Classic Strategies - Part 2(1).pdf - Forex Iiteratura - PanKaktus

STAYING ONE STEP AHEAD

What **akes a Great Trader or Investor?

a good low-risk idea. Instead they are highly leveraged because

they want to recoup their lost money äs quickly äs possible.

Seykota's trading rules are:

is part of the characteristics of several market wizards that we

have considered.

In his interview with Jack Schwager, Jones sums up his trad-

ing rules äs follows:

1. Cut losses.

2. Ride winners.

Don't ever average losses. Decrease your trading volume when

you are doing poorly; increase your volume when you are trading

well. Never trade in situations where you don't have Control, e.g.,

in front of a major economic report.

If you have a losing position that is making you uncomfortable,

get out, because you can always get back in. There is nothing bet-

ter than a fresh start.

Don't be too concerned about where you got into a position. The

only relevant question is whether you are bullish or bearish on

the position that day .... Who cares where I was long from?

That has no relevance to whether the market environment is

bullish or bearish right now, or to the risk/reward balance of a

long position at the moment.

The most important rule of trading is to play great defense, not

great offense. Every day I assume the position I have is wrong. [If

my positions] are going against me, then I have a game plan for

getting out.

Don't be a hero. Don't have an ego. Always question yourself and

your ability. Don't ever feel you are very good. The second you

do, you are dead.

3. Keep bets small.

4. Follow the rules without question.

5. Know when to break the rules.

The last two points appear to contradict each other, but

Seykota, like other great traders, has a passion for self-improve-

ment. He believes that a trader should be totally at home with his

approach and with the rules that govern that approach. However,

part of the self-appraisal process involves evolution, and this in

turn means breaking the rules and substituting new ones. This

subject is covered at the end of Chapter 12.

Seykota summed up his success this way: "I feel my success

comes from my love of the markets. I am not a casual trader. It is

my life. I have a passion for trading. It is not merely a hobby or

even a career choice for me. There is no question that this is what

I am supposed to do with my life."

Paul Tudor Jones

Thus we have in five paragraphs not only the essence of

Jones's thinking but a concise account of the characteristics of

other great traders. The idea of only playing defense, for exam-

ple, is another way of saying the number one objective is to pro-

tect your capital. So too is the Statement, "I always assume every

position I have is wrong." When later asked to provide advice to

a novice trader, Jones replied in the same vein. "Don't focus on

making money," he said, "focus on protecting what you have."

He considers himself to be a market Opportunist developing an

idea on the market and pursuing it from a low-risk standpoint

until he has been repeatedly proven wrong or until he changes

his viewpoint.

Paul Tudor Jones represents another incredible success story. Af-

ter a successful career in the New York cotton pits, he retired to

form a money-management firm in 1984. At the end of 1988, each

original $1,000 Investment had risen to $17,000. Funds under his

management grew so large that he has made a habit of returning

profits to clients. This reduces his management fees but enables

him to do a better Job of managing money. It is to his credit when

so many in the business try to grab money for management at

virtually any cost. This impartiality and detachment from money

STAYING ONE STEP AHEAD

Whr Mates a Great Trader or Investor?

Pride of opinion, äs described in Chapter 4, can cause devas-

tating financial losses. When questioned by Schwager about what

made him different, Jones said, "I don't really care about the mis-

take I made three seconds ago. What I care about is what I am

going to do from the very next moment on. I try to avoid any

emotional attachment to any market. I avoid letting my trading

opinions be influenced by comments I may have made on the

record about a market."

This last Statement is somewhat remarkable for there are

few people who do not worry about what they are on record äs

saying. It shows the investor's ability to change his mind and not

be married to a particular Situation merely because he once held

that belief. After all, flexibility is a virtue that keeps appearing

in the psyche of great traders. Whereas loyalty to people is a

great virtue, disloyalty to a market that does not act well is also

to be recommended. To quote Jones once again: "[Cutting emo-

tional attachment to a market] is important because it gives you a

wide-open intellectual horizon to figure out what is really hap-

pening. It allows you to come in with a completely clean slate in

choosing the correct forecast for that particular market."

or requirements contribute to making a great trader. The more

times we can see them surface in different successful individuals

the more we will appreciate their relevance. The following are

Bob Prechter's trading requirements:

1. A Method. By a "method," he is referring to an objectively

defined mechanism that helps you to make a trading decision.

Buffet's and Templeton's methods focus on the simple concept of

buying undervalued companies that possess good potential for

growth. Seykota has a short-term mechanical/technical System.

All the money masters and marked wizards have some kind of

method or philosophy on which to base their decisions. None is

perfect, but when properly applied they earn their practitioners

substantial profits.

2. The Discipline to Follow the Method. We have talked about

discipline earlier in great depth so there is no need to elucidate

further, except to say, äs Prechter puts it, "Without discipline

you really have no method in the first place."

3. The Mental Fortitude to Accept That Losses Are Part of the

Garne. Most people blame outside forces for their losses: Insiders,

unexpected news events, stock manipulators, and the like are of-

ten singled out for abuse. Rarely are losses accepted äs part of

the game. We do not expect a baseball player to hit every ball so

why should we expect to win on every trade? Prechter's point is

that we should not only accept losses but also should anticipate

them through sound money management.

4. The Mental Fortitude to Accept Huge Gains. This is his way

of saying, "Let your profits run." The concept theorizes that you

make a series of small trades with mixed results. Then a big one

comes along where you make twice the usual profit. Your best

friend and your broker teil you not to be greedy, but your System

or method says to stay in. You get out but find that when the

System goes negative you have lost the potential of the trade of a

lifetime.

Bob Prechter

Bob Prechter does not conveniently fit into the great trader cate-

gory, because his primary career has been in the business of

writing a market letter. Nonetheless, he won the U.S. Trading

Championship in 1984, setting an all-time profit record with a

four-month gain of 440% in a monitored, real-money options ac-

count. This does not compare with the consistent long-term gains

of a Büffet, Seykota, or Jones, but many successful traders sub-

scribe to his market letter and follow his Elliott Wave Methodol-

ogy. More to the point, he is lucid and has provided his

subscribers a list of trading requirements (äs opposed to a list of

trading rules).

I have already outlined several of the roles recommended by

Prechter but this merely underlines that certain characteristics

No doubt there has been some repetition in this chapter, but

that's all to the good. The more emphasis placed on the charac-

STAYING ONE STEP AHEAD

teristics that contribute to the makeup of a great trader or In-

vestor, the more believable they will become. And the more

believable these attributes become, the more likely you will be to

put these rules into practice and to adopt the characteristics. The

most difficult hurdle is understanding that these money masters

are in the game less for the money than they are for the chal-

lenge of the game and their passion for that challenge. This fac-

tor probably distinguishes most of us from these exceptional

players, because we usually play the market for the money first

and the challenge and love of the game second.

Nineteen Trading

Rules for

Greater Profits

J. revious chapters have described

how markets have a habit of finding out our weaknesses and ex-

ploiting them to the füllest. Successful traders are those who not

only know the workings of the markets but who also have the will

to put a plan into action and follow it religiously. Since trading in

the market is basically a process of dealing with probabilities and

beating the odds, anyone who participates in the market must

make a conscious effort to set up some kind of structure that will

help him master his emotions. If you recognize that you have a

problem before taking on a trading position or making a long-

term Investment you will be in a better position to spot potential

pitfalls. In this chapter, we will outline some rules that will help

you do this. But remember that reading and understanding the rules

is not enough. You must also put them into practice.

The rules described here are not the only ones, but they are

generally considered to be the most important. It is assumed

that at this stage you already have some rudimentary knowl-

edge of how markets work and also a method for making trad-

ing decisions. It could be a technical, fundamental, or behav-

iorist approach. The vehicle is not important äs long äs it has

been tested and äs long äs you feel comfortable with it. All the

worH'c 'vrr.-.* ..„l!,~:„.~~ i-,- •

....

STAYING ONE STEP AHEAD

Nineteon Trading Rules for Greater Profits

place (i.e., discovery of the truth), but their paths are different. So

it is with methods and markets. All approaches have greater

profitability äs their objective, but each individual has to choose

his own path. It is no good using a method practiced by a promi-

nent trader or market newsletter writer if you do not feel com-

pletely comfortable with it, because when things become diffi-

cult, äs they will surely do, you are far less likely to stay with it.

Also, if you are lucky enough to choose a trading style or ap-

proach with which you feel totally at home, the chances are good

that you will find the incentive to work a lot harder at it.

Selecting a methodology is usually not hard; executing it is.

Mastering emotion is precisely what the rules are designed to

do. Once you have a position in the market, it's easy to play men-

tal games to avoid the pain of losing. Let's say you buy one gold

contract at $350, expecting it to rally to $370. Instead, the price of

gold falls to $345. This decline is justified by the media (which

always has to have an excuse for price movements) äs being due

to Russian selling. An immediate emotional response by most

people is to rationalize that the selling is probably over. After all,

why would the Russians announce they were major sellers if

they had not already sold? Consequently, hope for a rally would

now replace the original analysis äs a basis for being long in an-

ticipation of a rise in the price. The rationalization and the hope

are really protecting the trader from the dual pain of having to

admit he was wrong and has to take a loss. This process also

involves some denial of the reality of the Situation. After all, the

market did not move in the expected direction, and this implies

that the original decision to go long was incorrect.

Another example of denying reality may occur where a

trader, to get in with less risk, stalks a possible trade for several

days, waiting for a small correction. Let's say that the item in

question is the deutsche mark. Each day, the price works its way

slowly and tantalizingly higher. Finally, a very bullish news

story appears in the wire Services saying that the German bal-

ance of payments has moved into surplus. This is the last straw

for our now impatient trader. He can no longer Control his enthu-

siasm and plunges into the market at substantially higher prices

than he was prepared to pay only two or three days previously.

It's a good bet that this represents an exhaustion move, since the

market had been rallying in the previous week in anticipation of

this good news. Naturally, the mark peaks out and leaves our

trader with a nasty loss and the need to make an objective deci-

sion of where to limit the damage. It is very difficult to obtain an

objective viewpoint in an emotionally charged climate. Better to

establish and follow some rules that are aimed at preventing such

a Situation from arising.

Rules won't eliminate losses, but they will help reduce the

level of emotion äs they increase objectivity and consistency. If

you can be more objective, there will be far less room for hope,

greed, and fear to crowd out your better judgment. In Chapter 14,

we list trading rules proposed by many different but knowledge-

able sources. No one can truly learn the benefit of any set of rules

or principles except through actual experience in the marketplace,

so the listing and explanation of some of the guidelines in this

chapter are really starting points to which you will hopefully re-

turn. Studies show that advertising is far more powerful when it

is repeated on a sustained basis than when it appears in one or

two isolated ads. The message being portrayed then Stands a bet-

ter chance of being embedded in the mind of the consumer. The

inclusion of the trading rules in Chapter 14 is a way to mount a

sustained advertising campaign on you. These same principles

have been expounded by history's great traders and investors, all

of whom have struggled with the diff icult task of mastering their

emotions. Because each person has his own style and approach,

the lists are slightly different. But they all have the same objec-

tive, namely, maintaining objectivity, and clear independent

thinking and achieving sound money management practices. That

these same principles come from so many different sources, sepa-

rated by time and professional pursuits, cannot be discounted äs

a mere coincidence. They are on the list because they work. They

worked for legends such äs Jesse Livermore and Bernard Baruch

äs well äs successful traders practicing today. They can and will

work for you, but only if you give them a chance. You are encour-

aged to refer to Chapter 14, but the remainder of this chapter will •

STAYING ONE STEP AHEAD

Nineteen Trading Rules for Greater Profits

summarize the rules I think are most important. Before we begin,

please remember that no rule will work unless it is put into practice. If

the road to hell is paved with good intentions, almost certainly

the road to f inancial ruin is, äs well.

The following 19 rules can be roughly categorized into those

that help you to master your emotions and those that aid in risk

Control. In other words, personal psychological management and

money management.

This means that you will most likely head for the exits at the

first sign of trouble.

It is important to remember that the principal reason that you

are in the market is to make a prof it. If the odds of that happening

have decreased, then you have little justification for maintaining

the position. After all, this is not your last chance to trade; there

will always be another opportunity down the road.

Rule 2. Never Trade or Invest Based on Hope

^ Psychological Management

This topic was covered in Chapter 2. It bears repeating äs a trad-

ing rule since so many of us hold on to losing positions well after

the original rationale for their initiation has vanished. The only

reason for not selling is hope, and markets usually reward the

hopeful with losses. When you find yourself in this Situation,

seil promptly.

Rule 1. When in Doubt, Stay Out

When trading the markets, it is important to have a certain level

of confidence in what you are doing. Too much confidence will

lead to carelessness and overtrading and is unwelcome. On the

other hand, if you enter a position with little or no enthusiasm,

you are setting yourself up for some knee-jerk reactions when

bad news breaks. If there is the slightest doubt in your mind

about entering a trade, then you should not initiate it, because

you will not have the emotional fortitude to stay with it when

things begin to go wrong. For instance, if you are in doubt, you

will tend to concentrate on any negative breaking developments.

As prices decline, you will get more and more discouraged. Con-

sequently, when the price falls to a support, or buying, zone, you

will be in more of a frame of mind to seil than to buy.

Alternatively, you may get into a position based on some

solid research and in a confident, but not overly enthusiastic

mode. Later, some new evidence comes to the fore that causes

you to be less optimistic than before. In short, some doubt about

the validity of the original rationale for getting in begins to

creep in to your mind. It does not matter whether the position is

above or below where you got in. The important thing is that you

now begin to doubt your original rationale. Under such circum-

stances there is only one logical course of action — get out. You no

Rule 3. Act on Your Own Judgment or Eise Absolutely and

Entirely on the Judgment of Another

It was established earlier that if you do not enter a trade or in-

vestment with total confidence, you are likely to be spooked out

at the first sign of trouble. If you find yourself relying on your

broker or friends for tips and advice, the chances are that you

will not have carefully considered all of the ramifications. This

means that you will not have the emotional fortification to be

tptally committed to the trade if things appear to go wrong. It is

much better to consider all the arguments, both bullish and bear-

ish, prior to making a commitment. In this way, you will be in a

good position to judge whether the latest price setback is a result

of a fundamental change in the overall Situation or if it is merely

part of the normal ebb and flow that any market goes through.

Brokers, friends, and others that you respect can be helpful

in providing you with ideas but you are the one who should make

the final decision. This means balancing out the pros and cons,

to thi<; oninion anH that hoforp rornin<r to a

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