We teach our traders how to trade while taking little risk in the marketplace. We teach them the fundamentals and then allow each trader to develop a trading style that suits their personality. Further, we give each trader the freedom to trade whatever stock happens to be in play and in a fashion that suits their style. Unfortunately, this allows for some funky/fancy trading by some. Often these fancy traders are rewarded big for doing the wrong things and this scares me. Let me explain.
We emphasize finding opportunities where the risk is one unit and the reward is at least five units. Some of our traders have developed a style in which all trades have one to three cents of downside maximum. It is rare to see some of them in a trade that offers 2+ points if the original risk was 10–15+ cents.
Why? Because they are not prepared to adjust to trading with smaller size to take into account the extra room needed. And when the stock starts to go in their favor they struggle to hold such small position because they are used to each penny being so much more. What a silly mental hurdle.
On a positive note I admire the amount of hard work that goes into finding plays where their risk is a penny or two and their upside is a dime, quarter or more. No complaints here yet. However, the risk is almost always best defined to a penny or two when you are playing against the trend. And this allows for some abuse by traders with a scalper mentality. And this is a huge problem!!
Don’t get me wrong, there are counter-trend plays that I make when the risk-reward is favorable. But they are certainly not trades to have my biggest size or trades I try to hold for the big move. These are trades in which I am happy I make my nickel, dime or quarter. But I use those extra profits to take pain getting on the right side of the trend!
Further, my list of these plays is small. And I certainly will not make these trades to give up a really good trade2hold position in the direction of the trend. Nor will I make the trade if I think there is a chance I may miss the move on the side of the trend if I get shaken out on the flip. Most importantly, I will not make these fade trades when the trade is fundamentally wrong. Namely, buying near the low of a broken stock.
And this is where I have a huge problem. I am seeing some of our young traders take retarded size on these plays and get rewarded big for doing so. AIG was a stock that came down hard on the open but all new lows were met by buying, always leading to a significant squeeze moves. The up moves were quite dramatic and those long were often rewarded much faster off their entries than those getting short into the up moves. In my opinion, the abuse of this cuteness leads to a terrible habit to get into: fighting the direction of the trend, even if it is for a few seconds. This in part leads to losing focus of the big picture in the stock and keeps a really talented trader from crushing an easy move.
After the close I lost my temper with one of our guys. His argument was that it made sense to buy in front of $50 in AIG from a risk/reward perspective right on the Close. He claimed the risk was only a penny or two. But was the real risk really a cent? What if getting out of the position and flipping cost an extra 5-10 cents of slippage? Further, what happens if the moves are not clean after you flip and you get out for a second loss in a row? Will you get on the trade again when you noticed you were shaken out? What if that second try doesn’t work again? What if you miss getting into the trade much later in the move and then you take another loss because your entry price SUCKS? Oh wait, most of that happened to someone. Also, what about the failed bounce attempts? Is it worth it to buy so close to levels where people have been buying/holding above for a few hours?
To me the biggest risk is not the two cents. It is being able to be in a huge position of strength. Having that flexible of a bias keeps a trader from being in the big picture play. Namely, shorting into the pop after the stock made a new low. After the stock was broken. After the stock failed to bounce. After it had showed strength and failed twice. This all happened once 50.25 was taken out, the stock made a new low, found the retarded buy-the-new-low program and popped to levels where there had been a lot of selling previously. Thank God the stock collapsed and some guys where able to make some money on the short. I bet if there had not been a catalyst there would have been a lot of complaining around that 50 level and how AIG sucks.
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