书摘 - come into my trading room

Come into my trading room

1. Lawrence MacMillan’s Options as a Strategic Investment.

2. How to Buy Stocks by Louis Engel

3. Winning in the Futures Markets by George Angell

4. The Futures Game by Teweles and Jones

5. Economics of Futures Trading by Thomas A. Hieronymus

6. The
   Buffett Way
   by Robert G. Hagstrom.

7. Lawrence McMillan’s Options as a Strategic Investment and use it as a handbook.

8. Sheldon Natenberg’s Option Volatility and Pricing Strategies.

9. Harvey Friedentag’s Options: Investing without Fear has a nice angle on covered writing.

10. The Futures Game by Teweles and Jones

11. Economics of Futures Trading by Thomas A. Hieronymus.

12. Charting Commodity Market Price Behavior by L. Dee Belveal

13. The Inside Track to Winning by Steve Briese

14. Successful trading requires 3 M's -- Mind, Method, and Money. Mind means developing psychological rules that will keep you calm amidst the noise of markets. Method is a system of analyzing prices and developing a decision-making tree. Money refers to money management, which means risking only a small part of your trading capital on any trade.
15. Investors profit by recognizing new trends in the economy and buying into them before the majority wakes up to opportunities. A knowledgeable investor can earn huge percentage gains by holding his position without being terribly active. What are the disadvantages? Investing requires a great deal of patience and an immense supply of self-confidence. All of us are smart after the fact; very few are smart early in the game, and only the tiniest percentage has the emotional strength to make a large bet on their vision and hold on to it.
16. Traders make money by betting on short-term price swings. The idea is to buy when our reading of the market tells us prices are rising and sell when the uptrend runs out of steam.

17. There are two main approaches to profiting from crowd behavior.
    1. The first is momentum trading—buy when a ripple starts running through the crowd, sending the market higher, and sell when that ripple starts losing speed.

    2. The other method is the countertrend strategy. It involves betting against the deviations and for a return to normalcy. Countertrend traders sell short when an upside breakout starts running out of speed and cover when a downtrend starts petering out. Professionals can trade against trends only because they are ready to run at the first sign of trouble. Before you bet on a reversal, be sure your exit strategy and money management are fine-tuned.

18. Before you put on a trade, be sure to know whether you’re investing, momentum trading, or countertrend trading. Once you’ve entered a trade, manage it as planned! Don’t change your tactics in the midst of a trade because then you’ll contribute to the winners’ welfare fund.

19. Markets are more efficient during flat trading ranges, when people are apt to use their heads. They grow less efficient during trends, when people become more emotional. It is hard to make money in flat markets because your opponents are relatively calm. Rational people make dangerous enemies. It is easier to take money from traders who are excited by a fast-moving trend because emotional behavior is more primitive and easier to predict. To be a successful trader you must keep your cool at all times and take money from aroused amateurs. The more emotional a market, the less efficient it is, and inefficiency creates profit opportunities for calm, disciplined traders.

20. Each price represents a momentary consensus of value among market participants. Fundamental values of companies and commodities change slowly, but prices swing all over the lot because the consensus can change quickly.

21. A good signal jumps at you from the chart and grabs you by the face—you can’t miss it! It pays to wait for such signals instead of forcing trades when the market offers you none. Amateurs look for challenges; professionals look for easy trades. Losers get high from the action; the pros look for the best odds.

22. Fast-moving markets give the best trading signals. When markets go flat, many successful traders withdraw, leaving the field to gamblers and brokers. Jesse Livermore used to say that there is time to go long, time to go short, and time to go fishing.

23. Every trading vehicle has to meet two criteria: liquidity and volatility. Liquidity refers to the average daily volume, compared with that of other vehicles in its group. The higher the volume, the easier it is to get in and out. Volatility is the extent of movement in your vehicle. The more it moves, the greater the trading opportunities.

24. Fundamental values, especially earnings, drive prices in the long run, but John Maynard Keynes retorted “In the long run we’re all dead.” The essential rule in any market is “It’s OK to buy cheap, but not OK to buy down.” Don’t buy a stock that’s trending lower, even if it looks like a bargain. If you like its fundamentals, use technical analysis to confirm that the trend is up.

25. Futures used to be called commodities, the irreducible building blocks of the economy. In recent decades many financial instruments began to trade like commodities—currencies, bonds, stock indexes. The term futures includes traditional commodities along with new financial instruments.

26. A future is a contract to deliver or accept delivery of a specific quantity of a commodity by a certain date. A futures contract is binding on both buyer and seller. Futures can be very attractive for those who have strong money management skills. They promise high rates of return but demand ice-cold discipline.

27. An option is a bet that a specific stock, index, or future will reach or exceed a specific price within a specific time. Options offer leverage—an ability to control large positions with a small outlay of cash. The entire risk of an option is limited to the price you pay for it. Options allow traders to make money fast when they’re right, but if the market reverses, you can walk away and owe nothing! Successful stock and futures traders sometimes use options to reduce risks or protect profits. Serious traders buy options rarely and only in special situations, as we will see later in this book. Options are hopeless for poor people who use them as substitutes for stocks because they can’t afford the real thing. “Options are a hope business. You can buy hope or sell hope." Professionals are more likely to write options than buy them. Writing is a capital-intensive business.

28. There are two types of option writers. Covered writers buy a stock and write an option against it. Naked writers write calls and puts on stocks they don’t own, backing their writes with cash in their accounts. Writing naked options feels like taking money out of thin air, but a violent move can put you out of business. You need a minimum of one year of successful trading experience in stocks or futures before touching options.

29. There are three kinds of external barriers to success: commissions, slippage, and expenses.
    1. The bigger your account, the smaller the percentage eaten by commissions and the lower your barrier to winning. Each trade and each seemingly cheap commission raise the barrier to your success. Design a system that doesn’t trade very often. Generally, the full-service brokers are not worth the money.

    2. Slippage depends on the emotional state of market participants. The professional who sells to buyers and buys from sellers is not a social worker. Slippage is the price he charges for rapid action. A limit order lets you control the price, with no assurance of a fill. When you place a market order, a fill is assured, but not the price. A calm and patient trader prefers to use limit orders, since those who use market orders keep losing slivers of capital in slippage. Limit orders work best for entering trades. A serious trader uses limit orders to get in and to take profits, and protects his positions with stops.

30. Successful traders treat themselves to a new computer or software package only after they have enough profit to pay for it. Nine out of ten professionals in any field, be they lawyers, auto mechanics, or doctors, are not good enough.

31. I have two rules for filtering out the worst offenders: avoid services you don’t understand and avoid expensive services. If you don’t understand an advisor, stay away from him. If you cannot understand something after an honest effort, it’s probably because the other guy is giving you double-talk. When it comes to books, I avoid those written in bad English. Language is a reflection of thought, and if a guy cannot write clearly, his thinking probably isn’t too clear either.

32. “Benign skepticism,” that’s good advice for financial traders. Keep your expenses low and remember, any information you receive becomes valuable to you only after you’ve tested it on your data, making it your own.

33. Serious beginners should pick no more than two or three dozen of stocks and track them day in and day out. You need to get to know them, develop a feel for how they move. Do you know when your companies release their earnings? Do you know their highest and lowest prices for the past year? Many professionals focus on just a few stocks, or even on a single one. Begin by choosing two or three currently hot industries. Remember, the depth of your research is much more important than its breadth. You can make more money from a handful of familiar stocks.

34. A daily chart on a computer screen will comfortably show five or six months of history. You also need weekly charts with at least two years worth of history. And it could be helpful to glance at a 10-year chart and see whether that market is high or low in the long-term scheme of things.

35. Charts spanning 20 or more years are especially useful for futures traders. Futures, unlike stocks, have natural floors and ceilings. The floor price of futures is their cost of production. When a market falls below that level, producers start quitting, supply falls, and prices rise. The ceiling for most commodities is the cost of substitution. One commodity can replace another if the price is right.

36. Will live data improve your trading? The answer is “yes” for a few, “maybe” for some, and “no” for most. Trading with live charts looks deceptively easy, while in fact it is one of the fastest games on the planet. Trouble is, you need perfect reflexes to do that. If you pause to think, delay taking a profit, or quibble accepting a loss, you’re dead. When longer-term charts give you a buy or a sell signal, use live data not to day-trade but to dance into or out of positions.

37. Some traders who have lost money fall into paralysis from analysis. They develop a quaint notion that if they analyze more data, they’ll stop losing and become winners. The goal is not to be complete but to develop a decision-making process and back it up with money management.

38. Fundamental factors are very important to a long-term trader who wants to ride major trends for several months or years.  If the fundamentals are bullish, we should favor the long side of the market, and if bearish, the short side. Fundamental analysis is less relevant to a short-term trader or a day-trader.

39. If we can take our ideas from fundamental analysts but filter them through technical screens, we’ll be miles of head of those who analyze only fundamentals or technicals. Bullish fundamentals must be confirmed by rising technical indicators; otherwise they are suspect. Bearish fundamentals must be confirmed by falling technical indicators. When fundamentals and technicals are in gear, a savvy trader can have a field day.

40. Price patterns on our computer screens reveal crowd behavior. Technical analysis is applied social psychology, the craft of analyzing mass behavior for profit.

41. The stock market has become increasingly short-term oriented in recent years. Gone are the days of “buy-and-hold”. The pace of economic change is increasing, and stocks are moving faster and faster. New industries emerge, old ones sink, and many stocks have become more volatile than commodities. Technical analysis is well suited for those fast-paced changes.

42. Markets keep changing, and flexibility is the name of the game. A high level of education can be a handicap in trading. Brian Monieson, a noted Chicago trader, once said in an interview, “I have a Ph.D. in mathematics and a background in cybernetics, but I was able to overcome those disadvantages and make money.”

43. Markets operate in an atmosphere of uncertainty. There is no certainty, only odds. Here you have two goals—to make money and to learn. Win or lose, you have to gain knowledge from a trade in order to be a better trader tomorrow. Scan your fundamental information, read technical signals, implement your rules of money management and risk control.

44. Professionals wait for opportunities but amateurs jump in, driven by emotions—they keep buying strength and selling weakness, bleeding their equity into the markets.

45. A trade is a bet on a price change, but there is a paradox. Each price reflects the latest consensus of value of market participants. Putting on a trade challenges that consensus.

46. An intelligent trader looks for holes in the efficient market theory. He scans the market for brief periods of inefficiency.

47. Every professional knows his edge, but ask an amateur and he’ll draw a blank. A person who doesn’t know his edge does not have it and will lose money.

48. To be a successful trader, you have to develop iron discipline (Mind), acquire an edge over the markets (Method), and control risks in your trading account (Money).

49. Many intelligent people sleepwalk through the markets. Their eyes are open, but their minds are shut. They are driven by emotions and keep repeating their mistakes. It is OK to make mistakes but not OK to repeat them. When you make a mistake for the first time, it shows that you are alive, searching, experimenting. Repeating a mistake is a neurotic symptom.

50. Dot not Blame the Broker. He is your helper—not your advisor. Looking to a broker for guidance is a sign of insecurity, which is not conducive to trading success. To be a successful trader, you must accept total responsibility for your decisions and actions.

51. Traders go through three stages in their attitudes towards gurus. In the beginning, they drink in their advice, expecting to make money from it. At the second stage, traders start avoiding gurus like the plague, viewing them as distractions from their own decision-making process. Finally, some successful traders start paying attention to a few gurus who alert them to new opportunities.

52. Do not blame the Guru. Traders go through several stages in their attitudes towards tips. Beginners love them, those who are more serious insist on doing their own homework, while advanced traders may listen to tips but always drop them into their own trading systems to see whether that advice will hold up.

53. Do not Blame the Unexpected News. The news may have been sudden, but you are responsible for handling any challenges.

54. Do not blame the unexpected news. Most company news is released on a regular schedule. If you trade a certain stock, you should know well in advance when that company releases its earnings and be prepared for any market reaction to the news. Lighten up on your position if unsure about the impact of a coming announcement. If you trade bonds, currencies, or stock index futures, you must know when the key economic statistics are released and how the leading indicators or the unemployment rate can impact your market. It may be wise to tighten your stops or reduce the size of your trade in advance of an important news release. 

55. What about a truly unexpected piece of news—a president gets shot, a noted analyst comes out with a bearish earnings forecast, and so on? You must research your market and know what happened after similar events in the past; you have to do your homework before the event hits you. Having this knowledge allows you to act without delay.

56. Your trading plan must include the possibility of a sharp adverse move caused by sudden events. You must have your stop in place, and the size of your trade must be such that you cannot get financially hurt in the case of a reversal.

57. Do not wishful thinking. When the pain grows bit by bit, the natural tendency is to do nothing and wait for an improvement. A sleepwalking trader gives his losing trades “more time to work out,” while they slowly destroy his account. Professionals, to the contrary, have ironclad plans for getting out, either with a profit or a small loss. One of the key differences between professionals and amateurs is their planning for exits. You may move stops only one way—in the direction of your trade.

58. The best time to make decisions is before you enter a trade. Your money is not at risk, and you can weigh profit targets and loss parameters. Once you’re in a trade, you begin to form an attachment to it. The market hypnotizes you and lures you into emotional decisions. This is why you must write down your exit plan and follow it. Turning a losing trade into an “investment” is a common disease among small private traders, but some institutional traders also suffer from it. If you are losing in the beginning, you’ll lose in the end.

59. Many people have a self-destructive streak. Most people who complain about severe problems are in fact sabotaging themselves. Self-destructiveness is such a pervasive human trait because civilization is built on controlling aggression. As we grow up, we are trained to control aggression against others—behave, do not push, be nice. Our aggression has to go somewhere, and many turn it against themselves, the only unprotected target. We turn our anger inward and learn to sabotage ourselves. Little wonder so many of us grow up fearful, inhibited, and shy.

60. Financial markets lack protective controls against self-sabotage. Are you sabotaging yourself? The only way to find out is to keep good records, especially a Trader’s Journal and an equity curve. You need to become a self-aware trader. Keep good records, learn from past mistakes, and do better in the future. Use the pain of a loss to turn yourself into a disciplined winner.

61. Losers/ Alcoholic Anonymous

62. Years ago I had an insight that changed my trading life forever. Drinking and trading lure people across the line from pleasure to self-destructiveness. Good records are a sign of self-awareness and discipline. Poor or absent records are a sign of impulsive trading. Show me a trader with good records, and I’ll show you a good trader. The first step is to admit that alcohol is stronger than you.  An alcoholic has to change his way of being and feeling to recover from alcoholism.

63. An amateur whose mind isn’t strong enough to accept a small loss will eventually take the mother of all losses. A gaping hole in a trading account hurts self-esteem. A single huge loss or a series of bad losses smash a trader against his rock bottom. Most beginners collapse and wash out. The lifetime of an average speculator is measured in months, not years.

64. Losers Anonymous motto: “Good morning, my name is Hubert, and I am a loser. I have it in me to do serious damage to my account. I’ve done it before. My only goal for today is to go home without a loss.” We must draw a clear line between a loss and a businessman’s risk. A businessman’s risk is a small dip in equity. A loss goes through that limit. As a trader, I am in the business of trading and must take normal business risks, but I cannot afford losses.  Money management rules draw a straight line between a businessman’s risk and a loss,

65. I rely on the principles of AA, another trader relies on her religious feelings, and you may choose something else (such as the house in Kanata Lake). Just make sure you have a set of principles that clearly tells you what you may or may not do in the markets.

66. Sober in Battle: Trading is a battle. You have to prepare yourself, choose your fight, go in when you are ready, and quit after you’ve done what you’ve planned. A man who is cool and sober calmly picks his fights. He enters and leaves when he chooses and not when some bully throws him a challenge. A disciplined player chooses his own game out of hundreds available. He doesn’t have to chase every rabbit like a dog with its tongue hanging out—he lays an ambush for his game and lets it come to him.

67. Successful traders are sharp, curious, and unassuming people. Most have been through losing periods. Successful traders are self-assured but never arrogant. People who survive in the markets remain alert. They trust their skills and trading methods, but keep their eyes and ears open for new developments. Successful traders are often unconventional people, and some are very eccentric. When they mix with others, they often break social rules.

68. Markets seduce greedy traders into buying positions that are too large for their accounts and then destroy them with a reaction they cannot afford to sit out. Successful traders have outgrown or overcome their inner demons.

69. Being a trader is a journey of self-discovery. Trade long enough, and you will face all your psychological handicaps—anxiety, greed, fear, anger, and sloth. Remember, you’re not in the markets for psychotherapy; self-discovery is a byproduct, not the goal of trading. The primary goal of a successful trader is to accumulate equity. Healthy trading boils down to two questions you need to ask in every trade: “What is my profit target?” and “How will I protect my capital?”

70. A good trader accepts full responsibility for the outcome of every trade. You cannot blame others for taking your money. You have to improve your trading plans and methods of money management. It will take time, and it will take discipline.

71. Your defense against self-destructiveness is discipline. You have to set up your own rules and follow them in order to prevent self-sabotage. Discipline means designing, testing, and following your trading system. It means learning to enter and exit in response to predefined signals rather than jumping in and out on a whim. It means doing the right thing, not the easy thing. And the first challenge on the road to disciplined trading involves setting up a record-keeping system.

72. Good traders keep good records. They keep them not just for their accountants but as tools of learning and discipline. If you do not have good records, how can you measure your performance, rate your progress, and learn from your mistakes? Those who do not learn from the past are doomed to repeat it.
    1. Your first essential record is a spreadsheet of all your trades. You have to keep track of entries and exits, slippage and commissions, as well as profits and losses.

    2. Your second essential record shows the balance in your account at the end of each month. Plot it on a chart, creating an equity curve whose angle will tell you whether you are in gear with the market. The goal is a steady uptrend, punctuated by shallow declines.

    3. Your trading diary is the third essential record. Whenever you enter a trade, print out the charts that prompted you to buy or sell. Paste them on the left page of a large notebook and write a few words explaining why you bought or sold, stating your profit objective and a stop. When you close out that trade, print out the charts again, paste them on the right page and write what you’ve learned from the completed trade.

73. Training for Battle includes three features:
    1. The Gradual Assumption of Responsibility: If you are serious about learning to trade, start with a relatively small account and set a goal of learning to trade rather than making a lot of money in a hurry. Keep a trading diary and put a performance grade on every trade.

    2. Constant Evaluations and Ratings: The market tests us all the time, but only a few pay attention. It gives a performance grade to every trade and posts those ratings, but few people know where to look them up. Another highly objective test is our equity curve. Keeping and reviewing records, as outlined later in this book, puts you a mile ahead of undisciplined competitors.

    3. Training until Actions Become Automatic: The point of training is to make actions automatic, allowing us to concentrate on strategy. If you have to stop and think while you’re in a trade, you’re dead. You need to spend time preparing trading plans and deciding in advance what you will do when the market does any imaginable thing. Play those scenarios in your head, use your computer, and get yourself to the point where you do not have to ruminate about what to do if the market jumps. This gives you the freedom to think about strategy. You think about what you want to achieve, and less about tactics of how to achieve it.

74. We can divide them into three groups: buyers, sellers, and undecided traders. Undecided traders are the force that speeds up trading. They are true market participants, as long as they watch the market and have the money to trade it. Each deal is struck in the midst of the market crowd, putting pressure on both buyers and sellers. Price is a consensus of value of all market anticipants expressed in action at the moment of the trade.

75. Technical analysis is a poll of market participants. If bulls are on top, we should cover shorts and go long. If bears are stronger, we should go short. If an election is too close to call, a wise trader stands aside. Standing aside is a legitimate market position and the only one in which you can’t lose money.

76. Individual behavior is difficult to predict. Crowds are much more primitive and their behavior more repetitive and predictable. Our job is not to argue with the crowd, telling it what’s rational or irrational. We need to identify crowd behavior and decide how likely it is to continue.

77. The meaning of prices:
    1. An opening price reflects the influx of overnight orders. Opening prices reflect opinions of less informed market participants. If you are a short-term trader, pay attention to the opening range—the high and the low of the first 15 to 30 minutes of trading. Most opening ranges are followed by breakouts, which are important because they show who is taking control of the market. One of the best opportunities to enter a trade occurs when the market gaps at the open in the direction opposite your intended trade. Suppose you analyze a market at night and your system tells you to buy a stock. A piece of bad news hits the market overnight, sell orders come in, and that stock opens sharply lower. Once prices stabilize within the opening range, if you are still bullish and that range is above your planned stop-loss point, place your buy order a few ticks above the high of the opening range, with a stop below. You may pick up good merchandise on sale!

    2. The high of every bar reflects the maximum power of bulls during that bar. It shows how high bulls could lift the market during that time period.

    3. The low point of each bar reflects the maximum power of bears during that bar.

    4. The closing price reflects the final consensus of value for the day. Closing prices reflect the opinions of professionals. Their normal mode of operations is to fade—trade against—market extremes and for the return to normalcy.

78. Many amateurs jump from one stock to another, but professionals tend to trade the same markets for years. They learn their intended catch’s personality, its habits and quirks.

79. Tails—The Kangaroo Pattern:  A tail is a one-day spike in the direction of a trend, followed by a reversal. It takes a minimum of three bars to create a tail—relatively narrow bars in the beginning and at the end, with an extremely wide bar in the middle. That middle bar is the tail, but you won’t know for sure until the following day, when a bar has sharply narrowed back at the base, letting the tail hang out. A tail sticks out from a tight weave of prices—you can’t miss it. When a market hangs down a tail, go long in the vicinity of the base of that tail. Once long, place a protective stop approximately half- way down the tail. If the market starts chewing its tail, run without delay. The targets for profit taking on these long positions are best established by using moving averages and channels

80. Support, Resistance, and False Breakouts
    1. The painful memories are the reason why the areas that served as support on the way down become resistance on the way up, and vice versa.

    2. Regret is another psychological force behind support and resistance. If a stock trades at 80 for a while and then rallies to 95, those who did not buy it near 80 feel as if they missed the train. If that stock sinks back near 80, traders who regret a missed opportunity will return to buy in force.

    3. Support and resistance can remain active for months or even years because investors have long memories. When prices return to their old levels, some jump at the opportunity to add to their positions while others see a chance to get out.

    4. Keep in mind that support and resistance are flexible—they are like a ranch wire fence rather than a glass wall.

    5. A false upside breakout occurs when the market rises above resistance and sucks in buyers before reversing and falling.

    6. The professionals know there are many more buy orders above the resistance level.  Some were placed by traders looking to buy a new breakout, and others are protective stops placed by those who went short on the way up. The pros are the first to know where people have stops because they are the ones holding the orders. S&P 500 futures are notorious for false breakouts.

    7. Some of the best trading opportunities occur after false breakouts. When prices fall back into the range after a false upside breakout, you have extra confidence to trade short. Use the top of the false breakout as your stoploss point. Once prices rally back into their range after a false downside breakout, you have extra confidence to trade long. Use the bottom of that false breakout for your stop-loss point.

    8. If you have an open position, defend yourself against false breakouts by reducing your trading size and placing wider stops. Be ready to reposition if stopped out of your trade.

81. There are many advantages to risking just a small fraction of your account on any trade. It allows you to be more flexible with stops. When the volatility is high, consider protecting a long position by buying a put or a short position by buying a call. Finally, if you get stopped out on a false breakout, don’t be shy about getting back into a trade. Beginners tend to make a single stab at a position and stay out if they are stopped out. Professionals, on the other hand, will attempt several entries before nailing down the trade they want.

82. Every rally reaches a point where enough bulls look at it and say—this is very nice, and it may get even nicer, but I’d rather have cash. Rallies top out after enough wealthy bulls take their profits, while the money from new bulls is not enough to replace what was taken out.  When the market heads down from its peak, savvy bulls, the ones who’ve cashed out early, are the most relaxed group. Other bulls who are still long, especially if they came in late, feel trapped.

83. As the market rises toward its previous peak, the main question is whether it will it rise to a new high or form a double top and turn down. Technical indicators can be of great help in answering this question. When they rise to a new high, they tell you to hold, and when they form bearish divergences, they tell you to take profits at the second top.

84. An ascending triangle has a flat upper boundary and a rising lower boundary. The flat upper line shows that bears have drawn a line in the sand and sell whenever the market comes to it. They must be a pretty powerful group, calmly waiting for prices to come to them before unloading. At the same time buyers are becoming more aggressive. They snap up merchandise and keep raising the floor under the market.  Savvy traders tend to place buy orders slightly above the upper line of an ascending triangle. Since sellers are on the defensive, if the attacking bulls succeed, the breakout is likely to be steep. This is the logic of buying upside breakouts from ascending triangles.

85. Rising volume tends to confirm trends, and falling volume brings them into question. Markets can move only if enough new losers enter the game to supply profits to winners. Rising volume shows that losers are continuing to come in, allowing the trend to continue. When losers start abandoning the market, volume falls, and the trend runs out of steam.

86. A one-day splash of uncommonly high volume often marks the beginning of a trend when it accompanies a breakout from a trading range. A similar splash tends to mark the end of a trend if it occurs during a well established move. Exceedingly high volume, three or more times above average, identifies market hysteria. That is when nervous bulls finally decide that the uptrend is for real and rush in to buy or nervous bears become convinced that the decline has no bottom and jump in to sell short.

87. Divergences between price and volume tend to occur at turning points. When prices rise to a new high but volume shrinks, it shows that the uptrend attracts less interest. When prices fall to a new low and volume falls, it shows that lower prices attract little interest and an upside reversal is likely. Price is more important than volume, but good traders always analyze volume to gauge the degree of crowd involvement. For a more objective rating of volume use an indicator called Force Index.

88. A beginner shoots at anything that moves, including his own shadow. An old hunter knows exactly what prey he is after and brings only a few bullets. Simplicity and discipline go hand in hand. To be a successful trader, choose a small number of markets, select a few tools, and learn to use them well. You can always expand later, once you make steady profits.

89. INDICATORS—FIVE BULLETS TO A CLIP:
    1. moving averages;

    2. envelopes/channel;

    3. MACD;

    4. MACD-Histogram;

    5. Force Index.

90. Before using any indicator, we must understand how it is constructed and what it measures. We must test it on historical data and learn how it performs under different conditions. Once you start testing an indicator, expect to adjust its settings, turning it into a personal trading tool as reliable and familiar as an old wrench.

91. Toolboxes vs. Black Boxes
    1. Those ads in traders’ magazines sell black boxes—computerized trading systems. A fantastic track record of a canned system is meaningless because it comes from fitting the rules to old data. Any computer can tell you which rules worked in the past. Black-box programs self-destruct as soon as the markets change, even if they include self-optimization. Black boxes appeal to beginners who derive a false sense of security from them.

    2. A good software package is a toolbox—a collection of tools for analyzing markets and making your own decisions. The heart of any toolbox is its collection of indicators—tools for identifying trends and reversals behind the noise of raw data. Good toolboxes allow you to modify indicators and even design your own. Indicators are objective; you may argue about the trend, but when an indicator is up, it’s up, and when it is down, it’s down. Keep in mind that indicators are derived from prices. The more complicated they are, the farther they are from prices and the farther away from reality. Prices are primary, indicators are secondary, and simple indicators work best.

92. We can divide all technical indicators into three major groups:
    1. trend-following,

    2. oscillators,

    3. and miscellaneous.

93. Trend-following indicators include moving averages, MACD (moving average convergence-divergence), Directional System, and others. They have built-in inertia that allows them to lock onto a trend and ride it. That same inertia causes them to lag at turning points.

94. Oscillators include Force Index, Rate of Change, and Stochastic, among others. They help catch turning points by showing when markets are overbought (too high and ready to fall) or oversold (too low and ready to rise). Oscillators work great in trading ranges, where they catch upturns and downturns. Taking their signals when prices are relatively flat is like going to a cash machine—you always get something, although not very much. Their downside is that they give premature sell signals in uptrends and buy signals in downtrends.

95. Miscellaneous indicators, such as Bullish Consensus, Commitments of Traders, and New High–New Low Index, gauge the current mood of the market. They show whether the overall bullishness or bearishness is rising or falling.

96. The Factor of Five, links all timeframes. Every timeframe is related to the next higher and the next lower by the factor of five. Use at least two, but not more than three, timeframes because adding more only clutters up the decision-making process. Choose your favorite timeframe, add the timeframe one order of magnitude higher, and start your analysis at that point.

97. Traders who rely on daily and weekly charts usually apply moving averages to closing prices. Day-traders are better off averaging not closing prices, but an average price of each bar. For example, they can average Open+High+Low+Close of each bar, divided by four. We can apply moving averages to indicators, such as Force Index

98. The wider the time window, the smoother is a moving average. That benefit has a cost. The longer a moving average, the slower it responds to trend changes. The shorter a moving average, the better it tracks prices, but the more subject it is to whipsaws, temporary deviations from the main trend. Shorter MAs are more sensitive to trend changes, but those shorter than 10 bars defeat the purpose of a trend-following tool.

99. To analyze weekly charts, start with a 26-week moving average, representing half a year’s worth of data. On the daily charts, start with a 22-day MA, reflecting roughly the number of trading days in a month. Try to shorten that number and see whether you can do it without sacrificing the smoothness of your MA.

100. The trouble with a simple MA is that each price affects it twice—when it comes in and when it drops out. An exponential moving average (EMA) overcomes this problem. It reacts only to incoming prices, to which it assigns more weight. It does not drop old prices from its time window, but slowly squeezes them out with the passage of time.

101. The most important message of a moving average is the direction of its slope. When a moving average points up, trade that market from the long side. When a moving average points down, trade that market from the short side. As a trader, you have three options: go long, go short, or stand aside. A moving average takes away one of those. When it points up, it prohibits you from shorting and tells you to go long or stand aside. When it points down, it prohibits you from buying and tells you to look only for shorts or stay out. When an EMA starts jerking up and down, it indicates a vacillating, trendless market; it is better to stop using trend-following methods.

102. The only time when it is OK to override the message of a moving average is when trying to pick a bottom after a bullish divergence between MACD-Histogram and price. If you do that, be sure to use tight stops (which means you could be wrong too).

103. Enter long positions in the vicinity of a rising MA. Enter short positions in the vicinity of a falling MA. Use MA to differentiate between “value trades” and “greater fool theory trades.” Most uptrends are punctuated by declines, when prices return to the EMA. When we buy near the moving average, we buy value and can place a tight stop slightly below the EMA. If the rally resumes, we’ll make money, but if the market turns against us, the loss will be small. Buying near the EMA helps maximize gains and minimize risks.

104. If we buy high above the EMA, our actions say, “I am a fool, I am overpaying, but I hope to meet a greater fool down the road who’ll pay me even more.” Betting on the greater fool theory is a poor idea. There are very few fools in the markets. Financial markets do not attract foolish people, and counting on them is a losing proposition.

105. Use a system of dual moving averages to identify trends and enter positions. Use the longer EMA to indicate the trend, and the shorter to find entry points. Suppose you find that a 22-day EMA does a good job identifying trends in your market. Plot it, but then divide its length in half and plot an 11-day EMA on the same screen in a different color. Continue to use the 22-day EMA to identify bull and bear moves, but use pullbacks to the shorter EMA to identify entry points. To find exit points, we turn to our next tool, channels on moving averages.

106. Fundamental values change slowly, but waves of greed, fear, optimism, and despair drive prices up and down. How can you tell when a market has reached an undervalued or overvalued level, a zone for buying or selling? Market technicians can use channels or envelopes to find those levels.

107. In Bollinger bands the spread between the upper and lower lines keeps changing in response to volatility. When volatility rises, Bollinger bands spread wide, but when markets become sleepy, those bands start squeezing the moving average. This feature makes them useful for options traders since volatility drives options prices. In a nutshell, when Bollinger bands become narrow, volatility is low, and options should be bought. When they swing far apart, volatility is high, and options should be sold or written.

108. Traders of stocks and futures are better off with straight channels or envelopes. They keep a steady distance from a moving average, providing steadier price targets. Draw both lines a certain percentage above or below the EMA. If you use dual moving averages, draw channel lines parallel to the longer one.

109. A well-drawn channel contains the bulk of prices, with only a few extremes poking out. Adjust the coefficient until the channel contains approximately 95 percent of all prices for the past several months. Mathematicians call this the second standard deviation channel. Most software packages make this adjustment very easy. Find proper channel coefficients for any market by trial and error.

110. Different trading vehicles and timeframes require different channel widths. Volatile markets require wider channels and higher coefficients. The longer the timeframe, the wider the channel; weekly channels tend to be twice as wide as dailies. Stocks tend to require wider channels than futures. A good time to review and adjust channels in futures is when an old contract nears expiration and you switch to the new front month.

111. If you buy near a rising moving average, take profits in the vicinity of the upper channel line. If you sell short near a falling moving average, cover in the vicinity of the lower channel line.

112. A beginner who sells his position near the upper channel line may regret it several weeks later. In a bull market, what looks overvalued today may look like a bargain the next month. Professionals do not let such feelings bother them. They are trading, not investing. They know it’s easy to be smart looking at old charts, but hard to make decisions at the right edge. They have a system, and they follow it.

113. When prices blow out of a channel but then return to the moving average, trade in the direction of the slope of that MA, with a profit target near the channel line. Prices break out of channels only during the strongest trends. After they pull back, they often retest the extremes of those breakouts. A breakout from a channel gives us confidence to trade again in its direction.

114. If a moving average is essentially flat, go long at the lower channel line, sell short at the upper channel line, and take profits when prices return to their moving average.  Professionals tend to trade against deviations and for the return to normalcy. Amateurs think that every breakout will be followed by a massive runaway move.

115. Channels help us grade the quality of our trades. When you enter a trade, measure the height of the channel from the upper to the lower line. When you exit that trade, calculate the number of points you’ve taken as a percentage of the channel. That is your performance grade. Any trade where you take 30% or more out of a channel earns you an A. If you take between 20 and 30%, your grade is a solid B. If you grab between 10 and 20%, you earn a C. You get a D by taking less than 10% out of a channel or running a loss.

116. Channels can help us decide which stocks or futures to trade and which to leave alone. A stock may have great fundamentals or beautiful technical signals, but measure its channel before you put on a trade. It’ll show you whether the swings are wide enough to be worth trading. You may look at a volatile stock whose channel height is 30 points. If you are an A trader, you should be able to get 30%, or 9 points, out of a trade. Beginners are often seduced by low-priced stocks with strong technical patterns. They cannot understand why they keep losing money. When there is no room for the stock to swing, a trader can’t win.

117. Trading 10,000 shares in a three-point channel is NOT the same as trading 1,000 shares in a 30-point channel, because the ratio of slippage to channel is much higher in narrow channels, raising the external barrier to victory.

118. Low-priced stocks with slender channels can make good investments. A $5 stock is much more likely to rise to $50 than an $80 stock to rally to $800. But those are investments, not trades. As a trader, you are looking to take advantage of short-term swings. That is why you should not waste your energy on any stock whose channel is narrow.

119. In the year 2000 state regulators in Massachusetts subpoenaed records which showed that after 6 months only 16% of day-traders made money. There is simply not enough height in intraday channels to make profits. Using channels to select trades sends a powerful message to day-traders. A person who day-trades the same stocks must be a straight-A trader in order to survive. Anything less, and he’ll be eaten alive by slippage, commissions, and expenses. The chances of becoming a successful day-trader are very low because the channels on intraday charts are not high enough. You must be a straight-A trader to make money out of those minute swings.

120. MACD-Histogram is one of the best tools in technical analysis for catching reversals. A moving average shows us the average consensus of value during a selected period of time. A fast moving average reflects the average consensus during a short period of time, and a slow moving average during a longer period of time. MACD Histogram measures changes in consensus by tracking the spread between fast and slow moving averages. The default values are 12,26 and 9.

121. MACD lines follow trends, and their crossovers mark trend reversals. Like all trend-following indicators, they work best when markets are moving but lead to whipsaws during choppy periods.

122. MACD-Histogram gives two types of signals.
     1. One is ordinary, and we see it at every bar—it is the slope of MACD Histogram. An uptick of MACD-Histogram shows that bulls are stronger than they were at the previous bar, and a downtick shows that bears are gaining. Those upticks and downticks provide minor buy and sell signals, but we shouldn’t read too much into them. Markets do not move in straight lines, and it’s normal for MACD-Histogram to keep ticking up and down.

     2. The other signal occurs rarely, only a couple of times per year on the daily charts of most markets, but it’s worth waiting for because it is the strongest signal in technical analysis. That signal is a divergence between the peaks and bottoms of price and MACD-Histogram.

123. There are no certainties in the markets, only probabilities. Even a reliable pattern such as a divergence of MACD-Histogram fails occasionally, which is why we must exit if prices fall below their second bottom. We must preserve our trading capital and reenter when MACD-Histogram ticks up from its third bottom, as long as it is higher than the first.

124. Hound of the Baskervilles signal (Sherlock Holmes) : An aggressive trader can make that stop “stop-and reverse,” meaning that if stopped out of a long position, he will reverse and go short. When a super-strong signal doesn’t pan out, it shows that something is fundamentally changing below the surface of the market. If you buy on the strongest signal in technical analysis and then your stop gets hit, it means that bears are especially strong, making it worthwhile to sell short. Reversing positions from long to short is usually not the best idea, but the failure of a divergence of MACD-Histogram is an exception.

125. Force Index helps identify turning points in any market by tying together three essential pieces of information—the direction of price movement, its extent, and volume. Price represents the consensus of value among market participants. Volume reflects their level of commitment, financial as well as emotional.

126. Force Index = (Close_today - Close_yesterday) * Volume_today

127. To help pinpoint entries and exits, we should smooth Force Index with a very short moving average, such as a two-day EMA. When the trend of our stock or future is up and the two-day EMA of Force Index declines below zero, it gives a buy signal. When the trend is down and the two-day EMA of Force Index rallies above zero, it gives a sell signal. The key to using a short-term Force Index is to combine it with a trend following indicator. For example, when the 22-day EMA of price is up and the two-day EMA of Force Index becomes negative, it reveals a short-term splash of bearishness within an uptrend, a buying opportunity.

128. When the two-day EMA of Force Index spikes up or down, exceeding its normal peaks or lows by several times, it identifies an exhaustion move— a signal to take profits on existing positions.

129. When the trend is up and the two-day EMA of Force Index traces a sharp upward spike, eight or more times above its normal height for the past two months, it marks a buying panic. The bulls are afraid of missing the train and bears feel trapped and cover shorts at any cost. Such spikes tend to occur during end-stages of bull moves.

130. When the two-day EMA of Force Index traces a sharp downward spike during a downtrend, four or more times deeper than normal for the past two months, it marks an hysterical stage of the downmove. It identifies a selling panic among the bulls, who are dumping their holdings at any price to get out. Such spikes tend to occur at the end-stages of bear moves.

131. Trend reversals do not have to come as a surprise; divergences between Force Index and price usually precede them. If the market is trying to rally, but the peaks in Force Index are becoming lower, it is a sign of weakness among the bulls. The power of this message depends on the length of the EMA with which we smooth our Force Index. If we use a very short EMA of Force Index, such as two days, its divergences help pinpoint the ends of short-term trends lasting a week or so. If we use a 13-day or longer EMA of Force Index, we can identify the ends of longer-term moves that last months.

132. A moving average and MACD are trend-following indicators. Channels, Force Index, and MACD Histogram are oscillators.

133. Quality and the depth of understanding are more important than quantity. A drowning amateur, grasping at straws, keeps adding indicators. A mature trader selects a few effective tools, learns to use them well, and focuses on system development and money management. There are no magic bullets in the markets. There is no perfect or ultimate indicator. A trader who becomes preoccupied with indicators quickly reaches the point of diminishing returns.

134. Elder-ray shows the structure of bullish and bearish power below the surface of the markets. Elder-ray combines a trend following moving average with two oscillators to show when to enter and exit long or short positions.
     1. Bull Power = High – EMA

     2. Bear Power = Low - EMA

135. Elder-ray works by comparing the power of bulls and bears during each bar with the average consensus of value. Bull Power reflects the maximum power of bulls relative to the average consensus, and Bear Power the maximum power of bears relative to that consensus.

136. Bull Power and Bear Power show the length of that rubber band. Knowing the normal height of Bull or Bear Power reveals how far prices are likely to get away from their moving average before returning. Elder-ray offers one of the best insights into where to take profits—at a distance away from the moving average that equals the average Bull Power or Bear Power.

137. Elder-ray gives buy signals in uptrends when Bear Power turns negative and then ticks up. A negative Bear Power means that the bar is straddling the EMA, with its low below the average consensus of value. Waiting for Bear Power to turn negative forces you to buy value rather than chase runaway moves. The actual buy signal is given by an uptick of Bear Power, which shows that bears are starting to lose their grip and the uptrend is about to resume. Take profits at the upper channel line or when a trendfollowing indicator stops rising. Profits may be greater if you ride the uptrend to its conclusion, but taking profits at the upper channel line is more reliable.

138. Stochastic oscillator identifies overbought and oversold conditions, helping us buy low or sell high. Just as important, it helps avoid buying at high prices or shorting at low prices. Since we use oscillators to catch reversals, short-term windows are better; we should reserve longer time windows for trend-following indicators. Five or seven days are a good starting point, but consider testing longer parameters to find the ones that work best in your market.

139. Draw horizontal reference lines at Stochastic levels that have marked previous tops and bottoms, starting with 15 near the lows and 85 near the highs. Look for buying opportunities when Stochastic nears its lower reference line. Look for selling opportunities when Stochastic nears its upper reference line.

140. In a powerful bear market, Stochastic becomes oversold and flashes premature buy signals. This indicator works well only if you use it with a trend-following indicator and take only those Stochastic signals that point in the direction of the main trend.

141. Go long when Stochastic traces a bullish divergence, that is, when prices fall to a new low but the indicator makes a more shallow low. Go short when Stochastic traces a bearish divergence, that is, when prices rise to a new high but the indicator ticks down from a lower peak than during the previous rally. In an ideal buying situation, the first Stochastic low is below and the second above the lower reference line. The best sell signals occur when the first top of Stochastic is above and the second below the upper reference line.

142. Do not buy when Stochastic is above its upper reference line and do not sell short when it is below its lower reference line. These “no go” rules are probably the most useful messages of Stochastic.
     1. Moving averages are better at identifying trends,

     2. MACD-Histogram is better at identifying reversals,

     3. channels are better at identifying profit targets,

     4. Force Index is sharper at catching entry and exit points.

     5. Stochastic identifies danger zones, just like a line of red flags on a ski slope marks unsafe areas for skiers. It says “no go” just when you feel tempted to chase a trend.

143. The idea of an automatic trading system is fundamentally flawed. Automatic systems do not work because the market is not a mechanical or electronic entity that follows the laws of physics. It is a huge crowd of people acting in accordance with the imperfect laws of mass psychology. Physics and mathematics can help, but trading decisions must take psychology into account.

144. A discretionary trader takes in market information and analyzes it using several technical tools. He is likely to shift and apply somewhat different tools to different markets at different times. His decision-making tree has many branches, and he follows them at different times as market conditions change. All branches are connected to the sturdy trunk of his decision-making tree, an inviolate set of rules for risk control.

145. A system trader develops a mechanical set of rules for entering and exiting trades. He back-tests them and puts them on autopilot. Market conditions always change and all systems self-destruct, which is why every amateur with a mechanical system must lose money in the end.  A pro who puts his system on autopilot continues to monitor it like a hawk. He knows the difference between a normal drawdown period and a time when a system deteriorates and has to be shelved and replaced. A professional system trader can afford to use a mechanical system precisely because he is capable of discretionary trading!

146. A system automates routine actions and allows you to exercise discretion when needed. When you detect an obstacle, you deviate from your system, and return to it after the situation returns to normal. And that’s what you need in the markets—a system for finding trades, setting stops, establishing profit targets. You would not try to design a complete system, which would include dealing with the snow, and the bicyclists, and the neighbors because that system would be too complex and still could never be complete—a neighbor could come into your car’s path from another angle.

147. An intelligent trading system includes components that have been back-tested, but the trader retains control over his actions. He has several inviolate rules, mostly having to do with risk control and money management, but allows himself latitude in combining those components to reach trading decisions. An intelligent trading system is an action plan for entering and exiting markets that spells out several specific functions, such as finding trades or protecting capital. Most actions, such as entries, exits, and adjusting stops, can be partly but not fully automated. A trading system is a style of trading, not an automatic turnkey operation.

148. Only one kind of system testing makes sense. It consists of going through historical data one day at a time, scrupulously writing down your trading signals for the day ahead, then clicking your chart forward and recording the trades and signals for the next day. Turn to the weekly chart and note its signal, if any. If it gives you a buy or sell signal, go to the daily chart ending on the same date to see whether it gives you a buy or a sell signal as well. Moving ahead day by day, you develop your decision-making skills. This one-bar-at-a-time forward testing is vastly superior to what you get from backtesting software.

149. People tend to earn in paper trading but lose in real trading. This happens for two reasons. First, people tend to be less emotional with paper. Good decisions are easier to make when your money is not on the line. Second, good trades often look murky at entry time. The easy-looking ones are more likely to lead to problems. A nervous beginner jumps into obvious-looking trades but paper trades the more promising ones. It goes without saying that hopping between real trading and paper trading is sheer nonsense. You either do one or the other.

150. To benefit from a system, you must test its parameters and fine-tune them until that system becomes your own, even though originally it was developed by someone else. Winning takes discipline, discipline comes from confidence, and the only system in which you can have confidence is the one you have tested on your own data and adapted to your own style.

151. The method of Triple Screen is to analyze markets in several timeframes and use both the trend-following indicators and oscillators. We make a strategic decision to trade long or short using trend-following indicators on long-term charts. We make tactical decisions to enter or exit using oscillators on shorter-term charts.

152. Technical indicators help identify trends or turns more objectively than chart patterns. Just keep in mind that when you change indicator parameters, you influence their signals. Be careful not to fiddle with indicators until they tell you what you want to hear.

153. We can divide all indicators into three major groups:
     1. Trend-following indicators help identify trends. Moving averages, MACD lines, Directional system.

     2. Oscillators help catch turning points by identifying overbought and oversold conditions. Envelopes or channels, Force Index, Stochastic, Elder-ray.

     3. Miscellaneous indicators help gauge the mood of the market crowd. Bullish Consensus, Commitments of Traders, New High–New Low Index.

154. A trader must set up a system that takes all groups of indicators into account and handles their contradictions.

155. People who have lost money with daily charts often imagine they could do better by speeding things up and using live data. If you cannot make money with dailies, a live screen will only help you lose faster.

156. The problem with losers is not that their data is too slow, but their decision-making process is a mess. To resolve the problem of conflicting timeframes, you should not get your face closer to the market, but push yourself further away, take a broad look at what’s happening, make a strategic decision to be a bull or a bear, and only then return closer to the market and look for entry and exit points. That’s what Triple Screen is all about.

157. Triple Screen resolves contradictions between indicators and timeframes. It reaches strategic decisions on long-term charts, using trend-following indicators—this is the first screen. It proceeds to make tactical decisions about entries and exits on the intermediate charts, using oscillators—this is the second screen. It offers several methods for placing buy and sell orders—this is the third screen, which we may implement using either intermediate- or short-term charts.

158. Begin by choosing your favorite timeframe, the one with whose charts you like to work, and call it intermediate. Multiply its length by five to find your long-term timeframe. Apply trend-following indicators to long-term charts to reach a strategic decision to go long, short, or stand aside. Standing aside is a legitimate position. If the long-term chart is bullish or bearish, return to the intermediate charts and use oscillators to look for entry and exit points in the direction of the long-term trend. Set stops and profit targets before switching to short-term charts, if available, to fine-tune entries and exits.

159. SCREEN ONE: Choose your favorite timeframe and call it intermediate. Multiply it by five to find the long-term timeframe. Apply trend-following indicators to the long-term chart and make a strategic decision to trade long, short, or stand aside. The original version of Triple Screen used the slope of weekly MACD-Histogram as its weekly trend-following indicator. It was very sensitive and gave many buy and sell signals. I now prefer to use the slope of a 26-week EMA as my main trend-following indicator on long-term charts. When the weekly EMA rises, it confirms a bull move and tells us to go long or stand aside. When it falls, it identifies a bear move and tells us to go short or stand aside. I use a 26-week EMA, which represents half a year of trading. I continue to plot weekly MACD-Histogram. When both EMA and MACD-Histogram are in gear, they confirm a dynamic trend and encourage you to trade larger positions. Divergences between weekly MACD-Histogram and prices are the strongest signals in technical analysis, which override the message of the EMA.

160. SCREEN TWO: Return to the intermediate chart and use oscillators to look for trading opportunities in the direction of the long-term trend. When the weekly trend is up, wait for daily oscillators to fall, giving buy signals. Buying dips is safer than buying the crests of waves. If an oscillator gives a sell signal while the weekly trend is up, you may use it to take profits on long positions but not to sell short.

161. For conservative traders, choose a relatively slow oscillator, such as daily MACD-Histogram or Stochastic, for the second screen. When the weekly trend is up, look for daily MACD-Histogram to fall below zero and tick up, or for Stochastic to fall to its lower reference line, giving a buy signal.

162. A conservative approach works best during early stages of major moves, when markets gather speed slowly. As the trend accelerates, pullbacks become more shallow. To hop aboard a fast-running trend, you need faster oscillators.

163. For active traders, use the two-day EMA of Force Index (or longer, if that’s what your research suggests for your market). When the weekly trend is up and daily Force Index falls below zero, it flags a buying opportunity.

164. The second screen is where we set profit targets and stops and make a go–no go decision about every trade after weighing the level of risk against the potential gain.

165. Set the stops. A stop is a safety net, which limits the damage from any bad trade. You have to structure your trading in such a way that no single bad loss, or a nasty series of losses, can damage your account. Stops are essential for success, but many traders shun them.
     1. First of all, you need to place stops where they are not likely to be hit, outside of the range of market noise.

     2. Second, an occasional whipsaw is the price of long-term safety. No matter how great your analytic skills, stops are always necessary.

     3. You should move stops only one way—in the direction of the trade. When a trade starts moving in your favor, move your stop to a breakeven level. As the move persists, continue to move your stop, protecting some of your paper profit. A professional trader never lets a profit turn into a loss.

     4. A stop may never expose more than 2% of your equity to the risk of loss. If Triple Screen flags a trade but you realize that a logical stop would risk more than 2% of your equity, skip that trade.

166. Set profit targets. Profit targets are flexible and depend on your goals and capital. If you are a long-term-oriented trader, take your profits after the weekly EMA turns flat. Another option is to take profits whenever prices on the daily charts hit their channel line.  If you go long, sell when prices hit the upper channel line and look to reposition on the next pullback to the daily moving average.  A short-term-oriented trader can use the signals of a two-day EMA of Force Index to exit trades. If you buy in an uptrend when the two day EMA of Force Index turns negative, sell when it turns positive.

167. SCREEN THREE: Use an intraday breakout or pullback to enter trades without realtime data. When the first two screens give you a buy signal (the weekly is up, but the daily is down), place a buy order at the high of the previous day or a tick higher. If prices break out above the previous day’s high, you will be stopped in automatically.

168. Daily ranges can be very wide, and placing an order to buy at the top can be expensive. Another option is to buy below the market. If you are trying to buy a pullback to the EMA, calculate where that EMA is likely to be tomorrow and place your order at that level. Alternatively, use the SafeZone indicator (see page 173) to find how far the market is likely to dip below its previous day’s low and place your order at that level.

169. The advantage of buying upside breakouts is that you follow an impulse move. The disadvantage is that you buy high and your stop is far away. The advantage of bottom fishing is that you get your goods on sale and your stop is closer. The disadvantage is the risk of getting caught in a downside reversal. A “breakout entry” is more reliable, but profits are smaller; a “bottom-fishing entry” is riskier, but the profits are greater. Make sure to test both methods in your markets.

170. Use real-time data, if available, for entering trades. You could follow a breakout from the opening range, when prices rally above the high of the first 15 to 30 minutes of trading, or apply technical analysis to intraday charts and finesse your entry.

171. If you use weeklies and dailies to get in, use them also to get out. Once a live chart gives an entry signal, avoid the temptation to exit using intraday data. Do not forget that you entered that trade on the basis of weekly and daily charts, expecting to hold for several days. Do not be distracted by the intraday chop if you are trading swings that last several days.

172. There are three main groups of day-traders: floor traders, institutional traders, and private traders.
     1. What lessons can we learn from the floor? If you are a position trader, you should use limit orders whenever possible. Buy and sell at specified prices, and don’t let the floor scalp you. Another lesson is to stay away from scalping. Try to find one or two trades a day, longer than scalping but shorter than position trades.

     2. Institutional traders generate paper-thin returns on huge volumes of capital. The big boys benefit from economies of scale, but the main reason they stay in the game is to keep themselves visible to potential customers. Their main income comes from commissions and spreads on customer orders. The main thing we can learn from institutional traders is their rigid system of discipline, with managers forcing them to cut losses. We need to design and implement a strict system of money management rules. Institutional traders benefit from focusing on a single market, It pays to choose just a few trading vehicles and learn them well. Private traders have one enormous advantage over institutions, You are under no obligation to buy or sell. You have the freedom of standing aside, Remember, the idea is to trade well, not to trade often. Day-trading demands total concentration on a single market. The two essential features of a good day-trading market are high liquidity and volatility. Liquidity refers to the average daily volume of your trading vehicle—the higher, the better. Volatility refers to the average daily range of your trading vehicle. In stocks, look at those that show up on the list of the most active issues of the day.

173. Momentum traders do not care about company fundamentals; they may not even know what that company does. All they care about is direction and speed. Momentum trading has a built-in psychological contradiction that’s deadly to most people. On the one hand, this fast game is best suited for young people with strong hunting instincts, capable of abandoning themselves to the game. On the other hand, momentum trading requires the cold detached discipline of a professional card counter in a casino. Successful momentum trading requires great discipline. You must identify a price move, hop aboard without waiting for a better confirmation, and jump off as soon as that move slows down. The longer you wait to identify the momentum, the less money is left for you. Taking profits is stressful because of a normal human tendency to hold out for a little more and then beat yourself up for having left too early.

174. Entries for Impulse System: The Impulse System uses a 13-day EMA and a 12-26-9 MACD-Histogram. The EMA is used to find uptrends and downtrends. When the EMA rises, it shows that inertia favors the bulls. When EMA falls, inertia works for the bears. The second component is MACD-Histogram, an oscillator whose slope reflects changes of power among bulls or bears. When MACD-Histogram rises, it shows that bulls are becoming stronger. When it falls, it shows that bears are growing stronger. When the weekly trend is up, turn to the daily charts and wait for both the 13-day EMA and MACD-Histogram to turn up. When both inertia and momentum rise, you have a strong buy signal, telling you to get long and stay long until the buy signal disappears.

175. Exits for Impulse System: The time to buy into a momentum trade is when all your ducks are in a row, that is, when the weekly trend is up and the daily EMA and MACD-Histogram are rising. Hop off as soon as a single indicator turns down. Usually, daily MACD-Histogram turns first as the upside momentum starts weakening. When the buy signal disappears, sell without waiting for a sell signal.

176. The Impulse System encourages you to enter cautiously but exit fast. The Impulse System, like Triple Screen, is a method of trading rather than a mechanical system. It identifies islands of order in the ocean of market chaos. You must be very disciplined to trade this system because it is hard to place an order when the market is already flying, but even harder to quit while you’re ahead without waiting for a reversal. You are not allowed to kick yourself if the trend continues after you get out. If the Impulse System flashes a sell signal, hold off buying; do not trade against it. Such “negative rules,” designed to keep you out of trouble, are among the most useful for serious traders.

177. If you enter when the markets are quiet, your slippage is likely to be lower. Hot markets are good for taking profits because then slippage may work in your favor.

178. Whenever you enter a trade, three factors must be crystal clear in your mind—where to get in, where to take profits, and where to bail out in case of an emergency. Professionals spend a lot of time and energy planning their exits. They always ask themselves where to take profits or cut losses. Survivors know the essential truth—you don’t get paid for entering trades, you get paid for exiting them.

179. Why think about an exit before you enter a trade?  First, knowing your targets and stops allows you to weigh rewards and risks. Price targets and stops prompt you to focus only on trades whose potential rewards far outweigh the risks. The ability to walk away from a potential trade is as important as the ability to decline a drink when you want. Second, setting profit targets and stops before entering trades helps sidestep the pernicious “ownership effect.” We get attached to things we own and lose objectivity.

180. Before entering a trade, you should set two specific price levels, a target and a stop, one above and the other below current prices. This is all you need for a short-term trade, where you shoot at a clearly visible target. You may find a broker who accepts OCO (one cancels other) orders. Then, if your profit target is hit, the stop is automatically cancelled, and vice versa. If your broker does not accept OCO orders, give him your stop and keep an eye on your profit target. Profit targets shift with the passage of time, and protective stops need to be tightened as the trade moves in your favor. Whatever rules you use, write them down and execute immediately once the market hits a profit target or a stop-loss level in accordance with your rules.

181. Statistical studies consistently confirm only one pattern—the tendency of prices to fluctuate above and below value. Markets may be chaotic most of the time, but their overbought and oversold conditions create islands of order that provide some of the best trading opportunities.

182. A well-drawn channel contains approximately 95% of recent prices. Its upper line represents the manic and the lower line the depressive moods of the market. Channels provide attractive targets for profit taking. The idea is to buy normalcy and sell mania or go short normalcy and cover depression.

183. Straight channels or envelopes work better for profit taking than standard deviation channels, or Bollinger bands. Those bands grow wide when volatility rises and narrow when it declines. They help options traders, who depend heavily on volatility, but those of us who trade stocks or futures are better off with straight channels.

184. Channels are for traders, not investors. Exits from investments or very long-term trades are based on the fundamentals or such long-term technical signals as the reversals of a 26-week moving average.

185. If you buy near a rising EMA, place a sell order where you expect the upper channel line to be tomorrow. Adjust this number every day as the channel moves higher or lower. No method, except for hindsight, nails down all tops and bottoms. Robert Prechter said: “Traders take a good system and destroy it by trying to make it into a perfect system.” Greed is a very expensive emotion.

186. If a trend is very strong, you may want to ride swings a little farther. Sell half of your position when prices hit the upper channel line, but use your judgment to dance out of the second half.

187. Force Index can help measure the strength of a rally. When the two-day Force Index rises to a new high, it confirms the power of bulls and encourages you to hold until prices hit the upper channel line. If the two-day Force Index traces a bearish divergence, it shows that the rally is weak and you better grab profits fast.

188. Grade A trader is someone who takes 30% or more out of a channel.

189. Stops are a one-way street. When long, you may raise, but never lower them. Only losers say, “I’ll give this trade a little more room.” You already gave it all the room it needed when you placed your stop! If a stock starts moving against you, leave your stop alone! You were more rational at the time you placed it than you are today, with prices hovering and threatening to hit it. Investors must reevaluate their stops once every few weeks, but traders must recalculate our stops every day and move them often.