Starting Out as a Trader

To help you not to make all of the mistakes I have made, here are my trading rules which I will explain in some detail:

1.     Find a Great Platform and/or Broker
2.     Never try to pick a top or a bottom in any market
3.     Trade with the market’s momentum
4.     You never buy at the low or sell at the high
5.    Never, ever, under any circumstances add to a losing position – not ever
6.    Never trade a market you don’t understand
7.     Brokerage
8.    Trade Small

1. Find a Great Platform and/or Broker

The trading world has changed a lot in just the last five years. A few years ago you needed an actual broker to place trades. Now you can do it all on a trading platform, and never actually speak to someone.

In my opinion it is worth paying a bit more in brokerage (commission) to have access to an actual broker you can talk to. If you are starting out and the broker is excellent and has been around for years, it is worth taking their advice especially on the mechanics of trading such as using stop losses etc. They may also make good recommendations which you can analyze and see if you also like.

Now I want to make it clear that I only use my broker to execute my trades. I do NOT use my broker for his trade ideas. But that is because I have been trading for 20 years and I have my own system. When you are starting out it is okay to tap into the wisdom of someone else.

A good broker must have sky-high integrity and be totally honest. He or she must be experienced and highly knowledgeable. In my opinion you should only use a broker that also trades actively and profitably on their own account. Always ask a potential broker what percentage of their personal income comes from doing their own personal trades. If they don’t back themselves why should you listen to them?

It is important to remember that a good trader makes their own decisions. I use my broker to bounce ideas off and sometimes he will call me because he knows my system and he will ask me if I have seen a certain break out in a market. But it is always me pulling the trigger.

I have a terrific broker who meets all of my expectations and he is also a great guy. His name is Graham and if you do your homework and ask a lot of good questions, you may be fortunate enough to find someone as good as him.

If you decide to go just with a trading platform, do your homework before you commit to one. Also remember that you get what you pay for. If your trading platform is free then you will get an okay product that does the job but that does not have excellent charting and often has delayed feed especially for futures contracts. Forex is always up to the second, it has to be.

I use and like the free platform Saxo Trader. You can download a trial version at:

http://saxotrader.saxobank.com

2. Never pick a top or a bottom

It is a fundamental mistake to look at any tradable product and say “It can’t go any higher!” or “It can’t go any lower!” The truth is, markets go much further and for much longer than most people expect.

By trying to guess the top or bottom of a market you are going against the market’s momentum. It’s like standing in the way of a freight train – if you get it wrong you (and your money) will be mowed down.

I made this mistake once in 2000. The New Zealand Dollar had fallen rapidly and was a lot lower than it had been for years. I thought to myself “It has fallen so far, so fast, surely it can’t fall further”. So I bought NZ$100,000 against the US Dollar. The next day it continued to slide and I lost $2,500 in one afternoon. That hurt and I’ve never forgotten it.

Critical Principle 1:  If you try to pick a bottom, all you get is a handful of crap.

Critical Principle 2:  NOTHING is cheap if it is against the trend.

3. Trade with the market’s momentum

Markets tend to move in a particular direction for hours, days, weeks or months and sometimes years. Property markets, share markets, currency markets, commodity markets and so on conform to these cycles.

It is therefore safer and more profitable in general to trade with the market’s momentum. Sometimes this is known as “trading the trend” or “the trend is your friend”.

If for example the US Dollar has been going down against the Japanese Yen for a few weeks, it is more likely to continue to go down rather than change direction. NB this does not mean that it will go down in any particular hour or day but rather that it is likely to be lower in a few weeks time than it is now. You have to be willing to ride out daily and even weekly fluctuations if you are trading a long term trend.

4. You never buy at the low or sell at the high.

It helps me to remember this and I repeat it to myself.

Let’s say that I want to buy into a market that seems too low. I don’t want to try to pick an exact point and buy it there because I am going against the momentum and I will probably get it wrong. If however I wait until it has started moving up and the momentum has changed I can buy it on the way up.

The same thing is true when you exit a trade. No-one can predict the future so you can’t expect to sell out at the very peak. It is almost always a mistake to sell because you think the market has peaked. You need to have a good reason to sell out of a position and usually it will be because you believe the momentum has changed.

It is human nature to want to get it perfectly right but in trading it is foolish to try. Be happy that you picked the correct momentum and made a profitable trade. Never kick yourself because you didn’t buy at the lowest low or sell at the highest high.

This principle is especially important when observing long-term trends. You may observe a market that has been trending upwards for two months and is a long way above its lows. But if you think the trend has another two months left to run you should buy into it and ride it up further. It is irrelevant that you missed the low by two months. If you ride the momentum up and make a profitable trade – celebrate!

5. Never, ever, under any circumstances add to a losing position – not ever!

This is a mistake I have made a number of times and I pretty much lost money every time. Basically the mistake goes like this.

You sell US$100,000 Dollars against the Yen at 106.00, hoping it goes down.
Instead it goes up to 108.00. At this time you mistakenly think “It must turn around soon” so you sell another $100,000 at 108.

One of the perceived advantages is that you have “averaged down” your position. This means that because you sold at 106.00 and then at 108.00, the rate only needs to go to 107.00 for you to break even.

However, you are trying to pick the bottom of the market and you are trading against the trend.

The trend almost always continues and when it goes up to 110.00 you are carrying a large loss position you should never have exposed yourself to.

It’s simple – NEVER add to a losing position.

6. Never trade a market you don’t understand

The people around the world trading the markets are doing it to make profits and they take it seriously. They research and understand what they are trading. If you trade a market you don’t understand you will probably get fleeced.

This happened to me only once. I saw that cocoa (a commodity) was trading at an annual high so I thought I would sell a contract so that I would make money if it went down.

Now there are cocoa traders out there who know everything about cocoa supply and demand, which countries grow it and what their political situation is like, what current weather patterns will affect crops etc. So what are the chances of me taking a chance on a whim, of making money? Frankly I’d be better off taking my money to the casino and putting it all on one hand of blackjack. Needless to say I lost nearly $2,000 – lesson learned!

Simply put – understand what you are trading and why.

7. Brokerage: A note on brokerage and carry costs

Trading profitably on a consistent basis is difficult. For that reason it is essential that you negotiate a low level of brokerage before you start trading.

Brokerage is the commission you pay your broker to enter and exit trades. It also includes the spread (the difference) between the buy and sell price on the instrument you are trading. Even though you want to pay as little brokerage as possible, it is worth paying for a good broker. A good broker will more than make up for a ‘cheap’ broker in experience, advice and integrity.

Another hidden cost of trading is carry costs. These are costs that can add up every day you are in a trade. For example if you buy the Japanese Yen against the New Zealand Dollar you have to pay the high rate of New Zealand interest and you receive the low rate of Yen interest. Given that New Zealand interest is many percentage points higher than Yen interest you need to be aware of the cost of holding this or similar positions.

8. Trade Small

When you are starting out it is very tempting to take positions that risk a large percentage of your capital. Say you start with $10,000. My advice would be to risk no more than 2% of your $10,000 (i.e. $200) on one trade. That way you can get it wrong 50 times in a row before you are wiped out! However most traders are not happy with the small gains possible using only a 2% risk level. Most beginning traders seem to want to make $500 a week from their $10,000, so they take a lot more risk. I know because I talk to beginning traders almost every week. This is the reason so many beginning traders blow up their account (i.e. lose it all). You have to remember that legendary traders who have been managing money for decades are considered legends because they consistently return around 25-30% per year for their clients. Trying to make $500 a week on $10,000 is a 260% annual return. It is just not sustainable.

Regardless of your starting capital, trade small. If you don’t have enough capital to make the exercise worthwhile, work on other ways to increase your capital base. In my opinion you should not attempt to make a full time living as a trader until you have at least $100,000 in capital.

If you find yourself risking 10% of your capital on every trade, remember that just five losing trades in a row will halve your capital. You then have to make a 100% return in your next few trades just to return to your starting capital again!

To help you not to make all of the mistakes I have made, here are my trading rules which I will explain in detail in the next section:

How to Start Trading

1. Read a lot of books about trading

Here are some of my favorites. They are in order of importance for the new trader:



2. Paper Trading

I recommend starting out by “paper trading” which means trading using play money on a trial trading account. You can start with $100,000 and familiarize yourself with the systems and strategies before you put up real money.

NB While paper trading can be fun and a great learning experience, psychologically it is completely different from real trading. Losing 20% of your trading capital in a paper trade doesn’t hurt, but in real money it really hurts! Similarly a 20% profit is inconceivably better in real money than play money!

3. Trading DVDs

There are lots of good trading training DVDs you can buy. Have a look on Amazon. I recommend getting the training DVDs of market legends if you can. There is no point getting training books and DVDs from people who are just trying to make money from new traders. So pick legends in the industry who have been good enough to make DVDs. One I really like is:

Mark Cook’s “Trading Like a Pro”. It is available on Ebay.

If you have a good amount of time to spend watching trading videos I highly recommend the website:

www.tv.ino.com

On this website are literally hundreds of trading videos you can watch online. It costs US$100 per year. But is it an amazing store of knowledge.

4. My FREE Trading Guide

You can download my FREE Trading Guide at:

www.Tradingbook.org/free-guide

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