Definitions
Market Direction
We use the phrase market direction to refer to the direction that the market is moving during the day on both the S&P and NASDAQ side of the market. This is not necessarily decided by the change from the prior day's close. For example, if the NASDAQ opens down 50 points and is down 30 points two hours later, the direction of the market during the day is up. The market is moving up, meaning that swing plays and day trades on the long side of the market should be considered more heavily than short plays. This has a lot to do with the Japanese candlestick method of tracking the market. It matters less whether the market opens up or down versus the prior day, and it matters more which direction it is moving during the day. A bull market is often represented by more days in which the market opens, either up or down, and then proceeds higher during the day. Because consistent market direction is important for swing trading the market, we pay a lot of attention to it.
Trigger Prices
A trigger price is the point at which we would enter a trade, either on the long side or the short side. We denote trigger prices as follows. XYZ > 31.50 would suggest a purchase of XYZ if it moved over 31.50. XYZ < 31.50 would suggest a short of XYZ if it moved under 31.50. It is important to understand that you should never "chase" a stock much beyond the trigger point. Here is an example. XYZ closes at $30.75 on Monday. For Tuesday morning, we set a trigger point of XYZ > 31.50. Good news comes out on the stock, and it opens at $32.50. This is one full point above where we would have wanted to purchase the stock. To enter this trade at this point becomes extremely high risk, as often we are only looking to make a couple of points from the trigger. The discipline of entering a transaction is one of the biggest keys to being successful in the market.
Stops
A stop order is an order to execute a trade once the stock trades through a certain price. This can be an order to buy or sell, and it can be an order to entry or exit a trade. The most recognized form of a stop is the stop-loss order. This sets a hard limit for the most a person wishes to lose on a transaction. For instance, person A buys XYZ at $30.50. A stop order is entered at $29, meaning that if the stock moves under $29, it will sell. A hard stop is an order that is actually entered into the system on a good-until-cancelled basis. The difficulty with a hard stop is that the stock could open on bad news sharply under $29, and the order will trigger at the market. A soft stop would be a mental note to examine the situation if the stock hits $29 and then make a determination whether or not to sell the stock. We use both types of stops. In certain situations, it is the closing price of a stock that you don't want to see go under a certain level. Therefore, if a stock dips under the price during the day and comes back up, you wouldn't want to stop out. Some people choose to enter hard stops on all trades. Others who can watch the market regularly keep mental, or soft, stops. Stops can also be used to enter trades. Essentially, when we say that our trigger is XYZ > 31.50, we are suggesting putting in a buy stop of XYZ at 31.50. You need to be able to watch it enough to make sure that it doesn't just gap well above that price. One alternative is a stop-limit order. Many brokerage firms and on-line brokers take these orders. The trade would essentially be, BUY XYZ once it trades above 31.50 with a limit of 31.70. That way, if it trades through that price too quickly, you don't end up buying it significantly higher.
Swing Trading
A swing trade is a trade entered at a specific point based on the daily or weekly chart of a stock with a reasonable profit target and a reasonable stop-loss level. The trade is expected to play out over the course of more than one day, meaning that there is overnight risk. We always weigh the risk/reward of entering a swing trade. Swing trading plays typically take two to ten days to play out. After that point, if the play hasn't hit either the stop or the target levels, consider ending the trade and moving on. The biggest mistake made in the market is not taking losses. No one will hit 100% of their trades. In fact, most professionals consider winning 60-70% to be phenomenal. The secret is to take losses on those trades that don't work out before they become too large, and let the winners become reasonable winners. For example, if you won 60-70% of your trades and made an average of $3000 per trade, but lost only an average of $1500 on the 30-40% that were losers, you're having a pretty good year. Each person needs to set their average gain and loss target based on the size of transaction that they are willing to enter.
Day Trading
The concept of day trading is to buy or short a given stock based on a trading pattern intraday with the intent of ending the transaction before the close of the market. Although conventional wisdom is that active trading is riskier than long-term investing, the reality is that during the day, you have complete flexibility to enter and exit a position. If news comes out overnight, it will be reflected in the price the following morning before any selling can be done. What forms up on a pattern intraday may not continue to impact a stock from a technical perspective the following day. Therefore, when trades are entered due to an intraday pattern, they should be implied day trades, which means the person plans to end the trade by the close. To be successful at day trading, a person needs to expect to run a high-volume of tickets. The person also needs to be able to enter reasonable size in a stock and then sell in several pieces as the stock moves in the right direction (trading can be undertaken on a long or short basis). On rare occasions, usually only if a trade is working well, part of the trade may be carried over night. This turns the trade into a swing trade.
Options
Options are derivative contracts that allow you to purchase and sell the right to buy or sell a specific security. Options can be used as insurance, but they can also be used to profit. All options have a strike price and an expiration month. There are two types of options, calls and puts. Buying a call gives you the right to buy a certain stock at a certain price. Buying a put gives you the right to sell a certain stock at a certain price. Each of these is time-limited. Options expire on the third Friday of each month, and options can be purchased for various time frames, as available per security. For example, let's say stock XYZ is at $48 on January 1. There could be call and puts options for January, February, March, June, and September with strike prices of $40, $45, $50, $55, and $60, for example. The strike prices available will be based loosely on the range of the stock over the previous year. So, if you bought a January 50 call, you would be paying a certain amount of money for the right to buy the stock at 50 until the third Friday in January. If you bought a June 40 put, you would be buying the right to sell the stock at 40 until the third Friday in June. Each contract represents 100 shares of stock. In general, options at the same strike price get more expensive with later expiration dates because the right to buy or sell the stock over a longer period of time is worth more premium. In addition to being able to buy options, an individual can sell, or write, options. For example, person A owns XYZ at $30. The stock is sitting at $48, and the person doesn't want to sell the stock, but doesn't expect it to go immediately higher. The person could write a January or February call and collect money from a buyer. If the stock remains under whichever strike price the person selected until the option expires, the person would get to keep the money that he sold the option for AND get to keep the stock. If the stock ends up above the strike price, it is likely that the owner of the option will choose to buy the stock from the individual at the strike price. Options are high-risk transactions that require a certain amount of experience and understanding.
Futures
When we refer to the futures, we primarily refer to the S&P 500 futures (known as the Spooz by professionals) and the NASDAQ 100 futures (NAZ futures). Like options, these are contracts that expire, although only quarterly instead of monthly. The American index futures markets are some of the most liquid markets in the world and tend to indicate the immediate, momentary direction of the market. Any person trading actively should keep the current contract of the Spooz and NAZ futures on their screen at all times. Any trade entries in either direction should be taken only with consideration of the broad market direction, especially if the goal is a short-term gain.
Strangles
A strangle is a combination ownership of calls and puts on the same security for the same month with slightly differing strike prices. We tend to use strangles on the QQQs, which is the index tracking stock for the NASDAQ 100. The goal of a strangle is to make money on a large move in the market in either direction. For example, on January 1, if QQQ was 40.50, buying a strangle would involve purchasing January 41 calls and January 40 puts of equal size. As the NASDAQ moves in one direction, one leg of the strangle will lose value while the other gains. After a certain point, the one has lost value completely and the other continues to gain. This is a common hedging strategy for institutions and hedge funds, but it can also be used consistently as an individual strategy.
 |
 |
 |
Tradesight Overview Click Here to See How Tradesight Can Make You Money |