Trading as a Business

Prologue: Where to Begin

Let's begin with the markets themselves, and with fear and greed. We have all heard the cliches about fear and greed. They rule the markets. In fact, that's all the markets are-- reflection of these emotions. In order to make money trading, you must learn to control your fear and greed.

Overcoming Fear and Greed

We all have to deal with our runaway emotions at various times in life, and these emotions really begin to run away when we trade. Bill Williams' used to say in his seminars that trading was the clearest window into your own personal psychology, clearer than any other endeavor. I think he was right.

UNDERSTANDING THE MARKETS

We give in to our fear when we don't take the next trade because we've just been through a string of losers and fear losing again. We give in to our fear when we put our stop loss too close and get stopped out of a trade without giving the trade enough room to develop. We give in to our fear when we freeze as a trade starts to lose money, and we don't take the exit signal because we're afraid of losing money.
We give in to our greed when we take a profit early, before the regular signal, because we don't want to give back any of the profits. We give in to our greed when we trade more contracts or shares than we normally would because we feel good about this trade.

So we start with the question, "How can we understand the markets?" If we understand how they work, we can get a better understanding of ourselves, and in turn be better traders.

Controlling greed takes discipline. As far as fear, Peter Steidlmayer explained in his work with Market Profile that markets exist for one purpose and one purpose only--they exist to facilitate trade. Facilitating trade means that the markets will do anything they can to get individuals to participate in the market. How they do this is through movement. Markets move up and down searching for buyers and sellers.
The crucial point here is that markets must move for their survival. Understanding this literally changed the way I thought about the markets. Think about it. Markets have to move! This concept is major for anyone who has had to sit through a trend-following system trading in a sideways market. The knowledge that the market has to move eventually changes the way you look at trading. It gives you confidence that the string of losses can't continue indefinitely. It eliminates the fear!

You see, Steidlmayer explained that if a market does not facilitate trade, it will die. If it does not continue to bring traders in, to lure the buyers and sellers, the market will cease to exist. And the prime directive of a market is survival. To keep traders interested, the market has to move. It cannot remain in a small trading range or traders will lose money, become disinterested and leave. Eventually there will be less and less liquidity, traders will stop trading, and the market
will die.

Knowing that a market must facilitate trade and move, or else die, has given me great confidence in trading. When I am forced to trade through quiet markets, I remember this principle. This principle has reduced my fear and increased my confidence immeasurably.

SYSTEM TRADING: MAKING GOOD BUSINESS SENSE

For me, system trading is the only answer to the problem of fear and greed, and it is the only logical way to take advantage of the concept of Market Facilitation.
First, trading a system provides the discipline necessary to begin overcoming fear and greed.

Trading a system that has been back tested on historical, quantifiable data is a major way to inject discipline into your trading and to begin to control your fear and greed. If we think of a trading system as a small business, we can design our business to make money based on historical simulations. Then, our job becomes the implementation of the system rather than the interpretation of the market. If the system loses money and busts, we change the system. It's a matter of good business sense.

Second, if we know that a market must facilitate trade to stay alive, we can devise systems that guarantee that we will always be in for that inevitable big move. If we know that the big move will eventually come, and devise the system accordingly, our task becomes to minimize the drawdown (investment) while we wait. I have never been able to predict when the market was going to facilitate trade and get in for the big move. Instead, I have devised systems to ensure that I will be in for the big ride and my losses will be minimized while I wait. It's just a matter of good business sense.

As a businessman, I have concluded that the only rational way to trade the markets is to trade a system. All of the hocus-pocus about predicting when this market will move, and how far, is just that--Xhocus-pocus. The people that make the big money are the ones who don't try to predict tops and bottoms but who consistently take a little out of the middle. The only logical way to do this consistently is through a well thought-out, well-designed system. It's a matter of good business sense.

THE ADVANTAGE OF TECHNOLOGY

Anyone serious about finding a profitable system should use the latest technology and the best software available. This means learning how to use a computer.
When I started trading, all historical testing had to be done by hand. This was labor intensive and very time consuming. It was necessary to peruse charts visually and record the simulated entries and exits by hand.

For intra-day charts, this process was even more time consuming--the charts had to be printed with the indicators on them and for a significant length of time (several months). If these indicators didn't prove to be profitable, the process had to be repeated for the next month with revised indicators. This process continued month after month. It would sometimes take me three to six months to find a system that would work under current market conditions.

System Writer, followed of course by TradeStation, was the first computer program to help eliminate this labor intensive historical testing. Using TradeStation to do your testing has three distinct benefits.

The first is the amount of time saved. With TradeStation on a fast PC, it's possible to test in 5 to 30 minutes systems that literally used to take hours or days to test by hand. If you place any value on your time, this cost savings alone is impressive.
Second, you can avoid mental mistakes. I have, in both myself and in talking to other researchers, found a propensity for making mistakes when performing manual historical testing.

On many occasions I have found myself changing the system midstream. I have sometimes made the assumption that of course I wouldn't have taken that particular trade, when the reality is I probably would have, or of course I would have moved my stop up, when in reality I probably wouldn't have, and so on.

I can recall many situations where, when testing manually, I got different results on different days with the same data and the same system. I was either in a different frame of mind or in a different emotional state and actually made different decisions on the same data!

A computer, however, cannot trade a system differently tomorrow using the same parameters and data as it is using today. Its logic is consistent and can't play tricks on it. For historical testing, you can avoid this very real problem by using a computer.

Third, you can be more creative. Rather than spend all of your time doing the testing, you can have the computer do the testing and you can spend your time researching new trading ideas.

System development is like any other business. It's very unusual to find a successful business where only one individual has designed the product, does the marketing, is engaged in product development, and runs the machine to produce, package, and ship the product.

It is much easier and less stressful to hire a staff to handle the paperwork and production employees to make the product. The entrepreneur can then spend his or her valuable time in product development and planning the future of the company rather than running day-to-day operations.

As the futures and securities industry continues to grow, more and more traders will enter this business. The competition for profits will continue to increase. For example, in the early '80s it was very easy to make a lot of money day-trading the S&P. I used a simple dual moving average crossover system on 5-minute bar charts. There were proportionately very few intra-day traders with computers that were competing for profits. But since then, with the increase in the number of traders using intra-day charts, these very rudimentary indicators have stopped working. When everyone started using them, the profits dried up. It is much more difficult in today's markets to make the money that was there in the early years. The standard indicators just aren't that effective anymore.

Don't Believe What I Say

The final thing I want to tell you before you delve into this book is not to believe anything I say. Check it out for yourself. It would be a mistake for you to accept anything I say without a complete personal investigation, testing it for yourself and either proving or disproving the principles and techniques that I discuss. Just because I say it doesn't mean that it's true. It's what I believe to be true and has stood the test of time for me. But I urge you to be a skeptic, to think everything through and make sure it makes sense to you. Accept the things that work for you and
reject those that don't. The idea behind this book is to give you enough information so you can be self-sufficient. You shouldn't have to depend on anyone for your trading profits. You can do this yourself.

So we begin with three principles. First, the market must facilitate trade to survive; it must eventually make the big move. Second, you must be state of the art to compete, which means using the latest PC technology and TradeStation. Third, you can do this yourself, and you should not take what anyone says for granted.
You have the tools to be independent--to do this yourself.

Do not believe in anything simply because YOU have heard it.
Do not believe in traditions because they have been handed down for many generations.
Do not believe in anything because it is spoken and rumored by many.
Do not believe in anything simply because it is found written in your books.
Do not believe in anything merely on the authority of your teachers and elders.
But after observation and analysis, when you find that anything agrees with reason... then accept it
and live up to it.
-The Buddha

-Excerpt from Trading as a Business, next post: The Principles of Successful Trading.

Keep trading as Part of a Balanced life

7. Keep trading as Part of a Balanced life:

Trading be it successfully or not, is a very stressful career. When
one is dealing with making and losing money based on your perceptions
the stresses can be enormous. You must do everything in your power to
eliminate the stresses.

I have never met or heard of a successful, highly stressed trader.
In fact it's quite the opposite. Most of the successful traders I have talked
to seem very relaxed and confident. I suppose this is what has made them
such success in the first place.

Reading Market Wizards' (Jack Swager) one common factor picked up on
all the best traders was their ability to disassociate them-selves with
the market action. It was almost as if they were unconcerned with their
positions. Considering some of these guys (and girls) traded with
hundreds of millions of dollars at a time this is a remarkable feat.
Most of the traders I know get excited when they have a couple of
hundred dollars at stake.

I know my own trading results went through the roof when I actually
spent less time "trying to control the market." By this I mean staring
at the quote machine and end of day graphs all the time. I took up tennis
lessons, jogging, reading, writing, even other business ventures just so I
could take my total focus away from the markets. Not only did my results
improve dramatically but so did my quality of life.

How can the top traders keep it so cool when the risks are so high?
Go through this book again:

1) They decided a long time ago to take responsibility and find out
what works

2) They have a system that fits them.

3) They plan every trade down to the finest detail ( wouldn't you if
you had $50 million at stake? more importantly they know when push
comes to shove they will follow the rules.

4) They have put the ground work into this system and continue to
do so.

5) They have complete confidence in both the system they follow
and in their own skill to flawlessly execute it.

6) They definitely view trading as a game in points and stopped
counting the money a long time ago. Most of the top traders are
very wealthy so if they aren't trading for enjoyment ( and winning)
they'd simply retire.

7) Finally they learned a long time ago that they alone can not control
the markets. Watching a quote machine and hanging on to "guru" advice
all day is a losing system. Most of the top traders have a life
out-side of trading. Realizing the importance of keeping it all in
balance.

Trading is no different from any other aspect of life. If your total
focus is on one point then every little dip and peak becomes exaggerated.
This kind of peak and valley emotional trading will not only ruin your
trading results but it could destroy you as a person as well.

Even if you was to make millions from the markets is it worth it at all
costs? Surely it's the journey that is important and not the arriving at
the destination.

In order to trade successfully you need to take time off. Re-charge the
batteries and gain some perspective. I remember my first few years as a
stock market player. I would spend all day, night, weekends reading,
studying, staring at the charts, trying different systems, etc....
Frankly I wouldn't wish it on any-one. Yes, I learned so much, without
the intensity of study I wouldn't have become so successful, so quickly
( 5 years) but if I had to do it again, or if I was giving advice to a new
trader, I would have kept my life much more balanced. "Work hard, play hard."
"Not work and work some more."

The stresses are big enough without making it the only focus in your life.
Take a ten year view on your performance. Realize that if you can gain just
a 30% return in the stock market year after year you are doing better than most.
Treat trading like any other business. Work hard from 9-5 and then be disciplined
to switch off and live your life.

Some of my very best trades have come from placing a buy order in the market
and setting a stop loss order with my broker. Going away for a months vacation
without looking at a share price. Coming back home and finding my share has jumped
by 40%. It never stops to amaze me how simple successful trading is.

Trading can be frustrating if you feel you can control the markets. There's this
feeling that by checking on the prices four times a day you will perform better. But
this is a complete waste of time and it leads you in to doing something stupid.
as long as you plan your system and follow those rules why would you ever need to
check on the prices during the day. Use the time intelligently and in so doing
it will give you more free time. Wasn't that the whole attraction of getting into
the stock originally?


Stock trading is a weird way to make a lot of money. We are brought up to
believe that to earn a honest days pay you must do an honest days work. But
if you buy $50,000 worth of stock at $50 and sell 1 year later at $200,
you have made $150,000 profit. Amazingly it only took 30 minutes to do this
as long as you checked the prices for 1 minute daily and followed your rules.
What elses is there to do? Yet, most people will have a problem making this
kind of money from the work put in. I am sure when the share hits $70 most
traders will snatch at the profits in order to take the sure profit and then
lose those profits chasing other trades. Yet it will be the balanced trader
who spends his time wisely and follows his rules who will always make the
big money.

So keep it in perspective. Realize you have no way of controlling the prices.
If you find your-self "itching" for more action then take up some interest AWAY
from the markets. NEVER try to make your trading more interesting or exciting.
If you do this you are forcing the markets into something that simply does not
exist.

If you spend more than 15 minutes per day managing your trades it's too long.
ask our-self whether you are trying to see something that doesn't exist.

Successful, profitable trading is:
* Boring
* Effortless
* Easy
* Stress free

AFTER you have MASTERED the "7 Habits of a Highly Successful Trader"
Are you going to spend the necessary time mastering these principles until
they become habits? A habit is something you do without thought. It takes a lot
of time and effort but the end results are worth it.

-Excerpt from the 7 Habits of Highly Successful Traders.