Not making money in trading? Let the market do the talking – Economic Times

One of the clichés in the market, particularly relating to trading, is to be mindful of your risk. Everyone goes on and on about how we should risk only 1-2 per cent or such small percentage of our capital in each trade. Everyone reads this and goes on to the next page without ever thinking about it!

I feel one of the main reasons for not applying this otherwise wise advice is that very few traders in the market really have an assigned ‘trading capital’! The typical trader just trades, unmindful of the quantity he is supposed to do, unmindful of the amount of risk he is supposed to take. Moreover, the typical trader usually has position in bunch of stocks. This makes it a portfolio of stocks, and hence, the trader may also have to think in terms of portfolio risk and portfolio beta.

But none of these factors is ever considered because the trades themselves are seen on an individual basis! As Mark Douglas puts it, this is the reason why traders keep on dying a death with every trade. Eventually, the strain becomes too much, lack of success becomes demotivating and the ‘relative’ success of others becomes a factor to abandon what one is doing.

One has often heard many experts say on TV that in investing one has to address the downside mainly and leave the upside to fend for itself. He is a value investor, and therefore, believes that if he has found the right stock, the upside will take care of itself. It will be the market’s process of discovery that will then create multiple levels of returns on the investment.

But the process of addressing the downside prepares the mind to deal with the non-performing times of the investment. This is very similar to what we stated earlier, risking a certain amount of money only on your trades.

In the case of a trader, the consistency of his methods will take care of the profits from the trade. He should allow the method to determine how much profits can accrue in that trade! What really happens is that people will find the TV expert’s advice rather easy to handle when it comes to investing, but will completely ignore it when it comes to trading! That is silly because trading and investing are essentially the same, with just a difference of time horizons for the life of the position!

When it comes to the trading, they are all over the place with its non-performance over the next ‘N’ minutes! They worry so much about profits that they overlook the fact that the concern has to be about risks! Ultimately, they end up with small profits on successful trades and large losses on unsuccessful ones.

The chain is easy to break. The method is the door, and faith in the method is the key for that door. The method itself will tell us the risks involved. Look carefully at that and then allow the trade to run as per the dictates of the method. Value investing calls for remaining invested until price and value meet eventually. That may take months, sometimes years and sometimes even decades. It is a style that is not for everyone as it needs a certain mindset.

In quite the same manner, trading using a method also demands that you allow the possibilities to emerge. That may take hours or days or sometimes weeks. Once we adopt the mindset of accepting the downside risk and allow the method to take care of the upside, you can get out of the persistent problem that most traders face.

ET CONTRIBUTORS

A good example to use here would be Titan (or, for that matter, any trending stock). On the chart, we find three time frames – 30 min, daily and weekly — and it is apparent that a good uptrend is essaying in all time frames. While the intraday chart shows some ongoing pullbacks, the daily chart shows just one interruption in the trend, where the trendline was broken (marked X) and then the trend resumed (marked with an arrow). On the weekly chart, we find that this break in trend was just some minor pokes to the downside (see the small arrow) while the uptrend remained largely intact all through.

In this example you will find that dealing with downside required very little effort on the daily and weekly charts, but needed more attention on the intra-day chart. Therefore, it is easier to remain invested in Titan using just a trendline as a risk definer (that’s the simplest it can ever get!).

Trading requires you to be a lot more active and here comes the trouble. We can see in the 30-min chart that the main trend remains upward, because the dips respect the trendline, and every bottom is a higher one as prices keep thrusting to new highs. So we need to remain long in this name. But traders also have to deal with corrective phases, because they are a lot closer to the market action than investors. Keeping it in line with the advice of watching the downside, we can look out for two things — first a break of the support trendline and second, a change in the higher top-higher bottom pattern. Until this occurs, the stock is into an uptrend (which, anyway, is being signalled by the weekly and monthly charts). So far, neither has occurred. So the longs are retained through the corrections.

In trading, you can do something additional too. Once the correction is complete and the trend resumes, you can get back in with additional positions. Small trendlines have been drawn on the intraday chart which signals resumption of the trend with a break of the minor trendlines. (Of course, it is possible to do the same on the higher time frame charts as well, but that would require more efforts. As a trader, you are prepared for additional engagement with the market. As an investor, most of us are not).

Watching the downside means you decide the risk. That’s all you control. The reward is decided by the market. You do not control that, ever. But your method can help you track the market’s intent. Leave it to the method to do that work. In the example cited above, Titan seems interested in continuing the trend higher and giving us more profits. It is our job to take them. But we can do that only by being able to address the downside risk and allowing the market to tell us when that is getting out of whack.

Here we have used a simple trendline to define the ongoing trend. As long as it doesn’t break, we can breathe easy on our investments. If the bullish patterns are intact, we can re-enter when the trend resumes. It’s as simple as that. Just let the market do the talking.