Before taking any positions in markets, it is a must to find your “why?” Once we find the answer to why and sort it, losing or winning does not matter much. Moreover, if we find the answers to 6 significant questions before having taken a position, irrespective of long or short and investing or trading, the clear picture of “why” is found and addressed.
Thus, the trade can be considered as completely planned and structured. This is an inspiration from the book named Trend Following by Michael Covel.
1. What to Buy or Sell?
This is the most significant question to be asked in a trading system – what one is going to trade or invest in, among the equities, options, commodities, currency and agri Commodities. Generally, one should trade in the following:
1. Highly Liquid – Index, Commodities, ATM (At The Money) Options.
Index – NIFTY, Bank Nifty Options – At the Money Options.
For Instance, generally I am more focussed on trading in index and commodities, so I prefer trading in NIFTY, BANK NIFTY, SILVER, LEAD and CRUDE, as they are back tested and their volatility matches my personality.
2. Highly Cyclical – Sectors like Real estate, Banks, Oil, Metals, etc.
One should invest in stocks which are defensive and more on consumption themes. It all depends on what market one trades in and what his risk appetite is. My trades are in:
Commodities – Crude Oil, Lead and Silver Equities – 7 Different cyclical sectors such as capital goods, banks, infrastructure, real estate, diversified, finance and pharma.
2. When to Buy or Sell?
Once it has been decided what to buy, the second question is – when to buy? ‘What’ would be set as the technical or fundamental indicators, based on which the buying and selling decisions will be generated.
For example:
- All-time fresh high, that is done after at least 10 years – the longer the years, the better is the breakout, while keeping the Happy Loss as the previous month’s low
- Closing above or below 50 days Exponential Moving Average
- Closing above or below 200 Days Simple Moving Average
Please note: Do the proper back testing before executing the system, considering your risk appetite. These are very simple type of trading strategies, to begin with, and I assure you, these systems hold the potential of delivering returns beyond one’s expectations; they have the power to give much more consistent returns than one usually expects to attain.
3. When to Exit?
There are no Guarantees in this business, but “The only thing that is guaranteed is that there will be losing trades.” As one holds an entry plan, planning the exit point is equally important; we trade with a desire that we will not go wrong anywhere, but this is the major myth; we have all the right to go wrong, and we surely will.
The exit is a decision that is undertaken when the trade of either long or short did not go as per the expectations, and thus, one desires to take the opposite position. Let me explain it in a simple manner: All of us buy Insurance policies –Health Insurance, Life Insurance, Office Insurance and Home Insurances. Why? Do we want to Die or get sick? NO, but we take the probability of any misfortune happening in future and thus, insurance can prove to be a savior.
The Complete Trader always considers stop loss as an insurance for the trading so as to save the destruction of the capital in case of any unexpected market volatility. Thus, the incurred loss, even after exiting at the stop loss, can be considered as the “Premium,” i.e., paid to attain an insurance policy. Through such a mind-set, trust me, one will not face issues associated with losses.
4. When to Book Profits?
This is a question which totally depends on system to system or trader to trader. The Complete Trader doesn’t book profits till the time the trend changes, irrespective of a short term, positional or a long-term trend. Profit booking is for Amateurs; riding Profits is for Professionals. As Mr. Jesse Livermore quotes, “Profit Takes care of itself; Losses never do.”
”There are 2 Animals in the Jungle – a Sheep and a Lion. Sheep eats every day and is able to gather food easily, whereas, a Lion waits for the prey and takes 5–10 sheep together and feasts only once or twice a week. Now, it’s the same in the markets; Sheep is the trader who books profits here and there, whereas Lions are the traders who earn the profit equivalent to 5–10 Sheep- like traders and once in many months.”
5. How much to Buy/Sell?
This is a very crucial question as the sustainability of the traders lies in this question. Different type of risk takers and their leverage systems are:
Defensive Traders: Those who don’t like more ups and downs in markets and are happy with decent returns should not take leverage at all. For instance, if someone is trading 1000 NIFTY with a price of 8000 INR, he or she should have 80,00,000 INR as an investment and trade, i.e., total Contract size or 0 leverage, as per the rules of SEBI with PMS, no leverage.
Moderate Traders: One is open for “Calculated Risk” that can go for 1, 2 or 3 times leverage, if someone is trading NIFTY 1000 with price of INR 8000, he is required to have INR 40,00,000 or 30,00,000, i.e., 30% to 50% of total Contract size; this means that taking calculated risk surely depends on the calculation of your system’s drawdowns as well.
Risky Trader: One should not trade in this category.
The Complete Trader, but here are some areas such as commodities or currency, where the overall age of the asset is not that wide, so considerably, one can take leverage accordingly. However, doing this with equities is not recommended, and in the remaining cases, 1:5 is the maximum leverage that is recommended to any trader.
I believe there are 2 things which can kill a trader:
1. Leverage 2. Lack of Patience
6. When to Scale up?
Generally, this question depends on the designed trading/ Investing system; the first 5 questions can be known through books or other sources, but this question is unfamiliar to masses and should be given huge emphasis in order to excel in trading, i.e., When to add up? When does a system hit a drawdown of 15%? There are chances of systems giving the best reversal, or maybe, when the stocks clear a specific level, that is the point when one should add up in a stock or Commodity.
Similar to how we generally add up when Draw Down (DD) is at its nervous level, whenever one starts feeling that there is no ray of hope, that is the time when a new trend is coming.
7. When to STOP?
Since we have decided that we will give any system 999 days to perform, if it fails to perform the way it had been back tested, we will review whether the system is the problem or the market has reacted in an adverse manner. Only through reviewing, we will be able to make out whether to continue or terminate the trade. Like how we were Trading in Nickel. For the previous 3 years, it was dragging the portfolio down. In the third year, we decided to exit from it, and on today’s date, we realize it to be a wise decision. This is the Card I follow before taking any positions. If all the questions in this card below are not answered, it’s very risky to take a Trade/Invest.
