Most people who are in the markets these days consider themselves investors or long term traders. The irony is that most will get out of a position if it pays well in a short period of time. They watch their position from day to day until they think it is the right time to get out. The question is not if one is a short term trader or long term trader, but where to get in and where to get out with a profit. Regardless of which type of market, anyone who invests in the market is trying to figure out where to enter and where to take profit. This process is one of the hardest to figure out unless you have a strategy. A strategy will help reduce risk and increase accuracy in the market. And it does not matter if you consider yourself a long term investor or a day trader, a solid set of rules is imperative to success.
So where do we start with establishing a set of rules for ourselves? The best way is to keep it simple. Most people who enter into the market don’t want to lose money. So let’s make that the first rule; Rule 1 – Don’t Lose Money. However, that is easier said than done. But we can find ways to help in that area and good money management is a place to start.
One thing that comes to mind with money management is protective stops. Protective stops are placed to protect one from losing too much money. Everyone knows that you can’t win all the time when playing in the market, and protective stops are a good way to reduce the loss of a bad trade. Many people do not use stops because if the market goes against them and they get stopped out, then they will lose money. This is a misconception because we have all seen many things go to zero over the past several years and if good stop placement was used, most would have had a small loss and not have to worry so much about opening their account statement and seeing it cut in half.
Placing protective stops can be tricky. One technique that can be use is placing them beyond the Average True Range (ATR) of the market. The ATR is the average range from high to low each day over a certain period of time. The E-Mini S&P future contract currently has an ATR of around 15 points over the past month. So on average the E-Mini S&P will travel 15 points from high to low within a day. Placing your protective stop beyond this range will help stay out of the “noise” of the market. Of course the time period can be extended for longer term such as monthly or even yearly, depending on how long you want to stay in the trade.
Staying along the same line in our rule making of keeping it simple, everyone who enters into the market wants make money. Why else would people take the effort to enter into the market place? That little feeling way down inside is always asking how we can make more money and the market place is one that seems to have the highest probability of helping in that area. Now that we have looked at how to reducing losses, let’s look at making money; Rule 2 – Make Money.
Again this is much easier said than done. But looking at how the market moves, one can make money going long in an up market, or going short in a down market. Taking this concept a little further, we must determine if the market is trending higher or lower. Finding the right side of the market can be difficult at times, and one technique that can be used is looking at the opens of the market. The opens determine who is winning the game; bulls or bears. A long as the market is above the open, bulls are winning, and below the open the bears are winning.
Depending on the time span you are looking to trade, depends on the opens you will use. If trading long term, use the yearly opens, intermediate term; use the monthly opens, short term use weekly or daily opens. These give a sentiment of the market. Looking at the E-Mini S&P, it opened the year at 1255.25, the month of July at 1281.75, the last week of July at 1244.50, and July 29th at 1271.75. If the market is currently trading at 1274.00, it would be up on the year, down on the month, up on the week, and up on the day. Depending on what time you are trading in, you could be up or down. But you cannot just look at the S&P futures; you must also look at the Dow, Nasdaq and Russell futures as well. This will give you a better sentiment of the overall markets.
Once you fine the direction, don’t fight the trend. Many are scared to be short in a down market because it may bounce. The same is true, however, in an up market; it could correct. A trader must be able to trade in either direction to make money on a consistent basis knowing there will be losses along the way. This does not mean to go short below the opens and reverse the position when it gets back above the opens, but one may need to rethink their position if this does happen. This technique is intended to keep you in tune with the market flow and not get caught on the wrong side.
Now that we have Rules 1 and 2 in place, we must determine how to make them work, in other words, what are we going to trade to make money and reduce the losses if wrong. This is an area that many fail in because they get tunnel vision. You talk to one person and they say they are an S&P trader, and another is a Bond trader, and yet another is an options trader. So I ask why we are in the market. To make money, right? So what does it matter what we trade as long as it pays us. People must be able to trade what moves. If there is not much volatility in the market, options will not do too well. If there is no economic news, the index futures will not work well and probably the bond market as well. So we must be able to trade in all markets at any time to maximize our potential. Though the S&P future is the bellwether for the overall markets, this knowledge can be use in trading in equities and options as well. Find what you are a comfortable trading, but be willing to trade other vehicles as well. This gives us Rule 3 – Learn to Trade Futures, Stocks, and Options.
These are three simple rules that we can use in trading not only intraday, but on a long term basis as well. Every trader must have a set of rules to go by but many make the task very difficult. Having the proper tools to accomplish these rules is important as well. Make sure that you have a good computer, good internet connection, and a reliable trading platform before entering into the market place. Discipline is hard to overcome when trading, and trying to trade without some sort of guidelines is like being on a raft in the ocean without a sail. Stick to your rules, modify them if need be, but remember to reduce the losses, maximize the gains, and don’t be picky about what you trade. Happy trading!
For more information on trading or formulating a trading plan, please contact DTI Partners, Inc. at:
DTI Partners, Inc.
1555 University Blvd. S.
Mobile, AL 36609
Tom Busby is the founder, President and Chief Instructor of the Day Trading Institute in Mobile, Alabama. Tom has traded the S&P 500 every day (but six) since its inception in 1982, and is well known throughout the trading community. In 1996, he founded the Day Trading Institute to teach others his unique method of using the S&P 500 as the market leader for trading futures, options, equities and other securities. The Day Trading Institute teaches its students how to approach the market using technical analysis combined with risk management techniques. More information about Tom Busby and the educational and informational services of the Day Trading Institute may be obtained by calling toll-free 800.745.7444 or by email to firstname.lastname@example.org. Visit their web site at http://www.dtitrader.com.