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TRADER'S NOTEBOOK


Crash Course For Novice Traders

08/19/09 11:31:46 AM PST
by Donald Pendergast

If you do the time, you'll get the prize.

So you've been learning all you can about trading for the past few months. You've read books authored by top trading and investing pros. You've managed to make it through several trading-related infomercials, you watch CNBC all day long (when the boss isn't looking over your shoulder, of course), and you've even subscribed to The Wall Street Journal. It generally appears to you that making money in the financial markets is a relatively painless, straightforward, "follow the system and you can't lose" kind of personal endeavor.

Yet despite all of the market information, sales pitches, and education that you've been inundated with, you can't seem to figure out how to get started in this business called trading and investing. So you do nothing, waiting for either the perfect trade to materialize or, more likely, for your confidence level to get high enough to seek out a reputable trainer, mentor, or advisor who's been there, done that, and managed to survive in order to trade again.

If this even partially describes your current relationship with the financial markets, let me assure you that waiting is the safest course of action you could have possibly taken -- until now.

The reason why waiting is so vital for fledgling traders (especially when they first experience the initial wave of euphoria that ensues once they get enamored with the idea of making big money in the markets) is because they haven't begun to determine what they wish to accomplish by trading. How much money can they use to trade? How much of that money can they afford to lose (and they'll probably lose a lot more than they think, especially during the first year or two or three)? How much time can they devote to it? What kind of methodology or system can they use, what education will they need, what broker and/or trading platform will they use, what charting software will they utilize, what kind of computer hardware and Internet connection will be required... the list goes on. Even if they rely on trading systems and/or newsletters and advisory services put out by others, they still need to have a good understanding of how the markets work on both a technical and fundamental basis. Novice traders also need to know how to enter their trades into their trading platform on a consistently error-free basis.

Essentially, there are many things to consider before simply plunking your cash down in a brokerage account, studying a few charts, and then firing off winning trade after winning trade. Take this crash course for new traders now, lest you end up trashing your trading account beyond all recognition.

BASIC CHECKLIST
Personal trading goals and risk assessment:

  • What do I want to accomplish with the funds I plan to deploy into my trading account? What rate of return do I realistically hope to achieve on a consistent basis?
  • Can I afford to lose most or even all of these funds without risking my financial security or current lifestyle? Do I have an emergency fund of cash in the bank, enough to supply my needs for at least a year, no matter what happens with my trading account or job?
  • Being aware of the high failure rate among new traders, am I realistically assessing my chances for consistent trading success, given my current trading education/skill level?
  • How will I monitor my trading performance? Do I even have a plan to track it?

Mode of trading:

  • Do I have a full-time job, one that requires me to limit my trading activities to a daily, weekly, or even monthly method?
  • Do I believe I can support my family and myself by daytrading the financial markets and without any other significant means of support, like a job? If so, how do I plan to bring in enough trading income on a regular basis?
  • How many hours a day/week/month can I reasonably expect to devote to my trading activities?
  • Will I rely on a mechanical trading system? If so, can I stay with a mechanical system, resisting the urge to override the signals?
  • If I plan to rely on the trading expertise of an advisory service or newsletter, does the advisor/newsletter provide a verifiable track record of trading success over a long period of time, preferably five years or more -- with real trades, not just hypothetical backtested trade results?
  • If I plan on using an advisory service, do I need to be in front of my computer all day so as not to miss a trade signal?
  • If such an advisor offers auto-trading at my broker, would this allow me to trade without having to take vital time away from my career, family, and other important obligations?

Methodology/system:

  • Will my system/method rely on technical analysis, fundamental analysis, or a combination of both?
  • Am I more comfortable holding investment positions for weeks or even months or years at a time, based on my understanding of global stock/commodity fundamental trends rather than attempting to time daily based, technically focused swing trades?
  • Do I prefer passive investment activities such as dollar-cost averaging of index mutual funds, counting on the ability of the financial markets to rise over long periods of time?
  • Regardless of the method/system used, do I have an objective way to measure its past performance, preferably over a period of a decade or more?
  • Do I realize that regardless of the percentage of drawdown that a system/method had in the past, that the likelihood is high for such a system/method to produce substantially larger drawdowns in the future? Do I have enough trading capital to trade such a system/method, given that likelihood?

Computer/communications and hardware:

  • What level of computing power will I need to implement my trading plan? Is my current computer up to the task? Does it have a sufficient amount of memory to get the job done? Do I have a reliable means of backing up my data?
  • Will I need the fastest possible Internet connection because of my daytrading methodology, or will an ordinary DSL, cable, or even dialup connection suffice?
  • If I travel frequently, do I have a notebook computer that will allow me to monitor my trading and charting software and allow me to place orders into my trading account? Will I be able to access reliable wireless Internet connections, no matter where I travel?
  • If I rely on real-time advisory signals, will I also need to monitor my email, SMS, or cell phone accounts for new trade signals?

ONLY YOU
Okay, those are four broad groups of essential questions to help get you started in the right direction. Only you can answer the questions, and no two traders will answer all of the questions in precisely the same way. That's because you, and only you, can take the time to think through all of the critical issues that will weigh on the manner in which your trading activities will uniquely affect you and your loved ones.

Right now, though, let's speed up your learning process to get you to focus on one style of trading, something that you'll be able to stay with and hopefully build upon as your level of skill and experience continues to grow.

FOCUS
For years, I flitted from one method of trading to another; from one wildly popular advisory service to another, and from one kind of charting software to another, all in search of the perfect way to generate winning trade after trade. Along the way I was buying all of the top trading books and learning a lot, but I was never able to put it all together in a simple way that I could keep executing the same kind of trading strategy, over and over again. Either I never stayed with anything long enough to let it prove itself out or I made it too complex, relying on dozens of conflicting indicators, chart patterns, news reports and -- even worse -- plenty of hot tips.

Ironically, I still had my share of great winning trades along the way, most of which were based on momentum setups in extremely hot markets (think silver in 1979, mutual funds in 1986-87, and Internet stocks from 1997 to 2000).

For me, epiphany came late. I realized that I was an outstanding fundamentally based trader, and when I focused on investing/trading things like silver, crude oil, and commodity-linked equities, the trading profits were more frequent than when I tried to trade from a technical-only framework. Later on, I developed a winning mechanical trading system for stocks that also used various technical and fundamental filters to mine for the stocks most likely to follow through. Regardless of what I traded, I found that having a solid understanding of the fundamentals always gave me a much better edge than if I tried to rely on technical indicators, chart patterns, or mechanical trade signals alone.

Of course, that's just my story; yours is likely to be different. The main idea is this: Learn from your trading experiences. Over time, you'll finally learn what your exact style is and how to best profit from it. You'll never win on every trade, but if you determine where your particular strengths are and maximize them (at the same time discerning what your weaknesses are and minimizing them), you're sure to be performing at your best as you interact with the stock and commodity markets.

Right now, however, take the time to consider each of the questions previously mentioned, and when you've done that, take a good, hard look at the two hypothetical equity curves I show here. The choice is yours to make: you can trade like an undisciplined, unstable, double-minded, insecure, anxious, and fearful trader and end up with a trading account equity curve that looks like the ski slopes of Taos, NM (equity curve B) such as the one in Figure 1. Or you can ask yourself the hard questions and begin the long, taxing process of becoming a disciplined trader with a proven trading plan and a winning trading methodology.



FIGURE 1: EQUITY CURVE OF AN UNDISCIPLINED TRADER

If you're willing to put in the time, stay focused on your strengths, diligently pursue your trading plan and consistently execute the trades from your proven trading method or system, chances are you'll have an account equity curve that, over time, hopefully begins to resemble that of equity curve A in Figure 2.



FIGURE 2: EQUITY CURVE OF A DISCIPLINED TRADER



Donald Pendergast

Donald Pendergast has studied technical price charts and market dynamics for more than 30 years and has had more than 1,000 articles on technical analysis, trading system development, and high-probability chart setups published at several trading/investing publications since 2008. Pendergast offers real-world trading signals for a basket of eight gold/silver mining stocks/ETFs and also offers high-quality, customized analysis for US stocks. He may be reached at 904 303-4814, at lineartradingsys@gmail.com, or via his website at https://sites.google.com/site/goldandsilverstockssignals/.

Website: sites.google.com/site/goldandsilverstockssignals/
E-mail address: lineartradingsys@gmail.com


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