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Reader Questions Answered Trading Tips

Shifting from Trade Signal Follower to Trader

Trader Rob from north of the border in Canada (at least that’s north of the border for me) has submitted a question that actually feeds into something I plan on working on in the not too distant future. He wants to know how to shift from trading under the direction of someone else’s methodology to trading on his own.

Hello John and Thank-You for the opportunity to ask a question that I have been working on !

I am currently new to day trading and am going to do everything possible to make this my new career. I am spending lots of time reviewing, learning and actually trading. My trades are based on a buy/sell list provided to me for a fee combined with what I have learned so far. Currently getting better all the time but still a lot to learn.

My question is this in the hopes of including it in my studies.

If I am going to make this my career I will have to pick my own shares to trade, where should a great portion of my studies focus to help get to this point quicker ??

Regards

Rob in Canada

Rob is facing the issue new traders almost always face when they base their trading on someone else’s signals. Eventually, they are going to want to (in most cases) break away and make their own decisions. The path they will take is generally going to be one of two main choices. 

The first possible path is continuing to employ the same main strategy as the person providing the signals they’ve been using, obviously with them becoming the one identifying the trading opportunities and devising the trading strategy. This path is possible if the signal provide is one which does more than just says “Buy here. Sell there.” The provider must be taking the trader through a process which has previously been outlined and repeated so that the trader can see it in action, then try to get their own work to produce matching – or at least comparable – results.

The second possible path is for the trader to venture off on their own, either because the signal provider doesn’t provide the system education required or because the trader wants to go in a different direction with their trading. In this case, the trader should take whatever they learned from following someone else’s trades and apply it to figuring out where they should go. That’s things like trading timeframes, markets, methods, the type of risk and volatility that they can tolerate, and all those things that go in to developing a good overall trading plan. With that in hand the trader can narrow in on what would likely work for them and begin the requisite study.

What should Rob do?
Rob seems to be happy with the trades he’s doing based on the recommendations he’s getting. In that case I would work on trying to match up the results of his own research with that of what he’s being sent, at least as the first step (he can look to improve later). One way for Rob to do this could be to run a parallel demo or paper trading operation based on his own work.  When he’s comfortable with being able to mostly match up with what he’s being sent then he can make the leap into doing the live trade identifying and strategizing entirely on his own. Along the way, if he has the funds, Rob could split is capital and trade part based on the signals he’s receiving and part based on his own work – slowing shifting the balance toward his own strategies as they become on target.

Now, if Rob wants to go in a different direction then he needs to figure out what kind of trades he’s after. Day trading is the expressed focus, so he’ll need to figure out the characteristics of the types of stocks he’s going to want to trade and come up with a way to find them. Of course knowing what kind of trading he wants to do first, in terms of type of moves he’s going after and the system or method to find those trades, would help him better know what kind of stocks to seek. Chances are this is going to mean some testing.

Thoughts on Using Trading Signals
I have said many times that I am not a big fan of people trading off of signals they get from someone or something (blackbox) else, especially new traders. Experienced traders who know what they are getting into can perhaps work with other people’s signals, but a new trader generally speaking is going to struggle to stick with them.

The simple facts are that most trading systems don’t work for most people and that is mainly because they aren’t the right fit. An experienced trader can look at systems and methods, see how they trade, and know if it could work for them. New traders don’t have that ability to make those judgements yet, and end up getting caught up in the profitability figures without thinking about all the other stuff involved. New traders are much better off doing a lot of system and method research and testing so they can learn the markets, learn the methods, and learn about themselves as traders than trying to let someone or something else tell them what to do.

Please do note that I am differentiating here between a trader who actually executes the trades of their own volition and a money allocator who is simply looking to let someone/something else make all the decisions.

Unless you can look over their shoulder
Having said all this, the exception I would make in the no signal taking suggestion is the case where the trader can learn from someone along the way. By this I mean the signal provider is walking the recipient through the trade selection methodology, analysis, screening, or whatever goes into the trade identying, strategizing, and managing process. In that case the trader can learn by watching and doing, which in the long run has potentially considerably more value than just being told where to go long and put your stop.

This sort of thing is actually something I am planning on getting going myself. I’m going to set something up where traders can follow along the analysis that I do so they can learn to apply the same techniques themselves. Look for more on that in the not too distant future.

Categories
Reader Questions Answered Trader Resources

Help With Trading Taxes

I had this question come in yesterday regard finding a tax professional to help with trading related issues.

Hi John,

I have started trading several times a day now and am in need of a good tax person here in Orange County – I made 30 fruitless calls and wasted 2 hours in Irvine yesterday – no-one knows much about mark-to-market elections, wash sale rule or trading strategies.

Is there anyone you could recommend or could you suggest how I could locate a good tax person?

Thanks for a good website!

Regards,

Peter

I don’t personally know any tax professionals in Orange County (that’s Southern California near Los Angeles for those not in the geographic know 🙂 ), but I know some readers of this blog are from that area. If you happen to know someone Peter might be able to use, please let me know and I will pass the info along.

Now, in general terms there is a group who’s focus is on taxation related to traders. That’s www.tradersaccounting.com. I have never dealt with them, so I can’t provide any specific referral information here. I just found them while looking around on the web some time back. One of these days I would like to get someone from there to do some kind of educational thing for my mailing list, but I haven’t gotten around to making the inquiries yet.

If you happen to have any feed back on Traders Accounting or any other group, or anything else related to tax preparation for US traders (in this case), please leave a comment and let us know.

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Reader Questions Answered

An Investor Learning About Trading

Here’s a note I received from an investor looking to maybe dabble in the trading world.

Hi John, Actually there r no puzzles. I have been investor all these years. Have researched many companies. Have set up my own investments co. But i have always been more fascinated by trading. I have been reading Market Wizards books since last few days. I have found them very interesting.

In past due to loan defaults, i lost big money which i had loaned to my relatives and friends. It took me ten years to make back which i lost due to no fault of mine. I was just patsy and did not have any guidance.

However, if you recommend anything, i m all ears. I am serious about learning how to trade profitably. Have met Jim Rogers in past when he visited Mumbai.

In my book I made the observation that functionally (if not philosophically) trading and investing are essentially the same thing. By that I mean when investing you have a process and a methodology for identifying prospective investments and making investment decisions and in trading you have a process (often called a system) for identifying trade opportunities and making trading decisions. Those processes often have numerous similarities, though the time frames involved are generally not one of them.

I think the major issue for someone trying to get into trading after having been an investor is deciding which market to do that in. The obvious choice would be to stay in the stock market, since the investor is already knowledgeable there (presumably). I’d suggest that maybe a different market might be the better idea, though.

Why?

Because one of the risks of having a split trading/investing focus is that trades become investments and investments become trades. By that I mean a position that was intended as a trade turns into an investment when the trader starts altering the way he/she looks at the position, and vice versa. Invariably, this becomes a disaster waiting to happen because risk management rules get tossed aside – usually at the worst possible time.

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Trader Resources

Trader: The Paul Tudor Jones Documentary Video

Once upon a time a documentary about Paul Tudor Jones was filmed. It became a video titled Trader.

Today, Trader is something of a legendary look at a highly respected money manager of recent times.

Basically, Trader is a 60 minute look into the life and trading of Jones. I believe it was originally a PBS showing in the States, but I could be wrong there. It features him trading and talking about about the markets, and it shows some of his life outside trading.

Here’s what the front cover of the video case calls it:

An inside look at a real flesh and blood Wall Street Trader. No fictional character will ever equal him.

The filming for Trader took place in late 1986 and early 1987 and in the footage Jones talks about his expectation of a major stock market decline to come. He pretty much predicted on film the Crash of 1987. That feat is no doubt from where some of the current interest in the video comes.  (Jones would later be featured in Market Wizards, the interview for which was done a little while after the Crash, providing an interesting bookend with the video.)

Here is what the back cover of the video case says:

Is financial trading an art, science, profession or out-and-out gamble? If you’re interested in money and you want to know what it’s really like on Wall Street, this is the video you, your family, your colleagues and your friends should own. Filmed before Wall Street’s October 1987 crash, TRADER is a riveting one hour documentary of a fascinating man, Paul Tudor Jones II. It delivers a rarely seen view of futures trading and explains the workings of this frantic, highly charged marketplace. It gives viewers an inside look at his estate in Virginia, skiing in Gstaad, his New York apartment. It also examines Jones’ prediction that America is nearing the end of a 200-year bull market. If he’s right – and he almost always is – this country and the world are about to experience economic changes of unprecedented proportions.

This is a video which has developed something of a cult status in recent years. Finding a copy of Trader is nearly impossible. I’ve heard talk that Jones has gone around buying up all the copies he could get his hands on, presumably because he’s now a respected fund manager and philanthropist and doesn’t want to be thought of as the brash character which comes across in the documentary. I don’t know if there’s any real truth to that, but a New York Times article from October 2007 does say that he requested of the producers sometime back in the 90s that no more copies be made available and that they’d seen prices of $295 and up online for copies on offer.

To answer questions I get asked periodically in regards to this video:

Yes, I own a copy of it.

Yes, I do think it’s worth watching. Obviously it’s 20 years old at this point, so the quality isn’t great. The technology on screen is laughably old, and the overall footage and production is definitely of its time. Still, it’s a worthwhile view to watch Jones trade oil, S&Ps, and currencies – and to hear his thoughts on doing so in somewhat real time, as it’s happening. This is something you didn’t get back in the 80s, though it’s not uncommon these days.

No, you can’t have my copy! 🙂

That said, I do want to get the video copied into digital format, and might be able to make it available in some fashion once I do.

The problem is, because it’s copyright material, commercial shops won’t copy it for me. I have to do it myself. My first attempt didn’t come off very well, but I’ll keep trying.

If I can get the video into a viewable digital file, I’ll see about letting folks get a look at it. I need to explore a few things in that regard, though. I’m not prepared to violate any copyright restrictions.

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Guest Posts Trading Tips

One Trader’s Path – Guest Post

One of my list members answered the call to contribute some thoughts on trading and trader development to share with others through a guest post. He’s asked to remain anonymous. I think it provides a fantastic perspective on what it really takes to become a successful trader – hard work and experience.

It took me many years and thousands of hours of market watching to develop my proprietary trading methodology. The baggage from my old “learnings” was so heavy that I was unable to trade successfully until I got rid of it. Then I stopped trading for about two years to get rid of bad habits.

There is always a price to pay for education. For some it may be losing several accounts, for others it may be hiring a good mentor to teach them; for me it was the school of hard knocks and even living at the border of impoverished conditions in order to study the market, back-testing and forward-testing several trading strategies until I finally developed a proprietary trading methodology that gives accurate entry/exit signals with levels for stop loss and profit targets. It was back tested with 5 years of data, forward tested in a virtual account successfully for six month and I am currently forward testing it in a live account.

Success comes with knowledge. Knowledge comes with experience. Experience comes with time and hard work.

I believe that one needs one good trading methodology to enter a world that no one ever really sees until you are there yourself. I am determined to enter this world this year and I will be happy to take many with me, if they so choose. I am taking baby steps toward that world and it is a great feeling.

I definitely don’t know everything. In fact I know very little and I am finding out the longer I live the less I know. I do make mistakes like everyone else; but I learned to quickly correct them with no ego involvement. Hesitation has little reward in life and none in trading.

Categories
Trading Tips

Choosing Day Trading

Ray Barros, in his post Day Trade?, brings up the subject of why people choose to become a day trader rather than a swing trader or a position trader. He notes that many do so because they believe themselves undercapitalized for holding positions overnight. I would add in another view I’ve heard on quite a few occassions. Many day traders don’t want to risk the relatively large number of points or pips implied by by trading in those longer timeframes. Ray thinks the undercapitaliation argument is a poor one, and I agree. I also think the point/pip one is foolish, and I’m guessing Ray would agree with me there.

If you are going to day trade you should do so because that’s the timeframe which makes the most sense for you.

It’s about being at your most effective. Effective day trading requires the ability to dedicate sufficient time to the market on a consistent basis. Those hours in the market should be during a regular time of day and should be at a point when there’s enough going on most days to provide you the opportunities you require. If you want to trade forex, for example, and the only window you have is from 4-7pm NY time each day, you’re probably better off considering other options.

Is capitalization an issue? Absolutely. But I actually would spin things around from what Ray mentioned above about people picking day trading because they didn’t think they had enough money to trade overnight.

If you don’t have sufficient capital to handle an overnight position then I would contend you probably shouldn’t be day trading either.

Why? Because it implies that you are probably trading at too high a risk level. Consider the example of someone daytrading the mini S&P 500 contract. That could be done on margin of around $1200, compared to something like $4000 for an overnight hold. What does your risk look like if you aren’t funded enough to carry a position overnight?

The point value of a mini S&P contract is $50. If you have a $5000 account, a single S&P point is 1% of your portfolio value. Now, if you’ve only got $2500 in the account to day trade, that point is 2%. How much are you willing to risk on a given trade, because a one point risk is a very small one in the S&Ps, especially in the current market environment. A quick look at the Average True Range (ATR) tells me that at this writing the lowest 10-minute average range over the last week has been about 2.5 points. A one point stop would almost certainly get hit.

Add the increased transaction costs from high frequency trading to the excess risk being taken and you get a recipe for poor performance. That’s why I don’t think low capitalization traders should be day trading.

Of course, if you’re trading forex where some brokers have no minimum position sizes, then it’s a different story all together.

It’s worth noting that you are always going to be better off with more capital. A larger account balance gives you more options.

As for the number of pips or points you would have to risk to trade in a longer timeframe….

Risking 10 points is the same as risking 1 point if you are sizing your positions to risk a specific % of your portfolio.

I’ve seen even some experienced traders say they don’t position trade because they don’t like the idea of taking the bigger risk. It’s only bigger risk if you don’t adjust your position size accordingly. You cannot get caught up in the number of points or pips in the trade. They are basically meaningless. Think in terms of percentages and you’re better off.

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Trading Tips

Dangerous trading myths which aren’t so dangerous

I’ve been receiving a series of emails from a person trying to get me to sign up for some product or tool or somesuch that’s supposed to point out good trades for you. I won’t mention the name of this particular offering because based on the emails I’m seeing I have serious questions about the person or people behind it. They are coming through as a series of Dangerous Myths. Needless to say, I haven’t found the arguements particularly compelling, and in at least one instance the case made against the myth seems to contradict the very concept of the product.

Let me run them down for you.

Dangerous Myth #1: You have to identify what kind of trader you are.

The email contends that by defining what kind of traders you are you put yourself in a box. I’m in general agreement that we shouldn’t get too caught up in labels (see Keeping Perspective – You’re Not “A Trader”). It tends to keep us from having the flexibility and desire to explore new things. Having said that, though, just about every trader does best within a certain niche (or set of them) because of how it aligns with her/his interests, way of thinking, risk tolerance, etc. Brett Steenbarger has discussed this subject at length in his writings.

Dangerous Myth #2:  You must be able to identify patterns, waves, retracement levels, etc. to be a successful trader.

Coming from a signal generating product provider, this is about the most absurd thing I have heard. In the final analysis, trading is about patterns. Every trading methodology you will ever consider is based on them in one way or another. It boils down to “if this, then (probably) that”. If GOOG is trading at 50% of book value you buy because it will probably move back to a more reasonable valuation. If Soybeans make a new 55-day high you buy because it will probably trend higher (Turtle system). If the market moves toward an area it traded heavily in before, it will probably keep going toward it (price distribution analysis). One way or another, unless one is trading completely randomly, there’s a pattern involved.

Dangerous Myth #3:  You will benefit by paying a trading service and following their trading selections.

This is the one that blows my mind. The prior email said about the product in question that “It generates trading signals in real time so you can get in on the big market moves and ride them for all they are worth.” And yes, they are charging for it. So how is that not following a trading selection?

Blatant contradictions aside, I am definitely one to encourage folks to develop their own market analysis and trade selection abilities (discretionary or system oriented). To really become a strong trader with long-term staying power you have to do that.

Now, having said this, there is benefit to be had from following what someone else is doing. I’m not talking black-box type stuff here where someone just tells you where to buy and sell (though that can make sense too if the risk adjusted returns are good enough).  What I’m referring to is the kind of trading service which lays out the full reasoning behind the trade decision-making so you can follow along with it. That sort of service can help you learn quite a bit – along with maybe making you a few pips and/or points in profits.

So far that’s it for the myths. I’ll keep you posted if any more land in my inbox. 🙂