By Gabe Velazquez, 15-year professional trading career with a focus on intraday and swing trading*
Posted: July 25, 2008
One Saturday in March of 2007, I had the reluctant task of having to sit through eight hours of traffic school. I tried being a good sport about it and got through it fine (the instructor made it bearable). As the class progressed, I began drawing strong parallels between being a safe driver and being a good trader. If you really think about it, many similarities apply.
To be a safe driver requires following the rules. The same goes for successful trading. In both endeavors, transgressions carry with them a commensurate penalty.
In driving, we follow a set of rules imposed on us by "the powers that be". In trading, we get to create our own set of rules. Can you imagine getting into our cars and driving around without any boundaries? Yet, many traders enter the markets without a concrete set of rules.
Driving regulations, if followed, prevent collisions. Trading rules should be designed and implemented to minimize losses and maximize profits. They must also be very personal. By this I mean that the parameters set by a trader will have to comply with that individual's style of trading, temperament for risk and size of account.
This is the reason why it is so important to know yourself when you trade. Someone else's rules will not work for you. Adherence to the rules is much more important than striving to make money.
Traders who undergo protracted drawdowns are usually those who have veered away from following their rules. The lesson here is: In order to take your trading to the next level, you must obey "your rules" above all else.
In taking a look at the market that same week in March, we saw that, indeed, all the indices had a successful retest of the prior lows. So much so, that we were only a few points away from the most recent highs.
Wow, what a difference a week made! What happened to all the hand- wringing about the subprime implosion? Did things really become that much better in a week? I didn't think so.
The FOMC concluded their meeting that Wednesday, and in doing so, made minor changes in the language from previous press releases. This minute adjustment in the statement triggered a huge short covering rally.
This was another great example of the market trading on perception rather than reality. The reality was that that week had turned out to be a consolidation week, but I was certain that that too would change quickly.
The chart shown below gave us a blueprint of what transpired for the week. A couple points of interest: First, note that the slow stochastic was overbought, and the market had begun a corrective phase. The most important point of support, in my mind, was 800 as a break-out threshold. The ER2 rallied 17 points upon breaking this level.
The second focal point was the gap. I pay close attention to gaps. Notice the opening down gap left from the February 27, 2007 sell-off. The line drawn at resistance (where the market had had its recent peak) corresponded to the bottom of that particular gap. If ER2 could get into the gap and fill it, then the probabilities for all-time highs would have become much greater.
From an intermediate term perspective, the trend remained up, so breaking below the 800 mark would have been decisively bearish. This would also have put the March 19 gap in play. (See chart shown below.)
The morning of Wednesday, March 28, 2008, as I put together this piece, the market was going to gap down about six points. This was being attributed to a surge in oil prices caused by the ongoing tensions with Iran. I would then have been looking to see if we would continue to hold the aforementioned support levels, and I would then trade accordingly.
I was quite certain that the 3-day streak of tight choppy trading would break that day, and we would finally see some volatility. Until next time, drive safely and follow your rules while trading.
*Reprinted (and modified) with permission from Online Trading Academy www.onlinetradingacademy.com.
