University for Forex Trading
Seven Trading Secrets of the Professionals
At the times I’ve done well in the markets, it usually was because I did certain things in a certain way. When I’ve done poorly, it usually was because I didn’t do these things. The ‘secrets’ presented below are from experience and the ‘school of hard knocks’, but were also originally gleaned from reading the masters. Two masters stand out, both long gone (their heyday was during the twenties), but still living through their writings. You can still find the works of Jesse Livermore and W.D. Gann in libraries, and if you search hard enough through specialty houses. Actually, I learned more from their failures than their triumphs. The same mistakes made 50 and 100 years ago continue to be made every day. Technology may change, but human nature never does. So, I thank these two men since I know many of the ‘secrets’ which are discussed in this chapter while in my own words originated from them. There have been others who have had a profound effect on my trading education throughout the years, and I have tried to thank some of them in the acknowledgments.
Ultimately, the markets are the best teachers. There is a world of wisdom presented below. You personally may not use all these secrets, but if you can absorb just a portion, there is no doubt in my mind you will become a success. If you disregard what’s presented below, you become lost in the financial desert and die of thirst. (Perhaps that’s a bit strong, but trust me this is good stuff!)
* The trend is your friend: So, don’t buck it. The way to make the big money is to determine the major trend and then follow it. If the market will not go your way, you must go it’s way.
When you're in a bear market, and major trend is down, the plan should be to wait for rallies and sell short; not try to pick bottom. In a major bear market, you can miss the bottom several times on the way down and end up losing all your money.
The same applies (in reverse) in a major bull market. Always go with the tide, never buck it. Let me repeat, because this is important: the big money is made by going with the trend, not against it. Livermore told us, in a major bear market it is safer to sell when the market is down 50 points from the top, than when it is down just 10. The reason is, at down 50, all support is gone, and those who bought the breaks have lost all hope, are demoralized, and in a leveraged market are at the point where they all must try to exit the same small door at the same time.
The result at times can be an avalanche. I can give you many examples of markets that have trended long and far, made some people rich and wiped others out. You hear about the poor soul who lost his farm. I can almost guarantee that guy was bull headed and fought the trend until he ran out of money.
In the twenties, New Haven, the premier blue chip railroad stock of the day, sold as high as 279. Remember, in those days you could trade stocks on 5% margin, like we trade futures today. When New Haven sold 50 points from top, it must have looked cheap at the time. How many would have the guts to sell it short when it crossed below 179, 100 points from the top? Better yet, who would have had the guts, or the vision, to sell it short at 79, or 200 points from the top?
It must have looked extremely cheap. Remember, this was the General Electric of its day. Yet, the trend was down, and after the crash, it traded as low as 12. So, how do you do this, stick with the trend and not fight it? Well, it isn’t easy. That’s why most people don’t make money in futures. You need to have a strong will power. Once you can see the trend of the market, don’t change your mind until the ‘tape’ shows the change.
In any major move, there will, of course, be corrective moves against the trend at times. Some news will develop which will cause a sharp correction, but it will be followed by a move right back in the direction of the major trend. If you listen to this news you will be tempted to liquidate prematurely. Avoid the temptation and listen to no one but the market.
One way to do this, is never set a fixed price in your mind as a profit objective. The majority of people do this, and there’s no good reason for it—it’s a bad habit based on hope. Do not set a fixed time to liquidate either. This is the way the amateurs do it. They buy silver at $5, because their broker told them it’s going to six. Well, it gets to $5.97, turns and heads south again, and they’re still holding looking for six, watching and waiting as their unrealized profits melt.
I’ve seen it, and this is just plain bullheadedness. I’ve seen the opposite as well. The market closes at $5.95, it looks strong and is fundamentally and technically sound. The amateur has his order sitting to sell at $6, because this is his price. The market gaps up on the open the next day at $6.05 and his broker is pleased to report he sold five cents better at this price.
However, this is a form of top picking, and who is smarter than the market? The market probably gaped up above $6 because the buying interest was able to overwhelm the sellers. I’ve seen cases like this one, where the open was sharply higher, but was the low of the day. The market never looked back until it hit eight dollars.
This is all a version of bucking the trend, which is something I do not recommend. Conditions do change, and you must learn to change you mind when they do. A wise man changes his mind, a fool never. Just be sure if you change your position it is based on sound reasoning.
When you place a trade, your objective is obviously to profit. There is no way you can possibly know in advance how much profit to expect. The market determines that. Your mission is to determine the trend, hop on for the ride, and stay on until your indicators suggest the trend has changed, and not before.
* When a market is ‘cheap’ or ‘expensive’ there probably is a reason. This one goes hand-in-hand with ‘don’t buck the trend’. Livermore would tell us, he always made money selling short low-priced markets which are the public’s favorite and in which a large long interest had developed. Alternatively, he cashed in on expensive markets when everyone was bailing out because the public thought market was high enough for a healthy reaction. The public was selling beans short at $6/bushel in 1974, because this was an all time high and into resistance. Who could have guessed they weren’t even half way to what would be record highs over thirteen? Always remember, it's not the price that’s important, it’s market action.
The best trades are the hardest to do. You need to have guts. You will need to be aggressive on entry. You will need to quickly cut losses when the market is not acting right. The news will always sound the most bullish at the top, and appear to be the most hopeless at the bottom. This is why the technical tone of the market is so important. If the news is good, but the market has stopped going up, ask yourself why, and then heed the call. Bottoms can be the most confusing.
The accumulation phase, where the smart money is accumulating a position, can be marked by reactions, cross-currents, shake-outs and false reversals. After bottom is in place, many traders will be looking for the next break to be a buyer. After all, the market has been so weak so long, the odds favor at least one more break, right? But it never comes. The smart money won’t let it.
The objective after the bottom is in place is to move the market up to the next level, and the best time to buy may actually feel quite uncomfortable. However, the train has already left the station and you need to have the courage to hop on.
Have a plan before you trade, and then work it! If you have a plan and follow it, you avoid the emotionalism which is the major enemy of the trader. You must try to stay calm during the heat of the session, and remain focused. To do this, you have to be totally organized prior to the opening bell.
Your daily mission, should you decide to accept it, is to make money each day, or barring this, at least not lose much. In normal markets, you should take normal profits. In those unusual markets which occur rarely, you need to go for abnormal profits. This is one of the key’s to success. You must always limit losses on trades which are not going according to plan.
This takes will power and is as essential a quality as having plenty of money. In fact, it is more important than having plenty of money. Money is not to hold on with, this is for the sheep and you don’t want to be sheared. If big risks are required, don’t take that trade. Wait for an opportunity where you place a tighter stop.
The way Livermore used to trade was to look for opportunities where he could enter very close to his risk point. In this way his risk per trade was small in relation to the profit potential.
If you do not have the will power to take the loss when your risk point is hit during the trading session, then you must use stop loss orders. Place the stop at the same time you place the trade. You probably heard stories about the floor traders ‘running the stops’, but I assure you, in the good trades, the majority of the time you will not be stopped out. This happens with the bad ones.
Personally, I have a trading plan laid out the night before. I generally know what I will do if the market acts the way I anticipate it should, and just as important what I’ll do if it doesn’t. It is a guide, not written in stone, and somewhat flexible. However, if a market is not acting ‘right’ according to my plan, I know it is time to take action, either to take the profit if available, or cut the loss if not. Generally, I’ve found when I try to ‘fudge’ the plan I get my head handed to me. Not always, (and this why it’s hard to follow plans many times) but enough to know the plan is smarter than I am in the heat of the battle.
When it’s not going right, when in doubt get out. If you have a compass in the middle of the desert, and the oasis is north, don’t get fooled into following the mirage to the west. There is nothing better than getting out quickly when you’re wrong!
…Be aggressive when taking profits and/or cutting losses if there is a good reason to do so. A good trader will act without hesitation. When something is not right, he will liquidate early to save cash and worry. Never think too much. Just do it! And, don’t limit your price—go at the market! Many times a market will give you one optimal opportunity to act and that’s it—go with it. As Gann would say, the way to benefit through tuition is to act immediately!
† No regrets. When you liquidate a trade based on sound reasoning, never regret your decision. Go on, and if it was a mistake to get out, just learn from it. We all make them. Don’t ‘beat yourself up! You will lose your perspective and become too cautious in the future. How do you do this unemotionally? Try not to think about the price you entered. This is irrelevant. If the market isn’t acting right, don’t try to ‘get out at break even after commissions’. This can get very expensive.
‡ Money management is the key. Think about this daily. You do not necessarily need a high win to loss ratio, but your average win must be higher than your average loss if you want to succeed. To do this, there must be (at least some) ‘big hits’. Some trades you will need to maximize. You need these big wins to offset the inevitable numerous (and hopefully small) losses which are going to happen.
I’ve found by being able to just cut losses early, by even a small incremental amount per trade, say $100, this can make a major difference to the bottom line. This takes decisiveness, so be decisive if trade is not acting right. Waiting a ‘few more ticks’ is generally not a recipe for success.
One more point; it is bad practice to cancel or extend a stop loss order. You should never do this. My experience has been that 99 times out of 100 canceling a stop is the wrong thing to do. It’s OK to cancel a profit taking order at times, but the sooner a loss is stopped the better.
When you get out of a bad position quickly, and with a minimum of trauma, not only is your capital base maintained, but your judgment will improve. Without a well-defined risk point, there’s no judgment, what it’s called is hope.
reprint permission from webtrading.com