Wednesday, July 18, 2007

How aggressive are you?

As we were going to, let's define different kinds of trade entry aggressiveness wise in order to know their advantages ands shortcomings. This will help you find what approach works better for your personal preferences and when to adjust things depending on the market behaviour.

1. Regular entry.

This is an entry right at the trigger. If we are talking about breakout, regular entry will be just above the resistance level when it's broken. With Cup and handle forming day high at $20, tradeing at $20.01 will trigger the trade and be qualified as a regular entry.

- you enter a trade after getting your confirmation that a stock is capable of breaking the resistance, thus youre chance of profitable trade is higher
- this is popular spot for momentum players so you have a good chance of getting a quick scalp on the backs of slower traders or those entering at market

- as the crowd hits the stock at this level it can be hard to get your fill;
- your stop level is below the nearest support which is not necessary tight enough for your comfort

2. Aggressive entry

This is an entry in advance, closer to support level counting on future breakout
In the same Cup and Handle example, with breakout point at $20 and cup bottom at $19.80 you enter as close to 19.80 as possible when a stock shows strength.

- very tight stop as your entry is fairly close to support level
- easy to get your order filled as the crowd is not really active at this point and is likely to engage on an actual breakout
- better risk/reward ratio
- opportunity to dump your shares near breakout level if you lose faith in it and still be profitable
- more manoeuvrability as you can partial out near the breakout level securing part of profit and let the other part trade to catch more on a break if it occurs

- less confidence in a breakout as you have no confirmation
- your stops will be tighter but there will be more of them

3. Conservative entry

This is an entry where you let the trigger go, wait out first spike and try to get in on a pullback IF new support level (former resiatnce) is holding. Citing the same example uniformity sake, that Cup and Handle break of $20 will lead you into watching a stock breaking, making new high and retreating to $20, where you will enter on a first sign of strenghtening with stop under $20.

- you get as much confirmation as possible by seeing a stock not only being capable to break the resistance but also holding above it on a pullback
- stop is fairly tight
- entry is relatively easy as you hit it at the point of uncertainty on a pullback which usually offers a pause

- there is a good chance to miss an entry altogether if a stock moves too far after a break never looking back
- less favorable entry price

There is no better or worse way to apply those. Obviously two major factors in deciding between them are your personal preferences and the kind of market you are in.

Some of my personal points:
Most often I go for aggressive and regular entries. The stronger market is the more aggressive my entries are. The less confident about certain stock I am, the more likely I am to go for conservative entry. The more volatile stock is, the more likely I am to go for aggressive entry to minimize "natural-volatility shakeout" often occuring on a break itself.

Friday, July 6, 2007

A Bit About IF and THEN

The idea of IF-THEN scenarios in trading is often misconstrued one. I often see it being interpreted in a sense of predicting stock's action. A trader trying to apply it in this sense tries to think in terms 'If a stock does this, it's going to do that". This approach is more acceptable if a trader thinks in terms of probability instead of certainty in which case the above sentence becomes "If a stock does this, it's likely to do that". Nothing's wrong with that as long as a trader realizes that probability is just that - a probability that is going to work in a statistically valid number of samples but will not predict the outcome of each given case.

I, however, apply IF-THENs in a slightly different manner. For me it's about defining my own action in response to market fluctuations. My IF-THEN is a scenario where IF is what market does and THEN is what I do in response. My intepretation thus becomes 'If a stock does this, I do that".

Certainly, it's a derivation of the version above - you can arrive to it from "if a stock does this then it's likely to do that, so I am going to react in such and such way". My version is just more cut and dry.

What are the advantages of this aproach and why do we need to build a set of such scenarios?

First, it takes guessing and predicting out of the equation. Our trading becomes more systematic as we look for recognizable situation for which we have a pre-canned response.

Second, it takes emotions out of the equation. Since our actions are pre-determined, we simply apply them to what happens. Stock does this - we do that. No room for emotions, no room for surprize (well, almost - market has ways to offer something unseen before even when you think you have seen it all, LOL).

Third, it takes ego out of the equation. Since you are not trying to predict future events, there is no ego involvement in case if a stock does something unexpected. You didn't expect anything, right? You were simply waiting for it to do something in order to react in that pre-canned way. Since ego is not there to make you feel hurt, you have no problem with taking your stop - it's just one of the prepared scenarios. You don't feel as if you were proven wrong - you didn't commit to any prediction, so you can't be right or wrong.

All above makes you kind of trading robot. See setup - take setup, see action - apply reaction. Eyes to finger, no brain inbetween. Sounds boring? Great. I trade for profit, not for excitement. No brain involvement is a side benefit, you feel fresh and rested when the trading day is over.

I can assure you, it's a very liberating state of mind. Once you experience it, you never want to go back to old "highly-strung overthinking it" ways.