Monday, May 13, 2013

The charts tell you what you allow them to tell you

I was having a long conversation the other night with an aspiring trend follower, about how I go about selecting the stocks I want to trade, and how it maybe differs from more 'traditional' trend followers.

If you trade a small basket of futures markets (like the Turtles) then, providing you are not 'fully loaded' in your existing positions, you were instructed to take all signals given, as not taking a signal could mean missing out on the most profitable trade of the year.

When trading equities, you can afford to look at things a bit differently. As I have a universe of more than 10,000 worldwide stocks to look at, I can afford to be choosy in what to trade, and more importantly, what not to trade. I look solely for set ups with the best characteristics that suit my style of trading, and put the odds in my favour as best they can. This can mean referring to the current volatility, prior levels of support and resistance, the proximity of upcoming earnings releases, as well as liquidity or spread considerations.

Therefore, the scans that I use to screen for potential opportunities are only the starting point. From there, I look for those 'visual characteristics' that have worked for me in the past. There are certain criteria from reviewing the chart that must be apparent for me to take the trade on. If they are not there, I move on and look for another candidate.

This may sound like a lot of work, but as I was explaining to my fellow trader, it only takes me a matter of seconds to weigh up a chart. This is as a result of looking at the same charts, the same set ups, every day, every week, every month,  over several years. In that time, having found what works for me, I have reached the stage of being "unconsciously competent" in weighing up whether a chart set up appeals to me or not.

Of course, this does not mean I am often wrong. Trend followers typically have more losing trades than winners, but trading is a game of odds. I am selecting those set ups which give me the best chance of success. There are a lot of trades I pass up, which would have been successful. But that's fine with me. I do not trade or put on positions for the sake of it - I trade to win, and therefore stick to my proven set ups that work. If there's nothing appealing on any given day, then I do nothing.

Being able to pass this knowledge on to to other traders seems to always bring about an "A-ha!" moment. As we talked about a couple of specific stocks, the other trader said to me "what you are saying seems so obvious".

The trick here is to let your eyes view the chart in a basic, objective manner. You let the chart talk to you - you do not try and view it trying to fit into some pre-conceived idea or (heaven forbid!) a prediction. Refer to this post for more.

Going through a list of charts with other traders as part of the 1-2-1 training or mentoring programme is always an eye-opener to them, in that, because of my experience, I have trained my eyes and brain to an extent that I can tell instantly what is a good set up to me, and meets my criteria, and what is not. They cannot believe the speed in which I can do it. Helping them achieve a similar state, by going through hundreds of examples, along with discussing them as they crop up going forward, is all part of helping them develop and grow as traders.

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