Risk Factor In Stock Trading

One thing you must understand is that there are methods and strategies to solving problems and finding successful solutions. History is filled with incidents where leaders and common citizens alike have been faced with decision-making that involved some type of risks. Not all risks are negative, actually you make certain decisions in hopes of risking a positive outcome, knowing there may be a sacrifice in the long run. When King Edward VIII decided to marry an American commoner who also happened to be a divorcee, he risked giving up his claim to the thrown of Great Britain. In 1936, he abdicated the thrown for love and what he hoped would be a happily-ever-after marriage. He was taking a risk. What if a bus had hit her on the day after their marriage? No one can predict fate, not even the specialists at NYSE, or the market makers at NASDAQ, and certainly not you.

The bottom line is this � most people would rather risk their hearts, their credit, homes, lives, anything than money. Hard to believe? Think about it.

Each time you use your home as collateral for a loan, you are risking the very home you live in. Every time you fill out an application for a new credit card, you are taking a risk that nothing will happen to keep you from paying back that loan. Ever been laid off from work? If you�ve ever driven to work through snowy weather and icy roads, then you risked your life on that short trip. Ever been in a car accident? It�s no secret that hazardous weather increases the chances of an accident, and yet, more accidents occur on perfect weather days. Why? Because nothing is guaranteed. Based on all these risk taking scenarios in our lives, why is it that we seemed to cringe more at the thought of entering the stock market for the first time, or taking more of an active role with higher risks, even as a day trader?

One possible reason is money. Stock trading is perceived as gambling since the wagering risk is real capital. Another common aspect is the concealment of emotion. If you�ve ever watched an old U.S. western movie, then you�ve probably seen the cowboys playing a poker game as the camera swerves to carefully scrutinize each player�s face. The best players always keep a straight face, never revealing a good hand, a bad hand, or a decent draw. If you intend to play in the stock market, you�ve got to do the same.

The catalyst of stock trading is the extraordinary possibility of obtaining lots of money very quickly without having to labor your life away. It represents many American dreams and inspires our passions for taking unusual risks. Unlike gambling which only requires dumb luck, stock trading involves technical knowledge of the investment markets, emotional control, strategic maneuvers, ability to make historical predictions, and above all experience. When dealing with risk, the key isn�t having the guts to take a huge leap, but rather assessing the risk and managing it through a planned strategy. Never enter into a trade that will provide a poor risk-to-reward ratio. Weigh your costs as opposed to what you expect to earn in the process.

In other words, risking two points to gain half a point isn�t worth it. Pay attention to what�s happening in the market. When the market appears to be extremely strong, it may seem to be a good idea to jump on for the long ride or else miss out, but what you might actually experience is a sharp plummet. Historically this has been the case for many different investments. If everyone is taking a long position, then they are very confident and expect the market to soar even higher. To make this happen, more buyers need to enter the market. The reality is, if everyone is on the long side, then that doesn�t leave many people left to buy.

Confidence and Money Management

Most people are used to having a paycheck, or having production schedules, or income projections based on population growth. When you start trading, though, whatever you used as a benchmark is gone. Sayonara. In the end though, those were just guesses too.

Following a process while trading will give you confidence- a crutch, if you will – in your long term success just like your old estimates of savings growth did. Over time, your long-term anxiety will go down and your confidence in the process will be built up. All you have to do is follow the steps.

Eventually, you'll learn to trust yourself. This comes from the hard work of doing retracements on old data, or live trading in a demo account. You don't get that confidence from trading on paper, and you especially dont get it from doing it just in your head. Trust in yourself in this fashion will allow you to act in your own favor. Your trades will become both quicker, and more profitable.

Managing your money, and managing your risk are your number 1 priorities- not your patterns, luck, or ego. There's an old saying among commodity traders: Take care of the losses, and the profits will take care of themselves. This is a process of making money, not of being right or wrong. It's not a mistake to be wrong... It's a mistake to stay wrong, and lose money.

Never expose yourself to unlimited risk by not placing a stop. A stop protects you from yourself. When you get scared, you'll start to get tunnel vision- you may start to fool yourself and do really stupid stuff. A good example of this is when your ability to make decisions is compromised(Like when the market scares the piss out of you by reversing on a new position).

Over time, if you develop your discipline, you will be able to keep your focus on your investment plan. And your focus will be kept away from the conflict and conditions of the market.

A Page for Your Trader’s Handbook

Here are five things that you NEED to know about trading:

1. If you don’t know what you’re risking…you’re all in!

2. Three easy steps to develop consistent, confident trading

3. Trust yourself. This comes from doing the “hand work” of drawing retracements “back in time”, demo trading in a live demo account (not just on paper, and especially not just in your head). Trusting yourself in this fashion will allow you to act in your favor…quickly and profitably.

4. Follow the steps! This will build your confidence in the process and your long-term anxiety will go down. Remember, you’re used to getting a paycheck, or having production schedules, or income projections based on population growth…whatever you used to use as an income benchmark is gone, bye-bye, sayonara baby! But in the end, weren’t those just guesses? Following the process will give you confidence – a crutch if you will – in your long-term success just like your old “crutches” did.

5. If you have a trigger…follow it! That’s why you’re using a demo account, at first. Remember:
a. Look for the pattern
b. Look for the ratio
c. Look for the risk

Here’s a list, in no particular order, for your ‘trader’s handbook’:

1. Probabilities are King! The market is going to do, well, whatever the hell it wants to do. Don’t get caught trying to “out-think” or “out-maneuver” the market. No method is going to tell you what will happen next, so take each trade as it comes – and know that your profits are in the ‘long pull’.

2. If you’re scared, you get tunnel vision. You start acting like a caged animal, men will reach physically, women (typically) with heightened emotion.. you’ll start to fool yourself and doing really stupid stuff. Don’t trade scared.

3. It is not a mistake being wrong…only staying wrong.

4. Managing your money (risk) is your #1 priority…not your patterns, not your “luck”, not your ego. Never, ever let yourself be exposed to unlimited risk by not placing a stop. Remember: a stop protects you from yourself…your inability to make good decisions – like when the market scares the piss out of you by instantly reversing against your new position.

5. If you haven’t calculated the risk - don’t get in the trade.

6. If you find yourself saying “If the market can only come back to X, I’ll get out” – just get the hell out…if you’re wrong. Don’t be stupid and stay wrong.

7. There is an old saying among commodity traders: “Take care of the losses, and the profits will take care of themselves”. This is a process of making money, not of being right or wrong.

8. Write your rules in pen, and your observations with a pencil (but know when to break the rules!).

9. Develop your discipline…that way you can keep your focus on the plan, not the conflict of the market.

Getting Out Of The Way – Stop Management for Traders

Stop management is a big issue for some traders. Here are some suggestions for managing stops that have been proven to work. Some i've used, some not.

The first is a time based stop. For example, if the position hasnt show a profit in 3 days, exit. Intra-day trades might be 2-3 hours.

A percent retracement stop, as the name implies, is a stop triggered by a set percentage (5%, 2%, .5%, etc.) from the entry and/or the new highs/lows. In an uptrending market, the trailing stop is recalculated, to make a new high. In a downtrending market, the price is recalculated as price makes new lows.

A volatility stop is designed to compensate for noise in the market- like bollenger bands. There are two main variables to think about: how many bars to consider for your stop, and what multiple you are going to use. The number of bars, or range, is needed to determine the average distance the market moves(high to low). The range then becomes normal. The multiplier is then used to trigger a price that is not normal. The short entry stop is the lowest close added to your range times your multiplier, and the long entry stop is the highest close minus your range times your multipler.

A pivot stop is a favorite of mine, and is based on finding support and resistance levels called “Logical Points”. Using these points can, however, lead to taking too much risk. Or missing trades, because the risk is too high.

Don't find yourself waiting for a good time to get out- get out if you're wrong. Don't be stupid and stay wrong. Once in a position, you may also want to monitor momentum. If there's a drop in momentum, it may signal a possible exit.

You should always have written exits, and always use stops. Which you use will be up to your trading strategy, but they have to be in place.