How Successful Traders Manage Their Trades (Part 1)

07/06/2009 10:20 am EST


Timothy Morge


The clearest thoughts you'll have about a potential trade is before you enter it; once you enter the trade, the clarity of your focus declines for many reasons:

  1. You have been staring at the screen for some time, stalking the trade (and of course, once you enter the trade, you are watching the screen even more intently, so the longer you are in the trade, the more focus you have spent).
  2. Once you enter the trade, you have a financial interest in the trade; in many traders, that heightens their interest, but at a cost of burning their available focus at a faster rate.
  3. Once you have a financial interest in the trade, you feel the weight to make money (some call this the fear and greed factor). You feel elated with each tick in your favor and you feel depressed by each tick that goes against you.
  4. As a trade progresses, you are pulled by the price action to intervene and change your original idea; with each ebb and flow of price, a new way to improve your original trading plan pops into your head.
  5. If a trade heads towards your stop loss, you become more and more certain you have taken a losing trade and the internal pressure to intervene and cut the loss quicker increases. Even if you have learned to hide your stop loss orders behind market structure, you feel the pressure from these urges to exit these trades earlier, at a smaller loss, even though many of your trades that travel into losing territory often would have survived by a few ticks (because of your use of market structure as protection).
  6. As prices move in your favor, you feel the urge to lock in profits at the slightest slowing of price in your favor. You need a win and the thought that this trade may back up and turn into a loser weighs on your mind, clouding your judgment.

In group mentoring and one-on-one mentoring, my students must keep trade sheets that they fill out before they enter a trade. These trade sheets contain simple "maps" of the potential trade: the reason for the trade, the entry price, the initial stop loss price, the type of trade (range, intraday swing trade, longer-term swing trade, portfolio trade) and the realistic profit target (which must be based on current market conditions and the type of trade being contemplated). There are several reasons for requiring traders to fill out these trade sheets before they enter a trade, but the most important are these:

  1. ANY trade plan is better than no trade plan; and
  2. When a trader has an open position, the moment all these urges and fears begin pulling at him, he can calmly reach for his trade plan, re-read it and then find his way on the "map," getting himself back on course.

One of the least understood aspects of planning a trade is "framing" a trade. Is this a very short-term scalping trade? Is this trade a simple range trade? Is it a trade taken because market structure dictates a change of direction should occur and price is now showing signs this is unfolding (an intra-day swing trade or a longer-term swing trade)? Do you have a longer-term fundamental view and this trade is part of your portfolio? Each of these trades requires very different skills and tactics and abilities. And few traders have the ability to transition a trade from one category to another successfully. Once you have "framed" a trade, play the trade out as you planned it. Remember, you can always find another trade, even another entry into the same market in the same direction; but that first plan of any trade is always your best.

Let's look at two very different trades in the same market and see how "framing" these markets played important roles when planning and executing these trades.

Click to Enlarge

Looking at this first chart, you can see gold futures have been in a slight uptrend and are now rallying after an orderly pullback; in many ways, Gold Futures may be trading in a range between 929 and 949. As I marked this chart up in my live pre-market session, Market Maps, I noticed the confluence of three things: the multiple highs, the 61.8 percent pullback, and the re-test of the magenta up sloping outer parallel (from the outside, which I call a "switchback," because what was support has now become resistance). If price were going to pause or perhaps turn lower, it would most likely do so from this area.

As I talked out loud about the potential for a short entry, I quickly began evaluating areas of support that might stop any decline in price:

  1. There are quite a few smaller swing lows in the run up to the left of the current level of price that might act as support.
  2. Price had tested the red down sloping median line and bounced up off it quite hard; if price got down to that level, I would expect a good deal of limit entry buy orders to be sitting in the market.
  3. The major swing low at Pivot C should act as support and I would expect a good deal of limit entry buy orders to be sitting in the market at or near this level.

As I thought and spoke about the merits of both the long side of this market, at lower price levels, and the short side potential at current levels, "framing" the potential trade brought it into clear focus:

Price was at a perfect level of confluence: If it was going to turn lower, it was going to do so now, from this price. It would require a very small initial stop loss order, because if price began to trade above the multiple highs, there would be stop loss orders executed from traders that were already shorting this run up in the price of gold futures and there would be stop loss entry orders executed by the break out traders; in short, any run up in price from this level would doom the trade, so a large stop loss order was not needed and would not be helpful.

If price sold off from this level, it would probably find support at one of the prior lows-either at the spike low that had tested the red down sloping median line or at the major low at Pivot C; both of these areas would probably hold a good deal of limit buy entry orders that would at least slow the sell-off of price but one or the other may stop the sell-off in its tracks.

Was there a trade here or just an interesting area of confluence hidden in the middle of an uptrend?

More tomorrow in Part 2. Read Part 2 | Read Part 3 | Read Part 4 | Read Part 5

Timothy Morge

  By clicking submit, you agree to our privacy policy & terms of service.

Related Articles on STRATEGIES