Trading Management

The most important thing about trading is money management. The second most important is trading management.

Money management determines how much you risk per trade, how many positions to have at once and what size of positions and what overall correlation is and things of this nature. It also encompasses everything including trade management, but trade management is a separate area of money management that is one of the most important areas of money management.

Trade management determines how you exit and enter a trade. You should know how you are going to manage your position before you even enter. There are some times when you might need to "call an audible". Perhaps typically you sell if the stock doesn't move in 3-5 days to new highs to cut your laggards, but if you see the stock consolidating and maybe even making very short term higher lows, or perhaps everything in it's industry or sector has pulled back yet it has held up and you believe the sector or industry is about to take off you might call an audible.

You might call an audible if the stock hits the target and hold it for longer. In my experience you should very rarely call an audible on your downside risk (letting it go longer for a greater loss) and the second "audible" you should not call often (but less rarely than downside risk) is taking profits early (cutting it short of your target) as that will reduce your winners and increase your losers which when it comes to individual trades is almost never a good policy. You might take profit early if you need to get out of the market to clear your head or if overall portfolio hits a certain "kill switch" threshold according to other money management principals.

Trading management is about getting IN when you have a tight stoploss or small downside, and big upside, and being able to watch tick after tick of the stock not moving and even trading back every now and then before moving forward again and waiting until it hits it's target or gives you your exit signal.

Money management and by some accounts trade management is also knowing when you have enough trades on, and not entering one until you exit the other.

Even though there are better ways to win, psychologically buying a bounce off of an oversold market after there is some kind of buy signal trigger works very well for me. I absolutely have no problem exiting these positions when I should because the chart already looks like crap and if it does not bounce there is no argument about the direction of the trend or whether or not there is "support". And I don't expect my win rate to be fantastic and as such have no problem letting my winners run. I can identify a high probability bounce set up and take profits sooner and still be profitable because of the tight stop that exists in these kind of trades.

I have enough "healthy fear" of getting in the ones where the entire industry is beaten down that I am more likely to do my homework and check to see if financially the company is sound. As a result I have every ability to turn these into an investment if I decide to.

The trade management operates more like a system but I am discretionary enough to adjust.
1)Either trade it like a bounce where my reward is twice that of my risk or higher. (Usually 10-12% sometimes only 8% but never much less.)
2)The stop will be around 4%, but once the stock gets moving, converting to a trailing stop works well and widening that trailing stop to 25% eventually then a "set and forget" mindset works very well. 10-12% upside allows an opportunity for profit taking, particularly if you are concerned that bounce will fail.
3)What doesn't bounce and react well when it should is in trouble. If the stock doesn't start closing above previous candlestick highs after a series of several days consider the bounce attempt failed and don't wait for it to hit your stop and just exit it.
4)Keep an eye on other clues like seasonal data; volume profile and psychological sentiment cycle;price action and current volume;sectors,industries, and similar stocks; and various indicators.

That is how I deal with "bottom picking" and also behave similarly for some momentum trades. I would have different sets of guidelines for dealing with option trades and chart patterns and candlestick patterns and such. The key is always know what you're dealing with and adjust accordingly before you enter.

Once you start dealing with an understanding of how to make different trades and deal with different strategies fit for the given market pick, you can start to look at actual results. Since you will monitor your results you probably want to start off with one system and let that system function for long enough to get results. Ideally you paper trade or look at someone else's results to verify it first, but at some point you will have to analyze real trades to see how they work. What you will want to do is track your trades and determine
1)average % gain to average % loss (and perhaps a nominal amount and how that corresponds to break even so you aren't confused*) Win/Loss Ratio also called "risk/reward" or "reward to risk ratio".
2)Your Win % or Win/Loss%. In other words what percentage of your trades do you close out at your target or higher, and what percentage do you close out at your loss. I have anoher percentage that I say is a "early exit failed trade" because you failed to let the strategy work.
3)average number of days per trade.
*A 20% bankroll loss on $100 is $20. But if win/loss % is 50%, your overall bankroll will break even at a $25 gain. If your position size is small you only need close to 20%, however then fees become a bigger part of it. You probably want to track different theoretical strategies for overall money management strategies to see how it balances out and to properly manage your trade.

You probably want to include your expectations after accounting for fees, but we will get into that another time. Some people like to monitor inter trade drawdown. This will be different than actual risk reward, because they may wait for a daily close below the actual target and they may have a maximum intratrade drawdown of greater than their stop. They may also have a different Risk/ Reward ratio in practice than by intention (stops+targets). I prefer having the ability to let stock run well beyond the target, to account for any potential problems that may surface from stopping out lower than the actual stop, and potential gapdown risks.

Once you look at the system, you can start to see where your big mistakes are. If your success rate is above 50% but you are losing money (and you have accounted for fees), that can only mean you either aren't cutting losers, or aren't riding winners (or a third possibility, you are risking too much capital) The actual gain to loss ratio itself may tell you how good the metric is compared to other system, but the individual average gain and average loss can give you better clues on where specifically to notice the weaknesses.

If you cut losses short every time you may pay a lot more in fees, but other than that, you will need a much smaller gain to break even and make up for all the losses. As such since you probably won't sell immediately when trade works, your win rate doesn't need to be as high. I can't stress this enough. Take for example an "entry on exit" system. Basically you buy at or just below "support". On a close beneath where you bought it, you close out. Your risk is theoretically nothing, but in reality limited to an average daily move plus commissions. If you can risk 0% there is no possible way to screw up the trade. You could "win" only 10% of the time and only gain 3% when you are right and the system would work.

As such the EASIEST way to manage a trade is to enter on the price you will exit.
Realistically you have to EXPECT a downside of 1 full ATR (which is basically the average daily price movement over the last certain number of trading days such as 14). Your profit therefore need to be perhaps greater than 3 times the ATR to be profitable. If you are low funded, you may want to aim for higher reward since on your winning trades you will hold longer, produce fewer trades per year, and even though win % will be smaller, those that you do finally hit will make up for your losses and the fees. The advantage of keeping a ratio of 1 ATR to 2 is that you go through trades quickly and get small results to compound many times over a year. If you are paying a lot in fees and have a small account those small rewards won't be enough to make up for fees.

The next post will cover how to adjust system for Account and trade size.