2/9/16 - "Take a leap": Some of the Most Important Lessons I learned as a Trader

A quick preface to why I am writing this blog post:

I am in a transitional period of my trading journey. I had the best month of career in January totaling just under 27K in profits on 16 green days and 4 red days, which built on a very good December as well. I am becoming comfortable and consistent, and have decided to try and make “the jump” to really sizing into positions soon. To date, the largest position size I would ever reach would be about 8-10K shares, and even that was rare. Most plays for me end up being between 2-6K share size on names between $3-$15 primarily. That has been my comfort zone, and I am looking to branch out of it in the name of progress and growth.

If you wake up every morning and go through the motions of your 9-5 job, simply “tolerating it” for the salary, something is wrong in my opinion. I enjoyed my job, but that is the situation I found myself in, and I was becoming increasingly unhappy (I was a financial analyst for a little over 3 years after college) – so I took a chance in October of last year and quit my cozy, guaranteed paycheck job with less than a years worth of salary to my name (not recommended...but it was just time for me), and couldn't be happier with the decision. Whether it’s trading, or any other profession you are passionate about – don’t be afraid to take a leap of faith. You’ll never know what’s out there for you if you stay inside your comfort zone. No matter what you've accomplished to date, there is so much higher for you to go. It never ends. This is especially true in trading, and the main reason I am drawn to it. The biggest risk of all is not taking one.

I’ve heard horror story after horror story about those who make the jump to size too soon, ending with a terrible aftertaste in their mouth. So I have been unusually patient with making this move.

This blog post will be centered around going back to my beginnings – reviewing everything I can possibly think of that I encountered along my rocky journey that may be of value to the newer traders out there, with hopes you can take something away from this post and use it on your journey.

Note: For those here just to seek actual technical trading advice..scroll down to where the charts start. However I strongly encourage you to take the time to read this post in it's entirety. Actual trading is the easy part..if you are prepared correctly, you just go on auto pilot, react, and execute. Being in the right mental place and having real discipline and sound risk management skills are by far the most difficult aspects of our craft in my opinion. 

Ok let’s get into it.

A very underrated tactic I believe most overlook: going back to basics. In preparation for my new journey starting soon, I will be trading with a 5K account again for the next few weeks. This is to really help me hone in on proper ENTRY habits, and not get lazy and comfortable doing the “add add add” routine that you can sometimes become accustomed to with a larger account size. Best way to break out of that habit? Trade with an account size where you literally can’t do it.

I used this tactic back when I was first starting to get rolling as well. First time I got my account over 25K and moved to IB, I had it up to 40K very shortly after. I began to get cocky, eyeing 100K even before I hit 50. Stupid. Greedy. Irresponsible. That 40K was back down to 26-27 before I knew it – and at that point, you’re trading “to stay above a number” (25K, PDT rule) rather than just simply trading the chart and what you see. You hear people all the time say “trade the chart, not your PnL” and this is so true. There are multiple variations of  “trading your PnL,” and all of them are bad and emotionally crippling. Some trade scared because they literally can’t afford to lose the money, others because they want to stay at their broker with cheap fees which requires them to be above 25K, and yet others even higher psychological numbers they just don’t want to see their account drop below. It’s all WRONG. If you are struggling to gain traction or hit a roadblock…you are likely in one of these situations. 

If you have a very small amount of capital you can’t afford to lose, then you should probably be paper trading rather than getting slowly eaten away by commissions, while saving up from your day job to add a bit more cushion to your trading account. If you are hovering right around 25K and can’t add any more to it...you should probably move down to a SureTrader/TradeZero acct – just put 10K or so in it, that’s more than enough, and forget about “the 25K number” – just. trade. It’s not a demotion. I think you will find it very liberating and that it significantly helps with your emotions. This is what I did when I was a little mentally unstable after I foolishly brought my 40K acct right back down to the PDT limit, and it did wonders for my mental outlook moving forward. Just consider trying it if this scenario describes you.

Next: The overall big picture appeal of trading. The fantasy world, lala land, pipedream every new trader is enamored with and drawn to: “Big Money, Fast.” LOSE IT. 

When day trading, its very easy to get caught up in the allure of making a lot of money in a very short period of time. You see well-known twitter guys posting four and five figure profit numbers regularly and naively think, “hey, I can do that too.” – And this mindset is absolutely detrimental to your progress as a new trader. You need to let go of the pipe dream you’re going to make a ton of money or become a millionaire in a very short period of time. It’s just not going to happen. You’ll see a very select few who were outliers that accomplished this...but if you make it your primary objective, you’ve decreased your odds of become a profitable day trader from about 10% to about .0001%. I blew up four 5K accounts using this mentality when I first started. Good luck. 

Refusing to let go of this elusive dream is the main reason that 90% of day traders fail. They get greedy, and neglect all the work that went in before the thousands of dollars of profit. When you see someone on Twitter posting a big gain, you are simply seeing the tip of the iceberg and manifestation of serious effort put forth. You have no idea the amount of hard work, sleepless nights and extreme dedication that went in to make that happen.

Here is where the biggest issue was for me:

The second you get your first taste of a “big” profit, whatever that may be in your eyes (for me it was a $500-$1000 profit trade on my first 5K account) – this is when the real trouble begins. It’s intoxicating. You fall in love with it, it blinds you, and you think “if I did this once…I can do it again, I just need to focus and try harder” and it becomes your goal on every trade. This strategy will have you broke before you can blink. The market is like quicksand. The harder you fight and try to force things, the deeper you will sink. You need to become acceptant of the idea that small gains = big gains. Think of it like this typical trading day scenario (based on a 5K account using conservative margin, say):

Trade 1: $94 profit

Trade 2: $140 profit

Trade 3: $50 loss

Trade 4: $115 profit

Trade 5 - $30 loss

Trade 6: $85 profit

Trade 7: $70 loss

Trade 8: $120 profit

None of those trades are very impressive. But add them up... that’s +$400 – a pretty impressive day on a bunch of unassuming, unimpressive individual trades. As an aspiring trader, are you making $400/day at your current day job, or anything even close to it? When you are trading with a small account...you have to expect small gains at first. You have to grind. Scratch and claw your way up the totem pole. Gain confidence through sheer volume. There is no elevator to the top. 

Profitability comes when you stop caring about profitability. Stringing together unimpressive wins turns into an impressive day very, very quickly.

So that is the very first thing to grasp if you are still fairly new – don’t neglect the journey. Most try to hit a home run before they even learn to swing the bat – you will always strike out with that plan.

 The other HUGE issue I faced was selectivity and overtrading. Ask yourself this question -What is your aim coming to the markets each day? To trade? Or to make money? Process that for a minute. I would venture to guess you will say the latter is your goal, but if you analyze yourself, you probably go about it by executing the former.  So often we equate more trading = more money, but it couldn’t be further from the truth.

I can’t tell you how many times I would be down big making a bad trade out of the gate. Then battle back and make a few good trades to come back to even or close to it. After being down 500 or 600 bucks, my PnL would be maybe -120 going into the afternoon. I’d feel satisfied and accomplished for fighting back, but at the same time think “man...just one more trade and I could be green today.” You go try and find a nice volatile play to manufacture a quick profit “ohhh I’ll just scalp it quick for a nice gain and turn this day green”, so you go try and play UVXY or something. Next thing you know, 4 o’clock rolls around, closing bell rings, and your nice minimal damage -120 PnL now reads -410.  Sound familiar? You’ll need self-discipline here to fix this – no trader or mentor can “teach” you not to do this type of thing…we’re not sitting behind you like a guardian angel holding your hand. You need to do this yourself. Overtrading to try and force a profit will end in a loss 9 times out of 10. Eliminate it. Accept every day is not going to be green.

Keeping a trade journal is so important at the beginning of your journey. If you are thinking “I trade way too much to keep a journal…I’d be logging trades till next year” – then you trade far too much.

Keep accurate records of TIME. And by time...I mean time of the day. When are you making money? When are you losing money? Are you more comfortable trading the open? Do you make your money when things settle down a little between 10am and 11:30ish? (this was my favorite time for a long time) Do you get chopped up during the lull? Find the culprit on why you aren’t profitable yet - and eliminate it. I used to get eaten alive trading during the lull and into the afternoon. Don’t know why...I just did. So I cut it out. I would physically get up and leave my desk from 12-2pm and go to the gym, so I couldn’t get chopped up even if I wanted to. If you don’t go to the gym, try something else. Nate used to combat the lull with blogging back when he had issues with it at the beginning of his journey, hence the birth of Investors Underground. I know people who go play video games. Go for a run. Go watch TV. Just pin point the time of day you are losing most of your money…and find whatever means necessary to get away from pushing buttons altogether during that time. It will help more than you know.

I know this post is lengthy, sorry...but I’m really racking my brain here for all the valuable lessons I wish I followed during the start of my journey. Would have saved me a lot of money in “tuition”…………

Okay lets apply some of that knowledge into chart analysis. These are charts I’ve collected from some of my students making some very typical and common beginner mistakes. Learn from them.

Here's one on $HNSN from a few days ago. So the ideal scenario to work through a trade is to scale in and scale out..by this I mean if you are shorting something, starting in with small size, adding on pops, building more size into a winning trade with house money. And the advantage of this is when you start in with small size, you can afford yourself some room north to be wrong, let the stock test around key resistance levels without freaking out (because you're sized in correctly and managing risk) and if it blows through resistance, you can just cut off the starter and take the paper cut - no harm no foul. Market makers will often times intentionally push stocks right to key levels and see who they can shake out, i.e the "weak hands" - which is why initial size and risk is so important. If a stock hits your risk level...don't immediately panic out. Let it test around this level and see how it reacts. Then make a decision. This example above was of a trader attempting to scale in, but falling victim to the thing we all fell victim to at one point - entering the trade with real money and going live. Now...the lights are on. Your PnL is moving, you become anxious and excited, focused, and you tend to want to act on impulse, rather than on logic. When you're scaling into a trade...what is the point of entering with starter size, then adding to it 2 minutes later? What does that accomplish? All it does is make your commissions rack up quick, and add anxiety to the trade, because now you have more size than planned, but you still don't have any cushion of house money to keep your emotions in check. This trader scaled in way too fast, had too much size, and immediately panic covered the second this thing went against him. When attempting to scale into a trade...go in with the understanding "Ok...I may be in this trade for half hour, an hour or longer maybe - lets find solid add spots and not rush in, stay cool.." NOT: "Ok...I just entered the trade..now I'm so excited to be live..lets press buttons ASAP and SIZE UP! WOO! IM GONNA BANK WHEN THIS THING WASHES OUT, BABY!!!$$$$$$" .......no. You will get played time and time again that way.

This AVXL trade was fairly well executed. The trader had patience and waiting for confirmed backside, got a nice entry into a little pop, and added nicely into the next pop 10 minutes later - finally covering up all around VWAP. The only thing I would do differently here is only cover partial at VWAP - half probably. Anytime something is in a nice downtrend and approaching VWAP - we always want to be taking some profit, while also leaving some on - best case scenario hoping VWAP fails and continued downside. With an "in play" small cap stock trending up in the morning, VWAP tends to indicate the "break even" point for longs usually..once it goes sub-VWAP, most longs are now underwater, usually instigating increased selling after this break.

Note: By "in play" I mean a stock with some good volume on the day, a stock thats coming up on peoples scanners and garners interest, and a stock with some liquidity. 

Ok on VXX here...trader went in with zero plan, clearly. A trade without a plan is nothing more than a gamble scenario. "Hope is not a plan." The trader had the right idea here..this is an ETF, and the best way I've found to play ETFs is to join the trend/catch the meat of the move, not try and be early to predict a change in overall market trend. So while this entry was definitely a chase...it had a basis in correct thought - trying to join and short the trend down. But this was clearly an impulse trade - hence the cover immediately after entry as soon as this thing went red on him.  This looks to be a trade where the trader may have already been red on the day and was scared of taking another loss and blatantly trading his PnL, not the chart - avoid this type of trade at all costs - they will just chop you up. A proper plan here would have been risking off the prior line in sand there 24.30ish, and assuming all pops are good adds with house money until proven otherwise - this is the strategy I'm usually employing while doing any ETF trading. 

This was a trade on MAT last week. It ripped out of the gate, and then had some nice big wash candles. Note the time of the first short - about 9:40am, just 10 minutes into the open. GOLDEN rule: If something is washing out during the open and you miss your entry on the rip, do not, do not do not, I repeat, do not, chase it short out of the open. It will rip back against you more times than you'll care to count. The open is too volatile, and things washing out tend to have violent swings back to the upside. I don't care if it washes out and just keeps on fading....if you miss it, you miss it. So what? On to the next. Never chase it. "I'd much rather wish I was in a trade than wish I wasn't in a trade"

Another thought from the MAT trade - draw your attention to the afternoon around 2:45. This is revenge trading. This trader had a nice short on this going into 2pm, then likely was thinking "nice...I just scalped this thing once, lets do it again." To which he was unsuccessful on the next two tries. Don't be greedy after you steal a nice scalp...hit and run. You'll see at 2:45 he tries to short, then covers up immediately 1 minute later, only to re-short even more 2 minutes later - this is just frustration and emotions. Following the nice scalp at 2pm, he gives most of that back trying to squeeze more out of it on his next two attempts, and by the 3rd try there at 2:45 frustration sets in. Anytime you are frustrated...STOP trading. You are not thinking clearly, and you are blatantly trying to force the action to make something happen - shorting, covering a minute later, re-shorting a minute after that, its a vicious cycle, we've all done it, and it usually results in multiple paper cuts that sum up to one big gash when you add in all the unnecessary commissions as well, especially if you're at SureTrader. This will never end well. Don't do it. 

A few comments on this TRXC chart. First off, the time to short this thing is right out of the open, into that 9:31 push into 3.40s. If you miss that rip..you are playing with fire trying to chase one of these things. It's one of my biggest rules..if you don't get great entries out of the gate on morning parabolic trades, don't chase this stuff, especially right at the open. To reiterate...there are huge volatility swings out of the open, and big washouts are very often met with big moves back to the upside.  It will usually end poorly if you're chasing in the first 15-20 mins of market open. Stay disciplined. If you miss it...you miss it. Again, I'd much rather wish I was in a trade than wish I wasn't in a trade. 

Here is an example of a very good trade and cover. The trader missed the open spike, but didn't chase the wash this time. He waited for a little pop and push back on VWAP, and got a nice entry followed by another good add, showing nice patience to wait for pops to add. The covers here are the best part though. Anytime you are shorting a parabolic move on the way back down, you need to be especially mindful of where the move began from. Where did the squeeze start? Where did the volume first come in? Whatever price level answers those questions will usually be of importance in the trade. So here the big volume and squeeze up really started around 9:37, originating from the $4 level about. As this thing is coming back down from the 4.50 push..it pretty much gave up a 100% retrace of the move. This is called the "easy money"...when you get it, TAKE IT! Anytime a stock is squeezing/pushing parabolic, it very often returns right to the level the squeeze/move began at before finding support and drifting back up. Be mindful of this. So here around 10:00am, the we got a nice washout and then the downside move began to stall out and slow down..put that together in your head: "Ok. This thing has just retracted almost 100% of its move. The downside is slowing. What should I do?" Take the profit! Don't be greedy and try and hold out for the 4 test..its a couple cents. Who cares. You just made a nice profit, the thing is just about fully retraced, take it. Simple as that. Nice trade. 

Another example here on this FCX trade of impatience. The point of scaling in and out of trades is so you can 1) minimize losses if you are wrong 2) maximize profit if you are right. But it must be done correctly. Unless we're talking about a morning parabolic right out of the gate..you should not be adding to losing trades. At all. The time to add to an afternoon short is on pops..once you have some house money as cushion. The idea being if you are right on a trade..pops will be good adds and you can really maximize a winning trade working it on the way down. But if you add on a pop and you are wrong..since you had some house money cushion, you have the chance to cover for a smaller gain, or flat. No harm no foul. But in this case..the trader got overanxious/impatient, wasn't happy with starter size, had "FOMO" of missing the move down. But look at this chart in hindsight now..look how much time there was too add on pops ONCE the chart was ready. Tons of time. The plan on this trade starting where he entered should have been enter with starter size, using HOD as a risk guide. The reason I always preach how important starter size is...is because when you are in small size, if you are initially wrong, you can remain calm. You can let the stock go up and test around your risk level without a lot of emotion. You aren't getting hurt too badly. As discussed earlier, market makers tend to push stocks right to key levels and see who they can shake out, the "weak hands." If you are using correct size..that won't be an issue. So if the trader was using starter size and following a logical trade plan, he would have no problem letting this thing get up and test the HOD, which it did, and then start the nice down trend, where you can add on pops. Instead, he sized in too big too early, and was a little emotional when the trade started to go against him, forcing him to stop out just minutes before the downward move began. 

Do you ever notice often times when you get squeezed out of a trade, it usually comes right back down shortly after you cover? You are not unlucky. "Man...this always happens to me. Every time!! Wtf!!!" is not the explanation of what happened. What happened was that you, along with a number of other traders, mismanaged the trade and acted on emotion, and were forced to stop out as a result. I look for those areas often. Think outside the box. Look for areas where you think people might be likely to get squeezed out, and target them for short entries of your own into strength. 

OK. Thats it for now - I hope this was helpful and you learned something. Please feel free to leave a comment, reach out to me @DGTrading101 on twitter, or visit my website at dgtrading101.com if you are interested in working with me and learning to become a better trader. 

Happy trading. 

Dante