good match performances. She’d also had some real stinkers. It was clear to us coaches that she could be an outstanding player if she could just put forth a consistent effort from game to game. With some help she was able to do just that and had a fantastic sophomore year. She was selected 1st team All Conference and broke a few school records along the way.

Consistency is what took this young woman from being a talented player to being a star performer. Consistency is also what takes traders from having potential to being persistently sucessful.

It doesn’t take much to put in a good result now and then. Just about anyone can do that. There are loads of flash-in-the-pan types. We often consider them more lucky that good because they weren’t able to sustain their performance. They are not the folks taken seriously.

It’s the special ones who can generate good results on a regular basis. They do that by being consistent in their trading.

Granted, there needs to be something upon which to develop that consistency. The player noted above had the raw materials. She was of good size for her position, moved fairly well (when she wanted to), and had a pretty good head for the game. Obviously, some of that was inherent (can’t teach height), but other elements were ones she’d developed with practice, training, and experience over time. If that stuff wasn’t already in place all the consistency in the world wouldn’t have mattered.

The same is true of traders.

If one doesn’t understand the markets and their mechanics, have experience in trading and analysis, and the right kind of risk mentality - for example - then all the consistency in the world won’t matter a bit. Success would be more a matter of luck than skill. For the educated and experienced trader, however, it’s consistent application of what they know in the use of the skills playing toward their strengths (or at least away from their weaknesses) which makes the difference between a sometimes success and an all-the-time one.

Where does consistency come from? It comes from a well defined and executed plan.

In the case of the volleyball player the plan was partly one set out by the coaching staff in terms of practice and team training, as well as working specifically with her to identify areas where her game or strength/fitness could be improved. She also had additional elements of her own as part of the plan in terms of her summer training, diet, sleep, and pre-practice/match preparations. Both sides of the equation came together to make a full plan.

The same applies to traders. There are a number of different plan elements which must all come together to create consistency. They’re different for each trader, but include research, pre-/post-market analysis, keeping up with market developments, learning new techniques, etc.

If you’re trading isn’t where you want it, look first at whether you have the requisite know-how and experience and then at whether you’re being consistent - and if not, how you can make a change.

Trading forum discussion - let’s keep it civil

Trading discussion forum sites and chat rooms can be great resources, but they can also become major sources of conflict if you let them. I came across the following post on Trade2Win active trader forum today. I’ll not list the poster, though if you really wanted to you could probably find it (unless the moderators have deleted it at this point).

I beg your pardon? I did not insult you personally…I stated something that is my opinion…as you, or anyone else does and to which you and they are entitled. You have insulted me. Listen pal, don’t ever PRESUME to know anything about a poster save that which they post. Your posted remarks say tomes about you…your ego is offended because I immediately discerned that you are a fraud. “Anyway, I know better than to get into a discussion …….” No you don’t, you ahole, you are actually inviting an argument…and you’re going to get one. Your statement is fraudulent on the face of it…simple logic old boy.   …   Shall I continue ridiculing your BS trading …as you continued to pathetically attempt to impress a neophyte trader..you weren’t helping him..you were stroking your OWN insecurity needs and helping your fragile ego gratification.

I include this posting here because it represents the silliness which can take place on discussion forum sites and in chat rooms. He makes several mistakes. First of all, he clearly got entirely too emotional for his own good. Second, he responds to what he perceived as a personal attack (I have my reservations on whether that was really the case) with name calling and personal attacks in the other direction. Third, he attacks the other poster for what he sees as making assumptions about him based on his posts, then proceeds to do exactly the same thing the other way. He did make a good counter-point (excluded), but it was so wrapped up in negatives that it tends to get over-looked.

Needless to say, I discourage this type of behavior. It serves no purpose.

The culture of the discussion forum is an interesting one, to say the least. The ability of members to mask their true identies leads to all kinds of behavior which probably wouldn’t take place in a face-to-face scenario. I’ve seen some very bizarre exchanges indeed, and of course a few heated ones with the above being an example of a part of something like that.

Actually, I was once essentially subject to a post in response to my own - I can’t even remember the subject - in which the other poster did the forum equivalent of asking me to step outside. I was totally stunned. I couldn’t see anything in what I’d written which I thought could or should be taken as a personal attack of any kind. From my perspective, I’d simply expressed my disagreement with what he’d been saying.

I will admit to being a debater. Always have been. I get it from my mother. As a result, I happily wade into forum discussions and debate topics, but only if I feel like there is something being presented incorrectly or I can add to the conversation. Otherwise, I tend to just observe.

Here’s the thing, though. It’s really, really easy to get wound up, emotional, and frankly quite stupid in a forum or chat room situation. Annonymity seems to encourage this kind of behavior. So too does the simple geography gap. I’ve actually seen co-workers of mine, working on the same forex analytic product, get into really petty squabbles between the Boston and London offices. When you don’t know someone and/or don’t see them regularly it’s easier for common decency and decorum to go out the window. It happens in email exchanges on a far to regular basis, often creating unnecessary hostile feelings.

I personally use my real name in my post signatures because I behave myself, am a semi-public figure, and don’t really want to be in a situation where someone thinks I’m hiding behind a screen name. I can’t do anything about the distance, though, or the fact that most of the folks with whom I correspond have never met me, and probably never will.

If you spend enough time on discussion boards and whatnot it’s pretty much inevitable that you’re going to end up in a clash situation with someone. For you own sake and for that of the other participants, don’t take the bait when someone makes it personal. Responding to it doesn’t really accomplish anything. To the contrary, it will just get you emotionally charged, which could lead you do do something stupid.

My advice for someone facing a personal attack is to ignore it, or maybe to say something to the effect of “I’m not making this personal. There’s no need for you to do so.”  There are a lot of forum posters out there who seem to thrive on the attention, so if you get into it with them you just feed that. Ignoring them will often result in their losing interest.

Now, having said that, if someone is besmirching your good name by making false statements and the like you should certainly defend yourself. Don’t get into a mug slinging match, but make sure to present the correct facts. It might not hurt to report the attack to the board moderator as well. In many cases they will take action to delete the offending posts.

Do I really need to say that you shouldn’t be launching personal attacks? There’s no reason to be calling people names and making inflatory comments about them. Chances are you don’t know them at all, so on what basis can you do something like that? None.

One other thing I would recommend is to be very clear in your language. Problems happen between posters at times because folks don’t realize when someone is joking or being sarcastic and take things much too seriously. If you’re being playful in a post, use emoticons and other things like that to be very clear on your position.

Aside from that, just realize that some forum members you come across aren’t going to like you for one reason or another. Maybe they don’t agree with your position. Maybe they don’t like the way you post. Maybe they’re just naturally negative types. Who knows. Do yourself a favor and don’t let it get to you. You aren’t going to be universally loved. Deal with it. And of course there are probably going to be others that rub you the wrong way. Just don’t let it get personal. It’s not worth it.

Feel free to share your experiences and thoughts.

Trading discipline isn’t a matter of just deciding to be disciplined

The other day, Brett Steenbarger posted something which I think really is worth some thought and follow-up. Brett made the following statement:

We talk about losing discipline in trading as we might talk about losing our car keys or our way out of a forest. But losing discipline is not about a simple act of forgetting. It is an active process of refusing to act upon one’s knowledge, of blotting out uncomfortable realities.

One of the big gripes I’ve always had with trading psychology discussions is that most of them in some way boil down to the idea that discipline is the key to trading success. I won’t argue that discipline is important. You need to execute your plan consistently to expect consistent results. Otherwise, you’re just shooting in the dark. As Brett says, though, it’s not as simple as saying “Be disciplined.”

When I first read The Psychology of Trading, Brett’s first book, my major thought was that finally someone went beyond the whole “Be disciplined” mantra. In that book I felt like he addressed the deeper issues, the root causes why people failed to achive trading discipline. Most of those were psychological, as the title would imply.

I’m not really qualified to speak with any authority in that regard. What I can say, though, is that from what I’ve seen many people struggle with the discipline when they attempt to trade in a way which doesn’t fit their personality or situation. I’m talking about things like folks with a low tolerance for drawdowns employing trend trading systems, or folks who don’t have the ability to follow the markets steady attempting to day trade.

If you’re having a problem with sticking to your trading plan (assuming you have one - which is another topic all together), then take some time to understand why that is. Don’t just think it’s something that you can pick back up again when lost. There’s generally a reason for the problem. Figure out why you lose it and work on the root problem.

What are three things traders can do to coach themselves?

Brett Steenbarger asked me to help him with the new book he’s writing on the subject of trader self-coaching by answering the following question:

What are the three things you’ve found most helpful that traders can do to coach themselves?”

Here’s what I wrote up in response:

The first thing a trader needs to do is step back and take a big picture view of things. This is extremely important for new traders as they need to figure out how trading is going to fit into their lives, but even folks who have been doing it for a while need to do this from time to time as well. Trading is part of one’s life, not separate from it. What part it plays must necessarily define how it is approached, and that can change over time. Periodically taking the 30,000 foot view allows one to maintain perspective.

A second important thing is the commitment to performance improvement. That may seem like an obvious thing, but it’s something easy to stray from at times. It’s often hard to not become complacent with one’s trading, especially when a level of success has been achieved. In order for self-coaching to have any value, though, the realization that one can keep getting better, and the desire to do so, must be at the fore all the time.

Finally, setting good goals and assessing how one is progressing toward achieving them is critical. These are things coaches in other activities like athletics do as external observers. The advantages there, however, is they don’t have the direct link to the individual’s psyche which complicates things when one is doing self-assessment. The most challenging aspect of this process for the individual is not allowing it to adversely impact one’s confidence level. That means the process needs to be as objective as possible and the trader needs to be able to disconnect their ego from it.

This stuff might all sound pretty high level and non-specific and that’s true. From what I’ve seen, though, one of the big problems with many new and relatively inexperienced traders is that they never take a look at the bigger picture. They get too caught up in the minute details.

Company Earnings Conference Calls

I’ll admit it. One of the less enjoyable parts of my job is covering earnings conference calls that companies do after they’ve announced their quarterly results. Some of the guys on my team are really into the calls and listen to all of the ones they can get on. Being primarily a technician, they just aren’t my thing. You can imagine how much of a drag it can be to have to spend a hour plus listening to managers talk about their business and analysts asking them questions, especially when you don’t really understand it all - and some of the stuff is very niche.

That said, there’s definitely value there. If I were an investor (or prospective one) in a company, I’d definitely want to listen in to the calls. You can often gleen a few little nuggets out of what management says - stuff that doesn’t come through so well from the earnings reports.

It’s also worth noting that sometimes what happens on a conference call can cause enormous volatility in the stock. Just today one of my colleagues was on a call that went badly. The company had been up like 6% overnight, but during the call it was down like 7%. And that’s not even one of the bigger moves. Some calls, especially when they get into the Q&A portion, can get really ugly.

The bottom line is that if you’re focused on a certain stock, it’s probably worth listening in to the quarterly calls. They are generally freely accessible via the company’s website.

Revisiting Average True Range (ATR)

Corey over at Afraid to Trade posted a piece in which he discusses the use of ATR percentage. I’ve already submitted a comment on that post complaining about how he’s stealing my ideas.

Well, sort of stealing. He got the idea from someone else. I, however, wrote about what I called Normalized ATR (N-ATR) in an article for Trade2Win like three years ago and mentioned it in a post on this blog (Volatility Pointing at More Stock Market Upside) more than two years back. I also had an article in Stocks & Commodities (Normalized Average True Range – A Basis for Comparison) back in May 2006.

Basically, the idea behind N-ATR (or Corey’s ATR Percentage) is to make ATR directly comparable between trading instruments of different price levels - or when you’re looking at something over a long time period where prices have changed a lot.

By the way, I use N-ATR in my Equity Market Analyst job to help identify stocks that are good trader candidates.

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