Traps & Tips for Every Trader

 

Part 1: 10 traps of every trader 

 

1.     No Prior Planning

 

Most traders perceive the stock market as the place to ?strike it rich overnight?. Everyone who enters the stock market has a common goal: to generate returns from their investment. However, at any one point, there are buyers and sellers ? some will make a profit whilst others incur losses. Like a marathon between buyer and seller, to emerge victorious in this financial game, you require not only intellect and courage, but more importantly a combination of psychological control, patience and a sound trading strategy.

 

Ordinary traders naively believe that profiting from stock merely involves buying low and selling high. As a result they purchase stocks without prior planning solely based on the price of the stock. The lack of strategic planning and ignorance in technical analysis will attribute to these traders? downfall. Without making an informed decision, they enter into the market, clueless of the appropriate time to enter and exit, and as a result, this seemingly unimportant step in planning, will cost them dearly. 

 

2.     Making A Haphazard Entry 

 

Ordinary traders tend to apply the ?wet market mentality? in the stock market. They buy into stocks with prices that have reached historical lows, whilst avoiding stocks that are breaking new highs. These traders are hoping to catch the ?lowest? point. But, just how low is low?

 

The danger with buying stocks cheap is that these stocks are on a downward trend. It could bottom out, and stay there for years. There is an opportunity cost to consider. Also, buying stocks on a downward trend means it could get even lower ? not a healthy stock trend. Hence instead of making profit from these ?cheaper bargains?, they end up losing their capital in stocks that are proceeding downward.

 

3.     Bold When Suffering Losses, Overcautious When Reaping Profit

 

When a stock price falls lower than the purchase price, traders tend to minimize their losses by averaging down. On the surface, it may seem like a logical thing to do. But in actual fact, averaging downwards only makes the losses bigger.

 

For instance, you purchased a stock at $2 and the stock price depreciates to $1.50. Your loss is $0.50. Assuming you apply the downward averaging method and made another purchase at $1.50, you reduce you initial purchase price to $1.75. Your losses seem to be reduced from $0.50 to $0.25. Although it appears as if the loss you incurred is lowered, the problem actually worsens. 

 

How so? If we use the returns from the investment as a yardstick to determine whether the investment is a good choice, from this perspective, averaging downwards would mean that you are investing more of your funds into a bad investment. This increases the severity of the ?bad? investment. In addition, investing more into this bad investment limits your available capital and reduces the opportunity of purchasing other stocks that have more potential. In essence, the downward averaging strategy only makes you incur bigger losses, instead of accumulating wealth. 

 

Most traders can be said to suffer from ?stock market acrophobia? ? fear of heights. In the stock market context, due to the fear of high price, traders often miss the opportunity to profit from a rising share.  

 

Ordinary traders are of the mindset that if a particular stock price is too high, the probability of a sharp fall is impending, and conversely, when stock price is low it is more likely to increase and make profit. Unfortunately, this mindset, although logical on the surface, does not hold true. To profit from a stock investment, the price of the stock is irrelevant. High or low is relative. What matters above all, is the probability of the stock price rising.  

 

In a bullish market, price of all stocks generally appreciate - stock prices will rise higher and higher. And, we hope the future price; will be higher than the current price. Therefore regardless of the price of the stock, as long as the future price is higher than entry price a profit is made. In other words, it?s better to buy HIGH, and sell HIGHER. Then, the supposed ?high? price, is no longer as high as initially thought. Again, High or Low, its just relative to the selling price. 

 

Conversely the perpetual longing to purchase a lower price would mean entering a stock that is proceeding in a downward trend. If you buy LOW, on a downtrend, you are more likely to sell LOWER. This is an impending loss strategy.

 

4.     Unwilling to Face Up to Your Losses

 

Ordinary traders tend to fantasize rather than realize. They are often unwilling to confront their losses thinking that as long as the stock is not sold, no loss has incurred. And, while the loss is still within tolerable limits, traders experience an emotional whirlpool of fear and greed. This results in reluctance to cut loss. Traders naively believing that the stock will rise and that selling the stock is an indication of defeat.  

 

There is a saying in stock market talk ?In the market there are only two types of emotion ? hopeful and fearful. Unfortunately when there?s a need to be fearful everyone is hopeful, when the market is hopeful everyone are fearful?  

 

But, to be a successful trader, one does not need to depend on Hope, or be motivated by Fear. 

 

Do not live in denial. Accept the defeat. Cut loss. Do not let the loss get more severe.

 

As long as these traders are unwilling to accept defeat ? while the loss is still within tolerable limits, the down trend will continue and snowball. Incurring bigger and bigger losses.

 

Many resist cutting loss, hoping for the possibility a price rebound. However, even if the price were to rebound, you can still enter again.

 

Never be overly concerned about the brokerage fees involved in such transactions. Brokerage fees are minimal if compared to the loss. It is always better to recuperate the remaining capital, than to lose all.

 

5.     Careful to Enter, but Neglecting to Exit

 

Most investors are only preoccupied with stock selection and entry price, but are clueless as to when to exit. For instance, if a stock price depreciates after purchase what should be done? When to exit/to stop losses? Conversely, if a stock appreciates in price after purchase, when should one take profit?  

 

Very often investors only realize that they do not know how to minimize losses only after they have incurred a heavy loss. Similarly being ignorant of when to take profit, only realizing when the outlook is no longer optimistic, is also another common mistake of ordinary traders.  

 

In actual fact, knowing when to exit is of paramount importance, as profit or loss is ultimately determined by the exit price. 

 

6.     Quick to Take Profit

 

Ordinary traders are as fearful as mice - Quick to take profit - cash out when there is slight appreciation in stock price. Why? They are afraid and anticipate a sharp price fall. The result - a meager return from their investment.

 

However when there is depreciation in price they are as bold as tigers: they hold on tightly to a stock, adamant to wait for share price to rebound. Or worse yet, they buy more into the stock, thinking that averaging down is the only way to go. This only results in a heavier loss as the stock price tumbles downwards.  

 

When you cash out at the first sign of profit, whilst compensating as the stock loses its value, it is inevitable that losses will be larger than profits. 

 

7.     Trusting Rumors, Tips and Expert?s Advice Wholeheartedly 

 

Ordinary investors devise their own trading strategy from news ? be it ?hot tips?, direct ?from the horses? mouth? or from financial reports, financial analysis or guru?s recommendation. Entrusting their hard earned money in such hearsay is really skating on thin ice.  

 

It would be more productive to invest time and effort to reassess past failures and learn a proper trading strategy, than to acquire supposedly reliable financial gurus? advice and tips.

 

8.     Devoted only to Familiar Stocks 

 

Some investors only invest in stocks they are familiar with. This greatly narrows their stock selection. If these investors are willing to invest some time in researching beyond their familiar stocks and widen their options, there will be a higher probability in investing in stocks with more potential.

 

9.     Lack of Consistency and Discipline  

 

Despite having an efficient trading strategy, certain traders still fumble in the stock market. These traders may be aware of the necessary trading parameters but lack the discipline to abide by them. When the stock price appreciates to a certain level, many are reluctant to take profit as they are unwilling to part with their stocks. This is the result of being overwhelmed by greed  - holding the stock, hoping to earn more. Conversely, when the stock price depreciates these traders are unwilling to sell as they are not willing to incur the loss. This emotional turmoil has made traders lose their opportunity to make minimal losses while maximizing their gains.  

 

It is imperative to abide by certain trading principals ? the rules. And strictly follow a strategy. Traders must practice some emotional discipline.

 

10. Unable to Make Rational Decisions 

 

Most traders are unable to discard their emotions when making investment related decisions - instead of observing market trends and indicators; they rely on their feelings to make decisions. They fail to see that the stock market comprises of masses, hence it is the masses that determines the stock movements, not an individual investor or the trader per se.

 

Part 2: Tips to be a successful trader

 

1.     Go with the Flow

 

In today?s economy where everything is interlinked ? the economy, government, natural and man-made disasters, all affect the stock market. It is almost impossible to predict market trends.  

 

Fortunately, achieving a successful trade does not require you to forecast the entire market trend. It only requires you to observe the market trend, determine whether it is a bull market, a bear market, a correction or a bear market rally. And as long as the market is proceeding in a direction, the situation is to your advantage. Allow the market to decide how you should react: bull market buy long, bear market sell short. If it is undergoing a correction, stay at the sidelines. Not taking position in the market, IS taking a position. A position to stay out.  

 

Remember, the market will always be there. We do NOT need to be in every trade, all of the time. Patience is often a virtue.

 

2.     Have a Trading System and Abide by it 

 

Top-notch traders set their own trading strategy and abide by it religiously. Similarly, to be a successful trader you must have a trading system that you will be confident to apply and to stick to.  

 

A good trading strategy MUST have the following:  

 

1) Take advantage of the market trend

 

2) Stop loss promptly

 

3) Maintain profit  

 

4) Manage risk

 

If we have a good trading strategy, the intra-day price fluctuation should not be our biggest concern. A good trading strategy should prepare you for any possible outcome. It should prepare you for a ?worse/best case scenario?.

 

Therefore having a comprehensive set of trading strategies will enable you to:

 

ü     Know the entry trigger price

 

ü     How much shares to buy per stock

 

ü     Maximum risk of an investment

 

ü     When to hold or sell the stock (in an event the price depreciates)

 

ü     When to let the profit run, when to exit with profit (in the event that price appreciates)

 

ü     When to add position (to a potential stock)

 

ü     When to exit and re-enter (if stock rebounds)

 

3.     Have Conviction in Your System 

 

For you to follow a strategy consistently and with discipline, it must be a tried and tested strategy ? one you have confidence in and can rely on. It has to undergo stringent tests and prove to be effective. Once you have found a good strategy, you must believe in it with absolute faith.

 

In reality, there is no one system that is perfect. Every strategy has its flaws. Also, unless it?s a crystal ball, no one can forecast the future, and predict natural and man-made disasters. Hence, a good strategy must prepare you for a ?worse-case scenario? that is beyond our control. 

 

The effectiveness of any strategy can only be proven after a numerous trades. You must give a strategy time to prove itself. Often, after one failed attempt, many give up. Do not look at short term losses. Persevere, have faith in your strategy and gain control in the market.

 

4.     Be Responsible for Your Trade 

 

Ordinary traders rely heavily on other peoples? advice instead of personal judgment, reproaching others when the stock price depreciates. A successful trader however, will reflect on his actions instead of reproaching others for his loss. It is more crucial to ask if he has followed the trading rules. If he has then subsequent trades should be successful.  

 

An efficient trading strategy takes into consideration all the possible outcomes and it keeps a trader on the alert and confident ? not easily swayed by opinions. The only way to be accountable for your trade is to abide by the trading strategy so every move is rational and defined. 

 

In the event of a mistake, or failure to abide by the rules, be prompt to admit your mistake. Cut loss, and learn from your experience. Avoid committing same mistakes again. Taking responsibility for your actions will make you a successful trader.

 

5.     Play the Game Without Being Overly Concerned About Profit and Loss 

 

All outstanding traders share one thing in common: they are only concerned about the rules of the game and not about specific gain or loss. Any trader who is overly concerned about their capital will experience difficulties executing stop loss when the price depreciates or taking profit at the appropriate time. However if you are able to treat the stock market as a financial game and play by the rules, your wealth will automatically be taken care of.

 

6.     Be Certain of the Risk in any Investment                                     

 

A successful trader knows his risk exposure at his fingertips. Without proper risk management, a trading strategy is never complete.

 

In this financial game, loss is an inevitable outcome, it cannot be eliminated but it can be minimized. To do that, you should do your homework: anticipate the risk involved and minimize the loss. To keep losses to a minimum, one has to be assertive when the price reaches its stop loss point. A stop loss point is the amount that you are prepared to lose, in the event things take a bad turn. With proper risk management, you will be able to recuperate your losses easily. 

 

7.     Manage Your Emotions Well 

 

In the trading arena, you are bound to experience emotional upheavals. This will affect the objectivity of your judgment. Hence it is vital to strike a balance between your emotion and judgment. When a stock price appreciates, never be overly confident. Do no automatically add to your position or invest more. Instead calculate the risk involved before adding to your position. Else, if outcome is unfavorable, losses might be too severe. Conversely when price depreciates, do not be overly discouraged and give up. You might miss out on other potential stocks.

 

If the trading system is followed, you should be confident in your trade. It might seem rather dull as you just need to follow the rules. However, in an event that your trading takes a turn and sends your heart racing, it might be an indication that you have deviated from the strategy!  

 

Always keep in mind that the success of each trade is determined by your ability to control your emotions. Not so much being able to predict the market trend. Any form of emotion - fear, greed, nervousness, desire, anxiety, affects the decision you make.  

 

Managing your emotions is tantamount to your success in the stock market.

 

A market downtrend is only obvious after the event...

Before the event, there will be much optimism (read surge) and happy anticipation present...

My sentiment is leaning with elfin. Averaging down is really not a good strategy.

December 2004 I bought East Tech at 0.25. It was pretty good price to buy, I told myself. So it goes up 0.3 and gave me good dividend. Beginning of 2005 East Tech starts to go downward because business has gone bad. But I hold on and believe the management will turn it around. This is a stupid mistake and this is the second time I hold on to a stock when a company is reporting losses. In August 2005, East Tech reaches all time low of 0.195 so I averaging down. Again the company is still restructuring and the stock is making all time low everyday till 0.075. Beginning of 2007 the bull was running strong and East tech began to show signs of improvement so I averaging down at 0.12. June 2007 East Tech began its up-trend. I sold half at 0.155. Then one day East Tech's volume was high and price goes up sharply. So I queue at 0.21 and I told myself this is quite far fetch but it went through. I was amazed and thank God for it. Not only I got to sell all my East Tech stocks and I also made a small profit. The sharp increase of volume was crazy and SGX send a query to East Tech to clarify this high volume trading. East Tech reply don?t know.

So averaging down works? Yeah, in this case. But look at the time frame. It takes me two and half years to pull it off and during that time frame there were so many stocks I could buy that would give me 100% return. STATS, I swallow 45% loss and bought Eucon and with East Tech, I averaging down. I came out alive with both. If I cut loss at an earlier time with both incident and bought something else, my time frame of recovery will be shorter and I would not miss the Bull Run. Now with these sub-prime crises, I am in a dilemma again. The opening on Monday must be good. My livelihood depends on it. These are my experiences and its no way I am gonna tell you which one is good or bad. That is for you to decide.

The stock market is really a dangerous place to invest. One must come prepared and must be keen to pick up news about the economy, politics, market trend, and etc. Couple weeks ago, the economist ran an article on US sub-prime loan problem. If you pick up the news and holding finance stocks, you should have sold it all. But heck, I don?t even know and understand what?s sub-prime loan and who would have knew US sub-prime woes could create such havoc all over the world. Some news is just hard to pick up and Samsung's slogan without the not. ?With stock, its hard to imagine.? Although I am have been trading since 2000 but I am only a beginner. Couple weeks ago, some guy lost quite a few money with contra play. KiLrOy made a really decent advise begins like this ?Must read lah else how else can you increase your knowledge and differentiate between what is trade management stop and risk management stop and that pyramiding or average down is usually confused with money management?.? Then it hits me; I don?t understand the stock market at all. So I went to the library try to borrow that book KiLrOy recommended and some other book recommended by another person but it did not prevail, one is reference and the other is on loan. So I go investopedia.com to do my reading. It?s a good place to start. Anyway, I am writing this last paragraph just to show my appreciation to KiLrOy. Thanks KiLrOy.

Long time ago I bought ST Assembly at 2.8. The price was all time low back then. This stock shot up to 10 dollars. I thought I made the right decision. Well, it was a wrong decision. It continued its downtrend and I just sit and watch it go down. Then, finally, after a year or so, ST Assembly goes up and went above 3 dollars. Man I should have buy some when it was low I said to myself. I hold on to this stock and hope it will go up further more. Then, it just went down and hit another all time low, 80 some cents. I still did not buy. Then it starts to climb up again and I pick it up at 2 dollars. This time I told myself I would sell it when it reaches to 3. And you know what, it never did get there ever.

Investing ST Assembly was wrong in the first place. After dot com crash, we came to realize its just plain dumb to invest unproven company with great prospect and how great Warren Buffet is. Mr. Buffet said he does not invest in something he does not understand. It does not mean this Nebraskan does not understand tech. company?s nature of business. He probably knows it pretty well. Maybe after reading the annual report, he just does not understand how this new nature of business is going to make money. Mr. Buffet is no venture capitalist but a down to earth investor. And I believe down to earth is the key when we are investing stock.

Charter Semi is even a worst bet than STATS and I still don?t know how can it go up to 19 dollars. It?s just scary now you think about it. Charter Semi is stuck in the middle. It can?t go high end with those powerful Taiwanese foundries, TSMC and UMC, and it also unable to go low end with Chinese and Malaysian firms. Singapore lured TSMC and UMC to set up foundries here. Why? And STATS competitors in Singapore are UTAC and Amkor. I don?t think those two powerful Taiwanese firms, ASX and Siliconware, have operation here. STATS bought Chippac to strengthen itself in this industry. Anyway, I think STATS is in a better position than before.

Investing tech. companies is risky and need a lot of time and energy to study. What drives semiconductor industry so great? It?s someone in the Bell Lab found something very cheap and easy to find that could conduct in high temperature, which is called semiconductor in that chart we came across in chemistry class, and silicon belongs to that family. This revolutionizes the world and vacuum tube makers were vacuumed out. So one day some smart dude in some sort of a lab is going to find something better than silicon. Then out it goes semiconductor industry.

When you start to buy stocks, people tell you to go diversify. Companies also need to diversify business to grow and make money. That?s why I like UMC better than TSMC. Although TSMC is more advance and more able than UMC but I believe UMC is more diversifying than TSMC.

Talk about diversity. Creative is trying to be diversify. So they jump into PC and PC peripherals, which turn out a failure. I mean Creative is in sound card business and wouldn?t it be more attractive to tell your customer, hey I got some state of the art speaker to go along with your state of the art sound card. Now they do have speakers but it?s too late. When you think about computer speakers, Altec Lansing came to mind. Creative is really in a bad position. Those powerful Taiwanese motherboard makers kill off Creative?s low-end sound card business. Actually, they killed off a lot business. When you go pick up a motherboard, it now has build in stuff, sound, modem, Ethernet, graphics, and etc. I mean how can the world let these Taiwanese motherboard makers take up such a big chunk of market share. It?s just plain scary. I don?t think AMD was much a threat to Intel because maybe one day these motherboard maker will tell you, hey I got this build in CPU in my motherboard and of course its not as powerful as Intel but don?t worry I got a spot for Intel CPU if you feel my CPU is not good enough. So now when you go down to Sim Lim, you can find Intel?s motherboards sitting along with Taiwanese boards. Intel does not brag about it and their CPUs still fits with other boards.

What can Creative do?
1. Must strengthen their high-end sound card. They are still the leader in this field. They cannot afford to lose that position.
2. Work with motherboard and notebook makers to get their sound card build in.
3. Do OEM mp3 player. They are starting to do this if I am not wrong.
4. I-Pod has i-tunes to support it. I never used i-pod so really doesn?t understand how it works. So Creative must do the same but not in direct competition with Apple. They must go pure Chinese and who produce the most popular Chinese music. Well, Taiwan of course. But where is the vast market, China of course. Chinese care less about copyright but they are devoted fans because virtually they can download everything and they love to create fan sites about the singer they like. When you do so much for a singer, it means the singer has some influence over you. So if the singer is having concerts and autograph session, they will show up. I don?t think they will bring their mp3 player or pirated CD to the autograph session and fake tickets to concerts. This is plain disrespectful. Why go against the trend of privacy? So Creative i-tunes site must let the Chinese download for free for new album but charge for old album, phone tones and any peripherals like dolls, cloths, and so on. Also let these fans to create fan site in the domain. Then Creative i-tunes site is very comprehensive. Also change the name Zen, its too Japanese.

Sorry about my personal opinions. If you think my opinions are b.s. by all means, go invest in Charter, STATS, and creative. It?s your money. Why should you be persuaded by my words? My point is research and study the company you want to invest. Don?t buy blindly.

Now get back to my story. When STATS drops down again, I told myself I am not going endure this anymore. I sold it at 1.08 and that?s 45% loss not including inflation. I use the money to buy Eucon at 0.105 because broker recommends it. After I bought it, it fell down to 0.085. I hold on because the company is still in healthy state. So it starts to climb up and I stay with it up to 0.215 but I sold it too early. It went across to 0.3 afterwards. This is why TA is important. To me average down is not easy. When is the best time and price to average down? This I really don?t know. I have written too much. I?ll continue next time.