For Daytraders, It’s Adapt or Die

11/09/2011 7:00 am EST

Focus: STOCKS

Steven Spencer

Partner, SMB Capital

Rampant volatility, news-driven market action, and the prevalence of automated trading systems mean daytraders have to adjust to stay alive in this environment. A recent trade example shows why.

What are you doing as a daytrader to adapt and succeed in this tape-reading environment?

This market can be rough for novice daytraders trying to figure out a way to find consistency. The bots are alive and well, the volatility remains high, and headline risk abounds. Trades that worked only a few short months ago are now being piled up like garbage on the streets of New York with the sanitation department on strike!

Yes, your profit and loss (P&L) will stink just like garbage on a hot summer day if you don’t adapt. The automated trading systems and bots are hunting stops and swapping both sides of important levels before making the real move.

The shakeouts against the trend are not of the junior variety; they are big boy shakes. The headlines or comments from Europe can turn a winner into a loser in seconds.

Sounds impossible, right? Wrong. Manage your size better (smaller or around a core of shares), expect big players to try to shake you out of your trade (find entries or add to a position by using them), and use relative strength to mute some of the headline spikes (short only the weakest, go long only the strongest).

See related: Spot Leaders and Losers with RS Analysis

These days the nice “draw a pencil-line level with a nickel stop” trades are even fewer and farther between. You have to be thinking ahead about the things being used to get you out of good positions and adapt to them. Try anticipating them and be prepared to take advantage.

For example, on Monday, Vertex Pharmaceuticals (VRTX) was under pressure and heavy all day, but this was not an easy trade if you got too big or added on weakness. You needed to give it room and wait for the misguided longs to get rolled over before it paid on the short side that afternoon.

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The Spyder Trust (SPY) had the spike at 1:57 pm ET and VRTX found sellers in the offer and held it in check (relative strength saves your position from the headline). That spot in the day made it clear a new low of the day was a decent probability, and it found it shortly afterwards.

Next up, the “buy the new low” automated trading systems do their thing; you should have been expecting it. Now just wait for some stretch to the downside to get the bottom pickers to head for the exits.

Daytrading requires the ability to adapt if you plan on making it a career. What worked last week won’t work this week. Get used to it!

By Steve Spencer, trader, SMB Capital

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