Advice to Prospective/Beginning Traders

When people find out that I’m a trader, I often get asked for more information about trading, how to start, and what I would recommend.  It’s an incredibly difficult and long answer so I thought I would write about it here and detail out my experiences.

Many people are attracted to trading. Trading looks like a glamorous position where you buy and sell instruments making large amounts of cash from anywhere in the world.  And while that is definitely possible, it has been said that 80% of all traders DO NOT make money.  80%! Given Pareto’s Law this should not be too surprising.  Yet the trading books and education out there often make it look so very easy, but that is so you are more willing to buy their materials.  After all, would you be willing to spend $5k on a course that boasts that it will only get you about 2% of the way to being successful?  Not likely.

I like to put trading on the same level as brain surgery.  Both require incredible amount of study and reflection. Trading requires you to learn about charts, indicators, statistics, psychology, economics and more. Both require you to be completely dedicated; would you want a brain surgeon who does it as a hobby?  In trading you go up against the best and brightest people in the whole world, so you better be prepared psychologically and educationally before you start trading. Most of all, trading is a combination of science and art; you can do everything according to plan and still lose money.  You must be able to accept that and move on. I believe that the level of dedication needed to trade successfully is from passion and working with your strengths.  If you have passion for the market, trading, and business and your strengths include mathematics, statistics, computers, programming, pattern recognition and most of all, psychological strength, you stand a chance. If you don’t have passion for trading or your strengths lie in different areas, you are better off not getting involved with trading.

If decide to move ahead with trading, the most important part of trading will be psychology.  Nothing can really prepare you for the emotions that will come up after having made 3 or 4 losing trading in a row, and now you have to put on another trade that matches your system.  If you aren’t completely aware of your emotions and really understand at a deep level that losing trades are a part of trading, then your brain will do it’s best to keep you from making the trade.  And that can be the trade that makes back all of the money lost from the last 3-4 trades and then some.  That’s when it becomes very tempting to get frustrated and head into the downward spiral of emotional trading.  Trading will require you to emotionlessly put on trades that match your system even after 10-20 losing trades in a row.  Trading will require you to hold on to profitable trades when you so want to close it out just to have a profitable trade after so many trades.  Trading will require you to be self-aware so you don’t become frustrated and start “revenge trading” which has led many-a-trader to lose entire accounts in just a few days.

The second most part of trading is understanding risk.  You absolutely must define the risk for a trade BEFORE you put in on.  That way if the trade goes against you, you have place you will close out the trade no matter what to preserve your capital.  Most successful traders don’t risk more than 1% of their account equity on a single trade, which has the benefits of keeping them from becoming emotionally compromised about a single trade and allowing them to have multiple losses but still keep trading.

Next, you must have a trading system written. I personally believe that you need to develop your own trading system even though you can buy many different kinds of trading systems offered by vendors.  My personal experience with trying to trade systems that other people have developed is that you don’t truly understand the system; why it works, what markets it works best for, what the win/loss % is, what your expectancy for the system is, etc.  For example, several trend following systems are very profitable but have winning trades less than 30% of the time (They accomplish this by having winning trades that are much more profitable than their losing trades). But if you don’t know this, you could easily have a streak of 10 losing trades when you start trading it and you begin to think, “This system doesn’t work! I need to look for something else!” Plus there are the added problems of not trading the system as it expects you to, trading it on a markets or instruments that don’t fit the system, or just plain not following the system because the beliefs around the market that led to the system are not the same as the beliefs you hold about the market.

Thus I believe that the best way to trading success is to develop your own system.  This will take a LOT of time reading books, watching videos, looking at charts, testing hypothesizes, back-testing results, and repeating it all over again. There are an infinite number of ways to trade; you have many different methodologies such as trend following, swing trading, band trading, value trading, scalping, market profiling.  There are many different time frames you can trade; monthly, weekly, daily or intra-day.  You can trade stocks, options, futures, and/or currencies. You will need to decide how often you want to be right, how much you are willing to risk on a trade, how you will exit a trade, how you position size your trades.

Malcolm Gladwell’s book “Outliers: The Story of Success” shows that many experts needed to put in a minimum of 10,000 hours of practice before they achieve the success associated with an expert.  I would say that is a pretty good estimate of the amount of time you will need to put into your trading, from psychological self-examination, system development, pre-market homework, simulated trading, and daily trading reviews. However the outcome is you have a system that you know inside and out and will generate money for you anywhere you can get a solid internet connection.

If that appeals to you, here’s how to get started.  I personally think you can learn the most and most cost-effectively from books.  I personally don’t recommend the seminars and courses you see come through town every few months (i.e. Investools, Optionetics, etc).  They are high-pressure sales people selling high-priced information you can easily find in books.

Here are the best books I’ve read that I think key for the beginning trader:

Overall Trading Education

Trade Your Way to Financial Freedom by Dr. Van Tharp

Super Trader by Dr. Van Tharp

Market Wizards by Jack Schwager

The New Market Wizards by Jack Schwager

Come Into My Trading Room by Alexander Elder

Trading For A Living by Alexander Elder

Trading Psychology

Trading In The Zone by Mark Douglas

The Daily Trading Coach by Brett Steenbarger

Technical Analysis

Swager on Futures: Technical Analysis by Jack Schwager

Japanese Candlestick Charting Techniques by Steve Nison

Trading Methodologies

Mind Over Markets by James Dalton

Trend Following by Michael Covel

Here are a couple courses I’ve taken that I like.  They are more expensive then books, but they are worth the price in my mind.

Peak Performance Course by Dr. Van Tharp

How To Develop A Winning Trading System That Fits You by Dr. Van Tharp

That should get you started.  As you go through the materials, you will find things you would like to learn more about which will lead you to other books or websites.  It’s an organic process that will help you learn as much about yourself as you do about trading.  And that may be the biggest reward of all.

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