As spreads narrowed, the volatility in stocks actually increased. Greg Ghodsi of Raymond James explained at the time, “Less profit leads to less capital and less capital leads to less liquidity.
the good traders adapted. You have to find a way. And for us, this meant trading more actively, heightened setup selectivity, and learning new patterns that worked best for this new market. Hey, you had a choice. You could have become a whiny ex-trader (“Pennies make it impossible to make money”), or adapted and conquered this new market.
Traders should not rely on market flow as their main source of income. A trader’s income should be determined by their own proprietary buy-and-sell systems and decisions—eating what they kill, so to speak.
One-Trick Pony
I encounter too many traders who just live off of one play. Commonly, this play is as follows: a trader sees a big bid and steps in front or sees a big offer and steps in front. This is my definition of scalping, which as we saw, was rampant post-9/11. This is a play that ought to be in your playbook. But it should not be your entire playbook.
One play is not enough. You cannot be a OneTrick Pony.
I understand that this trade works. I understand that there is money with this trade. And I on occasion make such a trade. But you cannot make a career off of one trade. Another market was about to premiere. A new trading play would star. A setup that I had not mastered but needed to.
The market is not concerned with how you would like stocks to trade. Your job is to adapt to what the market is offering.
Buying on pullbacks can be difficult to do.∗ But this is a skill that every trader needs to learn to take his game to a new level. Like any other skill, the more you do it, the better you get at it. Below are a few guidelines that have helped me find good entry points as a stock pulls back from a recent upmove. I will use the current market we are in for examples of what I am looking for. I will be explaining pullbacks from the long side. I also use the same guidelines to short stocks in a weak market.
It helps to be in a trending market (i.e., Market is a bull or bear).
Know what sectors are leading the market’s trend.
I like buying market leaders and leaders in the sectors that are leading the market trend (i.e., GS, AAPL, FCX, TGT).
This point is key: I like to see these stocks pull back to support levels on LOWER VOLUME. Sometimes the pullback is pretty intense, especially in higher-priced stocks. But as long as the volume is average, or better yet, below average, I stay the course. If this occurs, I am pretty confident that this is still a pullback and not a reversal.
I want these leading stocks to pull back to support or key levels. This can mean different things to different traders, depending on their time frame and risk tolerance. To figure out what those levels might be, I like to use the following:
Past resistance as support.
Price action at certain levels. This can happen anywhere, but it means some kind of unusual held bid or a fight that occurred between buyers and sellers where the buyers won.
The stock pulls back to a moving average. I like to use the 14- day, 20-day, 50-day, and 200-day simple moving averages, depending on my time frame.
Another key point: After entering into the trade, I like to see the stock go up on VOLUME. LOW VOLUME ON THE PULLBACK, HIGH VOLUME AS THE STOCK ADVANCES HIGHER. This is a sign of strength.
Lastly, and this goes without saying: WHEN I AM WRONG, I GET OUT OF MY POSITION!! NO IFs, ANDs, BUTs, or MAYBEs ABOUT IT. I am not in the business of averaging down. There is a difference between averaging down and buying in to a pullback. One makes you money and the other ends careers.
These are guidelines to follow, but keep in mind not much in the world of trading is black and white. Be aware that pullbacks can be messy and uncomfortable, especially for newer traders. But your ability to recognize good entry points for strong stocks pulling back in an upward trending market will make you more money and help you become a consistent trader.
Sometimes, stocks that are not kind to you become easier to trade. When a stock is really In Play, they respect levels and trend better. If a sector or a stock is In Play, then I will trade it no matter how poorly it fits my eye during normal trading times.
Professional traders show up for work every day, just like rest of the world. They do not miss days because of overly fun activities the night before. They suck it up, come in, sit in their trading seat, and grind it out. After the Close, they can rest. During the great markets, you squeeze every nickel you can out of the markets. You never know how long they will last.
To last in this business you must reinvent yourself, tweak your profitable setups, and embrace the mindset of change. If you do this, your reward will be improved trading skills, and a larger bank ready to risk on the best of markets.
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