Trading Techniques

General Trading Guidelines

Plan your trade and trade your plan: You must have a trading plan to succeed. A trading plan should consist of a position, why you enter, stop loss point, profit taking level, plus a sound money management strategy. A good plan will remove all the emotions from your trades.

The trend is your friend: Do not buck the trend. When the market is bullish, go long. On the reverse, if the market is bearish, you short. Never go against the trend.

Focus on capital preservation: This is the most important step that you must take when you deal with your trading capital. You main goal is to preserve the capital. Do not trade more than 10% of your deposit in a single trade. For example, if your total deposit is $10,000, every trade should limit to $1000. If you don't do this, you'll be out of the market very soon.

Know when to cut loss: If a trade goes against you, sell it and let go. Do not hold on to a bad trade hoping that the price will go up. Most likely, you end up losing more money. Before you enter a trade, decide your stop loss price, a price where you must sell when the trade turns sour. It depends on your risk profile as of how much you should set for the stop loss.

Take profit when the trade is good: Before entering a trade decide how much profit you are willing to take. When a trade turns out to be good, take the profit. You can take profit all at one go, or take profit in stages. When you've recovered your trading cost, you have nothing to lose. Sit tight and watch the profit run.

Be emotionless: Two biggest emotions in trading: greed and fear. Do not let greed and fear influence your trade. Trading is a mechanical process and it's not for the emotional ones. As Dr. Alexander Elder said in his book "Trading For A Living", if you sit next to a successful trader and observe him or her, you might not be able to tell whether he or she is making or losing money. That's how emotionally stable a successful trader is.

Do not trade based on tips from other people: Trade only when you have done your own research. Be an informed trader.

Keep a trading journal: When you buy a market instrument, write down the reasons why you buy, and your feelings at that time. You do the same when you sell. Analyze and write down the mistakes you've made, as well as things that you've done right. By referring to your trading journal, you learn from your past mistakes. Improve on your mistakes, keep learning and keep improving.

When in doubt, stay out: When you have doubt and not sure where the market is going, stay on the sideline. Sometimes, doing nothing is the best thing to do.

Do not overtrade: Ideally you should have 3-5 positions at a time. No more than that. If you have too many positions, you tend to be out of control and make emotional decisions when there is a change in market. Do not trade for the sake of trading.

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Introduction to Trading

Buying and Selling

Financial market is a mechanism that allows people to easily buy and sell (trade) market instruments at low transaction costs and at prices that reflect efficient markets. Financial markets have evolved significantly over several hundred years and are undergoing constant innovation to improve liquidity.

If you believe value of a market instrument is going to increase, then you would buy the instrument and at one point in the future you would sell it for a higher price. This is the basic motivation for trading on financial markets.

Orders and Positions

When you want to open a position you need to place an "entry" order. If and when the entry order executes, the position becomes "open" and starts its life on the market. At some point in the future, you will place an "exit" order to "close" the position. A position can be "long" (entry order is to buy and exit order is to sell an instrument) or "short" (entry order is to sell and exit order is to buy an instrument).

At the point when you place your entry order, you need to define price level at which you want to buy or sell certain instrument. You also need to specify type of the order and quantity of the instrument you want to trade. There are 3 order types:

Market Order

Placing a market order means that you will buy at the current "ask" (or "offer") price, or sell at the current "bid" price, whatever that price currently is. For example, suppose you are buying a market instrument and its current market price is 129.34 / 129.38. This means a participant in the market is willing to buy the instrument from you at 129.34 and / or sell it to you at 129.38.

Stop Order

Initiating a trade with a stop order means that you will only open a position if the market moves in the direction you are anticipating. For example, if an instrument is trading at 129.34 / 129.38 and you believe it will move higher, you could place a stop order to buy at 129.48. This means that the order will only be executed if ask price in the market moves up to 129.48. The advantage is that if you are wrong and the market moves straight down, you will not have bought (because 129.48 will never have been reached). The disadvantage is that 129.48 is clearly a less attractive rate at which to buy than 129.38. Opening a position with a stop order is usually appropriate if you wish to trade only with strong market momentum in a particular direction.

Limit Order

A limit order is an order to buy below the current price, or sell above the current price. For example, if an instrument is trading at 129.34 / 129.38 and you believe the market will rise, you could place a limit order to buy at 129.28. If executed, this will give you a long position at 129.28, which is 10 pips better than if you had just used a market order. The disadvantage of the limit order is that if the instrument moves straight up from 129.34 / 129.38 your limit at 129.28 will never be filled and you will miss out on the profit opportunity even though your view on the direction was correct. Opening a position with a limit order is usually appropriate if you believe that the market will remain in a range before moving in your anticipated direction, allowing the order to be filled first.

For both entry and exit orders you can specify price levels at which you want them to be executed. You have to specify entry levels when you place you entry order, while most trading systems would allow you to specify exit levels at any time.

Calculating Profit

The objective of trading is to buy a market instrument and later sell the same market instrument for a higher price. In case of margin trading, trader can also sell a market instrument first and later buy the same market instrument for a lower price. Either way, trader has to close position in order to lock in the profit.

Let us assume that you open a long position by buying a market instrument for 129.38 (quantity of 10000) and few hours after that, you close the position by selling it for 129.52 (same quantity of 10000). These two trades would bring you profit of (129.52 - 129.38) * 10000 = 1400.

We can also say that these two trades would bring you 14 "points" profit. A "point" is the smallest increment in an instrument's price. For the instrument in the above example, one point is 0.01 and for an instrument denominated with 4 decimals, one point would be 0.0001. Expressing position profits in points is often very useful for quick calculations and estimates.

One point, from the example position above, would bring you 0.01 * 10000 = 100 profit, denominated in the same currency the market instrument is denominated in.

In case of Forex, currency pair denomination will be in the counter currency (JPY is the counter or quote currency in the USD/JPY pair) and you may need additional currency conversion to get profit calculated in the currency your trading account is denominated in.

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