TRAPS OF OBVIOUSNESS
Part 1
I consider it to be very important to realize everything that seems real obvious, rarely is in reality. "If you see the road with no obstacles, most likely it doesn't lead you anywhere".
It works for reading stock movement. It works for many of the general principles that market moves are based on. I want to discuss some principles to show that there are
different views on things that seem to be absolutely non-arguable. It's often the case that one's edge is found exactly in the niches where few go.
Let's look for instance at the rule that everybody knows, majority preaches, and very few doubt. This rule is "Do not overtrade."
Many say to pick the best of the best trades, don't jump on every of them and try to go for as few trades as you can that show the highest percentage or potential. This is not true for all traders and for all styles. Let's look at it this way. If you practice the system that puts a high
probability on your side, you would be better off trading as much as you can. A trader would enter any opportunity that their system has generated. After all, that's exactly what a casino does. They do as many "trades" as
possible because the probabilities are in their favor and the more clients they have the higher their profit is. This leads us to conclusion that this rule is style dependant. If your approach is a low percentage of winners, small losses and big runs, then yes, do NOT overtrade. It will lower your overall profits. If your style is trading a high percentage of winners, relatively small profits and even tighter stops (as it is the case with scalping) then it sounds strange to not "ovetrade". It will work in your
favor.
Next rule I want to discuss is "Do not trade illiquid stocks, go for those that have high liquidity." This seems so obvious. Meanwhile, I am sure many of you noticed that there are many great traders around that play stocks with real low liquidity. Why is that? Well, first of all, it's their edge. They got to know how those stocks move. The "jumpiness" of those issues, they use to their advantage. One more reason for this phenomena is that on stocks with huge liquidity and a wide following, you have too many conflicting interests interacting which often makes them very hard to read.
For instance, if you watch monsters that are traded by the entire world like MSFT, INTC, etc., you know that they almost never go straight up or down. It's always struggling. Besides, trading houses know very well that there are plenty of traders that try to squeeze the juice out of these stocks and they have their best of the best traders assigned to these monsters. You have plenty of online traders and institutional traders with their cloudy
intentions. You have the best traders in the world trying to fool everyone, including their neighbors (by neighbors I mean, GSCO trader wants his intentions to be hidden from MSCO trader, too). Make sure you want to be in the middle of such a battle. Meanwhile, on stocks with lower liquidity
where there are less players and less contradicting interests, you may find much a higher level of readability. It doesn't mean of course that the stock with 10K volume is alright to trade. There should be balance in
everything. But it shows how "obvious" things become less obvious if you think of it deeper.
The next trap is that everyone knows that the road to
success is Buy Low, Sell High. Sometimes this is the case, but I would dare to say that this is just one of many cases. Often this is one of the most dangerous and here is why.
The trend is our friend. If you know the trend, you are trading much safer and with a much higher probability of success. By buying the low, you do not trade with the trend. There is however one case in which this applies.
This is when you buy the pullback bottom on an uptrending stock. If you try to pick the bottom on a falling stock, you are going against the trend. It doesn't mean you have to avoid it completely, but at the very least you have to
realize it and understand that until the trend has reversed, you are on dangerous ground buying the bottoms. I am sure you all saw plenty of cases where attempts to pick the bottom hurt badly (known as catching a falling
knife). There are other cases to play, in order to follow the trend.
I recently found excellent explanations of this from reading materials of Tereza Lo, a well-known trader that most know as IntelligentSpeculator.
Buy high, sell higher and sell low, buy back lower is the style which matches to trading with the trend. You saw several calls by Chris and myself based on this strategy. An uptrend is a series of higher highs and higher lows. As
long as the trend is intact, you are safe buying every high and you will be wrong once at the very top.
cont'd... |
