Trading Strategy #2: Inspired by Trading for a Living

Inspired by Trading for a Living by Dr. Alexander Elder. I recommend Elder's newer book, Come into my Trading Room, as a first read.

I want to start with swing trading. However, since my favorite simulator - TradingSim.com - focuses on day trading, my current strategy is based around day trading. Many of the fundamentals Elder discusses in his book show up as I practice day trading, so I don't feel to bad about this compromise.

Dr. Elder's Pillars of Trading:

1. Money Management - Risk

2. Trading System

3. Psychology

MONEY MANAGEMENT - RISK

The three steps of learning to trade:

1. Learn to break even and stay in the game. Learn how to manage risk. Develop a trading system.

2. Earn a small but consistent revenue.

3. Find big wins.

With that in mind, the first section is risk management:

The idea is to prevent big losses and protect profit.

1. Generally, my stop lies at a 0.50% loss of my capital, including commission fees.

----Although a 0.50% loss is a narrow stop, I prefer my trades go my way from the beginning. It's been working so far.

----I will trade with Sogo Trading, so an entry and exit willl cost me $6.00.

----I always use limits to eliminate slippage.

2. Once I hit 0.50% profit, I have to protect that 0.50%.

----If I enter and exit for a profit of about 0.50%, I am done for the day.

----If I gain more than 0.50%, I can enter again, but I can only risk the extra profit I've made.

TRADING SYSTEM

STAY OUT

1. I stay out when the price is in a range.

2. I also stay out if I am at all unsure. It is better to stay out and lose nothing than it is to over-trade or to trade without knowing exactly why you're entering and exactly when you will leave. With this in mind, every time I enter or exit, I write down my reasoning.

ENTRY

1. I enter the market only when price has been trending for two or more days.

2. If the price opens outside of the trend channel, I watch if the price returns to the channel.

----If the price is returning, I enter, but I prepare to bail quickly because price might be entering a range.

----Once the price returns, I watch volume closely to decide if the price gap predicts continuation or exhaustion. (Read Elder's book for more info.)

3. In an uptrend, I enter when the price is at the bottom of the trend channel.

EXIT

1. In an uptrend, I exit when the price is at the top of the trend channel.

2. When the price breaks the trend, I jump ship right away.

3. If my prediction is wrong or I'm not sure, I exit.

TradingSim.com; SMAs; Bollinger Bands

I found TradingSim.com. It's awesome. They give you $50,000 paper money capital with $200,000 in margin. You can replay the past 25 trading days for stocks in NASDAQ, pause, fast-forward, use indicators. Sex on the beach.

On the first day, I did fine - came out to about $48,000, so that's a 10% loss. Okay. Relax.

On the second day, I ran the account into the ground. That sucked so much.

By the fifth day, I stopped losing altogether. Instead, I would routinely make 1.50-5.00%.

I've been playing around with some of the indicators on TradingSim.

Simple Moving Average (SMA)

I read a short article about SMAs on Wall Street Survivor. Apparently when the 50 and 200 periods intersect, you know what to do. Long-term, it looks fine. However, on the short-term, it's often far too late, far too early, or even suggests precisely the opposite of what you should do.

Bollinger Bands

I found a book called Bollinger on Bollinger Bands. I haven't read it yet, but I switched on his indicator and tried to figure out something from it. After a few theories, it hit me. I realized that often times when the price passes decisively above the top band, the stock will just keep rising. On the other hand, if the price just dances above the top band, a rise may come later. The reverse seems true for the bottom band. Pretty sweet.

Reading Trading to Win: The Psychology of Mastering the Markets by Kiev has helped me notice an interesting emotional phenomenon. I discovered this as I was killing my first $50,000:

Precisely after entering the market, the price would often move strongly against me. It became so predictable that I had an ingenious idea: Every time I would feel anxious to buy, I would sell and vice versa. Somehow, I found this method supremely satisfying - as if I was profiteering off my own emotional clumsiness. I became so good at doubting myself that I stopped losing. Thus began my current winning streak.

I have a creeping suspicion that there are cunning, well-funded groups which know exactly how the masses think and feel about the market at a given time. Just as the masses enter, these guys nudge the market in the other direction and make an killing.

Now, my strategy is a little less ridiculous. I wait until about 10:30 AM and enter just when I see a trend forming. If I do not see the trend, I don't enter. Sometimes I exit if the trend loses momentum or if I became unsure. Sometimes I leave my money in for the entire day. Also, I try to only trade on the half-hour. It prevents me getting caught up by my emotions. As much as I enjoy the "Let's do the opposite of what I want to do" Dance, I try to avoid it.

Right now, that's my trading strategy: up in the air - anchored only by novice intuition and the occasional Bollinger Band.