How to trade-Part 2 Complete guide for intermediate traders
PTS provides simple examples on how to clearly identify new trends in markets. Internalize these methods if you want to win
This training page contains no questions, just images and examples
Contents: Shows several methods of how to see when the trend has changed.
Golden and dead crosses - Trend line breaks - Percent off highs and
lows.
Still here? Good choice. After this page there will be a fun trading
game to enjoy before moving to part 3
Take some inspiration from this video of two methods in a combination. Note how both need to be in position for a trade. Winners are allowed to run.
The lower indicator is the Precision Divergence Finder
"PDF" which finds bottoms where a divergence in Demand
Index occurs.
The Precision Stop Indicator in the upper
panel is used to
confirm the rising trend AFTER the divergence signal.
This is something you can use once you raise
your trading education to a good level.
Begin part two of the beginners guide.
I have sufferred great pains to learn all these points, you
get them free.
Lets get started.
The method of trade timing ( when to buy and when to sell
)
If you think that experts traders always win,
then I have to disabuse you of this myth.
Expert
traders lose regularly, but they win by cutting losses and
letting profits grow and grow.
Just think on
this for a moment. Cutting losses........Running profits.
Let
it sink into your mind deeply as these two little phrases are
more valuable than gold and are one of the keys to success in
trading.
If you can't do it then you will never be a winning
trader.
The method of trading I have found to
be most profitable is known as Trend following.
Trends in stocks and futures etc
The wiggly line above is a very simplified example of the
ebb and flow of stock market trends.
Unfortunately the clarity of
actual market trends is rarely as clear as the diagram above,
if they were then trading would be many times easier than it
is.
So imagine you are on the left side of the
screen and you see the price falling ( turning into a down
trend ) the correct action is place a short trade with a stop
loss that trails to lock in profits and reduce risks.
Once the
trend begins rising the short position can be closed and a new
long position is opened when you buy the market.
Key points to remember about trend following
You don't know how far the price will move up or down
after you buy or sell
You don't know if you will win or
lose on each trade until it is closed.
You are trading
in expectation of the trade making a big move and enter a long
term trend phase.
You will expect to have more losing
trades than winning trades
You will expect to have
bigger winning trade than losing trades
You
don't know how far the price will move up or down after you
buy or sell
This is truthful reality, as those
who claim to predict the future with any level of accuracy are
deluded individuals. We can all make educated guesses and
sometimes will get it right but sometimes we will get it
wrong.
So instead of buying at 100p and pre-deciding
to sell at 110p the best approach is to observe there is a
change in trend and follow it until it ends. The methods of
trend detection will be covered later in this document.
You don't know if you will win or lose on each trade
until it is closed.
Again it is a
frequent occurrence that when we feel 100% sure that a trade
will win, it will be the one that loses. Such is the reason
why many traders lose everything on one big bet "a sure
thing". We must hope for the best and be prepared for the
worst. Thinking backwards is the key to this factor in the
sense that the first thought that comes into the mind of a
good trader will always be "how much can I lose on this trade"
. This seems illogical as the beginner or novice will often
see the other side of it and say to himself "This trade will
make me thousands of pounds".
The uncertainty of
trading must be acknowledged and backed up by risk control.
You are trading in expectation of the trade making
a big move and enter a long term trend phase.
This must be the expectation of the trend following trader or
else it would not make any sense to place a trade. The reason
for this is very simple, if he takes his profits too soon (
making small gains on winning trades ) then he will not have
enough money to pay off the cost of losing trades. .
You will expect to have more losing trades than
winning trades
Winning or losing on a trade (
with no commissions and costs ) is always going to be a 50-50
probability just like flipping a coins for heads and tails and
once you factor into this the cost of dealing - data feeds -
software - educational products - etc then you are left with
more like a 47% - 49% chance of winning on any given trade.
This at first sounds like a negative expectation bet, but it
is only negative if you have equally sized winning and losing
trades. To get a positive expectation trade or bet we need to
make the winning trades bigger or the losing trades smaller or
both. This is essence of successful trading
You
must expect to have bigger winning trade than losing trades if
you choose trend following.
This is based on the negative payout statistic
above, and although it might be hard to believe, most pro
traders only have 30-40% winning trades.
As they run their
profits and cut their losses they make the payout over the
long run become a positive expectation.
In some cases a good
trader might have statistics where his winning trades are 2.5
to 3 times the size of his losing trades so his overall
performance is going to be excellent.
How to
identify a change in trend direction
As this is a beginners guide I will resist adding
complexity to the types and just highlight the simplest ones.
1. Moving average change in direction
2. Two
moving averages crossing over ( one is a longer period than
the other )
3. Percentage change from a high or low point.
4. Trend line is breached.
Moving average
change in direction ( If you don't know what a moving average
is the please see the simple article here )
Trends in the stock market are usually very random and jerky,
so to make life simpler for you to identify a trend change
they often require some method of cleaning or filtering before
they can be reduced to a simple "digital signal process"
This might sound like a complex mouthful of words but it
is really very simple and best shown in a graphic
illustration.
As you can see the
price of the stock above is volatile and chaotic, this makes
trading decisions difficult for the beginner to interpret.
When a moving average is applied (the red line) we
have a very simple technique of measuring the direction of the
trend.
If moving average is rising ( value is
greater than it was on previous day ) we can define this as an
uptrend.
For this simplicity there is a price to pay and that price
comes in the form of DELAY otherwise know as LAG in measuring
of the trend changing direction. This can be a good thing
but it can be a bad thing too.
As moving averages can
suffer from what is known as whipsaw, where they swing too
late and signal an uptrend which is already reached the peak
of its movement and immediately becomes a down trend.
In the diagram above you can see the effects of
whipsaw.
The trend change short signal at 445p was
rather late in coming, and the trend soon changed into an
uptrend which again was signalled late when the market price
was already up to 475.
This results in a loss of 30
points multiplied by your stake.
At this point the reader needs to be
aware that moving average have many advantages AND
disadvantages.
These points will be covered in more depth in
the intermediate sections.
In the diagram above you can see we are using two moving
averages instead of one.
The blue average is 9 periods
( which is known as the fast average ) and the red line is 25
periods which is known as the slow average.
The points
where the trend is defined as being up are when the fast
average crosses over the blue average and is known as a golden
cross.
The down trend is defined when the fast average
crosses below the slow average and is known as a dead cross.
Generally moving average cross over systems use a fast
average approximately 3-4 shorter in length than the slow one.
The example above looks more impressive than the
single moving average example but the reader must not draw any
false conclusions from this as both methods have pitfalls and
merits and here I am just showing the methods of identifying
changing in trend.
Percentage away from
high or low. ( Alternative method of identification
of trend changes )
In the diagram above we have a 10% trend model in
operation. If you examine the blue-red line you can see it
tracks the highest high during the rising trend minus 10% of
the high during the trend and does the opposite when the trend
is down.
EG on the right side of the picture
you can see it went to 1045 and the blue line rose to ( 1045 -
104.5) = 940.5. Once the price fell below 940.5 then trend is
classified as down and the line changed colours to become red.
This is a very clean and simple method of identifying trends
and of course the percentage setting can be altered to suit
each market.
The trend percent indicator is
available free on request to those scoring more than 1200 in
the Trading IQ Game on this site. (must complete all 15 games
in a single weekly period to qualify )
Trend
line is breached learn how to draw trend lines correctly in
this example. When the line is pierced it signals a change in
trend.
In the diagram above we have two clear trend lines. It is
important to understand how to draw these lines correctly.
Up-Trend lines are drawn with the line touching a
succession of low points ( It is prerequisite that there are
least 3 touches )
Down-Trend lines are drawn
with the line touching a succession of high points ( It is
prerequisite that there are least 3 touches )
Trend lines are something that need to be practiced in order
to get them right.
Some charts will be very clear and simple
to identify where to drawn the lines and others maybe so
unclear that it is better not to contemplate drawing line let
alone trying to trade them.
When you see a clear example it
will smack you right in the face as it is so obvious. These
examples are the ones to trade, the ones that require no
effort to spot.
I hope you got the points above.
EVERYTHING
THAT GOES WRONG IN YOUR TRADING IS YOUR FAULT -
LEARN TO BE ACCOUNTABLE-
ACCEPT
RESPONSIBILITY FOR YOUR OWN MISTAKES - OR YOU WILL FAIL.
Congratulations If you understood all the points above. Hold on...Before you head over to part
3.
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About
Precision Trading Systems was founded in 2006
providing high quality indicators and trading systems for a wide range of
markets and levels of experience.
Supporting NinjaTrader, Tradestation and
MultiCharts.
Admin notes
PPage updated July 8th 2023 from
original creation in 2010 - New responsive page GA4 added canonical this. 5/5 html baloon
