Steve gives us an insight into the methods he uses for trading and what his trading day is like
How did it all start? (How did you get into trading?)
When I was in college I discovered that a savings account was a guaranteed loser after inflation for me, and a guaranteed winner for the bank. I was an electrical engineering major and was researching potential places to work when I graduated. I started following several technology companies, and watching their stock prices. I wondered what made good companies and what drove the stock prices so I began reading about investing. I found it interesting and investing became one of my life long passions.
How did you learn to trade? (Are you a self-taught trader or did another trader/mentor pass on valuable lessons to you?)
Like many traders I started out reading books and attending seminars. I found that most of the books provided a few examples of trades that worked but very little information on how often the trades worked, what type of market conditions they worked best in, or position sizing and money management. The breakthrough for me came when I started doing my own research and backtesting. I have found that the trick to trading is not to have a favourite strategy, but to have a tool box full of them and select the appropriate strategy for the current market conditions.
Which markets do you trade and how often?
I trade specific patterns, not specific stocks or markets. I trade these patterns wherever they occur because I have tested them and found them to be productive. I run a dozen scans on my data base every evening. These scans look through the stocks in my data base to find patterns of interest. The patterns are ones that I have backtested and found interesting to trade in the current market conditions. The number of trades I make depends on market conditions and may range from zero to more than ten a week. If the market is presenting me with good money making opportunities I take the trades, if not I pass.
What is your basic approach to analysing and trading the markets?
Successful traders adjust their trading style, trading system; holding period, exit strategy, etc based on the current market conditions. This is a process I refer to as "Market Adaptive Trading". It is difficult to cover this entire subject in an interview, so I have posted an article on my website, www.daisydogger.com that readers can review.
Imagine that you hired a carpenter to build an addition to your house and he shows up in the rain dressed in shorts, and only brought a screwdriver. Most people would fire the guy. He isn't prepared for the conditions, and lacks the tools for the job. Traders need to "dress for the weather" by having multiple tools that have been carefully tested in different market conditions and know how to read the market and know when to use which tool. Trading with one system in all markets is like trying to build a home addition with just a screwdriver.
I focus on short term strategies and techniques when the market conditions indicate that that is the best approach. I focus on longer term strategies and techniques when the market tells me that is the best approach. I don't trade by what I prefer, I trade based on what the market prefers.
How do you pick your trades?
Trading opportunities are presented by my trading systems. I use over a dozen different scans every evening. I trade the ones that have tested best for the type of conditions the market is currently experiencing. Time should be spent carefully evaluating trading systems and market conditions, not each and every potential trade that the system identifies. The process I use for evaluating trading systems is outlined in an article on my website. Go to www.daisydogger.com and click on "Pullback Setups".
When presented with more trading opportunities than I am currently willing to take, I look for the opportunity that triggered on the largest increase in volume. Volume is the interest or pressure behind a move.
Carefully consider the point risk in the trade which is the difference between the entry price and the initial stop loss placement under the low of the setup pattern. Use this to calculate the number of shares or contracts to take as outlined above.
Know your exit point before you take the trade. If you don't know exactly how will be taking profits do not enter the trade. Successful exit strategies will depend on market conditions, but if you don't have one then you are in buy and hope mode. Hope is not a strategy.
How important is "volume" in deciding your trade?
Volume measures the interest and pressure behind a move. Volume analysis is a critical part of most of my trading systems because backtesting results indicate that it makes a difference in results. One of my systems uses only volume analysis, it does not consider the price action at all, volume is very important in picking successful trades.
I am a student of price and volume. All indicators are derived from price and volume, and it is better to be able to read them directly than to have a complex or unknown math formula in the way.
I start by analyzing the current market conditions to determine what type of trading system, trading style, and exit strategies to use. I then select the best tools from my trading tool box and take trades that trigger.
I do not trade patterns or systems that I have not extensively backtested and have a clear understanding of how they work and how various factors and market conditions influence them
How important are breakouts and pullbacks in your style of trading?
I have a number of different pullback systems that test well. I change the position sizing and exit strategies depending on the current market conditions. The market will not adapt to us, we must adapt to it and one of the ways to do that is by adjusting position sizing and exit strategies based on market conditions.
Many traders focus on various types of breakout strategies because there are several popular books describing them. These approaches tend to work in Bull markets, but the results are marginal in trading range markets and there are better approaches to use in trading range markets.
I ran several tests that involved buying the QQQQ when it made new ten and twenty day highs and compared the results to buying the QQQQ when it made a new ten or twenty day low. In both cases the positions were held for five days then sold. Over the past three years all four approaches showed profits, but buying the ten and twenty day lows and holding for five days far out performed the approach of buying new highs. This is one reason that a number of professional traders have some type of pullback system in their toolbox.
Much of what traders hear about market behaviour or trading is just wrong. Don't trade any system until you have tested it yourself and clearly understand how it performs in different market conditions and with different filters. Readers may wish to refer to one of the articles on my web site, www.daisydogger.com that outlines some of the testing process I use before trading a system.
What type of technical analysis do you find works best in the current Bull market? (And will that analysis still hold in a Bear market, or will it be different?)
I have clearly defined systems for Bull, Bear, and Trading range markets. Each tool has been tested in all three market environments and I clearly understand how the tools perform during the transition from one type of market condition to another. Using the same system in all three market environments will give you a lot of practice at taking draw down's.
Trading pullbacks in up trending stocks during bull market conditions tends to work well. The same system may be used when the market is in a wide trading range, but the exit strategies and holding times need to be different because of the way that stocks behave in trading ranges. In this case the same "technical analysis" or system may be used in two different market conditions, but unless the holding times and exit strategies are changed the results will be poor.
New traders tend to focus on learning one system and trying it in all market conditions. After several consecutive losses they try another system, and then another, in a never ending search for the "holy grail" of trading. Many new traders think that if they just have one more piece of information they can avoid losing trades, and see huge returns like are claimed in the slick brochures we all get in the mail. There is a difference between a marketer's illusion and the real world.
Do you think mechanical traders can be just as successful as those that analyse the markets each day themselves?
Yes.
Do you think "more" or "less" is better when it comes to indicators?
Less is clearly better.
All indicators are derived from price and volume. Learn to read the supply and demand demonstrated by price and volume charts, and leave the indicators to the marketing people. In looking at fifty different indicators I have not found one that is strongly predictive by itself in all three market conditions. Traders should not have anything on their charts that has not been clearly shown to be predictive.
Many traders use Stochastic and the MACD to help them with trades. When I teach trading techniques at seminars I show backtesting data that illustrates that neither of these is particularly useful in timing the market. People agree with the data but continue to use them anyway. There is some comfort is using Stochastic to see that a stock is oversold or over bought. The problem is that over bought often becomes more over bought, especially in trending markets. The Stochastic as defined by George Lane relates current price levels to the 21 day price range; this is something one can clearly see on the price chart so the indicator offers nothing new.
Stop looking for the perfect indicator, it does not exist. The marketing guys have made more money selling new indicators than the people using them. Most successful systems are very simple, and are used by people who have thoroughly analyzed them in various market conditions. There are few if any systems that work well in all market conditions. You will come closer to the "holy grail" by learning to analyze current market conditions and select the proper tools than you will by focusing on anything else.
What are your thoughts on trading using "fundamental analysis"?
When people look at the "fundamentals" do they look at numbers for the last 12 months or projections for the next 12 months? Most people tell me they look at the next 12 month projections. Well, projection is another work for guess. Trading on someone else's guesses in not a great strategy.
When companies report earnings are they GAPP, or some other system determined by each company? Do sales include just end user sales or product in the channel? I know companies that engage in "channel stuffing" when times get tough. Then there enough cases of outright fraud to keep the SEC busy check their website. In many cases it is difficult for the individual investor to know exactly what the "fundamentals" represent or to be able to compare them between companies.
There is also the problem of "street expectations". The reaction to earnings news may be driven more by what the "street" expected, rather than the actual numbers. Who sets expectations? There are even web sites that report "whisper numbers".
There are constantly a number of cases where stocks with "great fundamentals" are punished, and ones with poor fundamentals or even ones with no fundamentals that go on a tear. "Fundamentals" clearly are not the only thing that has a bearing on the stock price, and in many cases it is unclear that they have much of a bearing at all on the current stock price.
Stock prices are driven by supply and demand. Demand shows up on the charts and cannot be hidden or manipulated. I trade the charts. Period.
What is your trading day like? (What time do you start trading, what preparation do?)
Every evening I first review the current market conditions. Is the market in an uptrend, downtrend, or trading range? Where are the key support and resistance levels? What would cause me to be interested in Longs or shorts? What do the market conditions tell me about position sizing and exit strategies? After analyzing the market I run a dozen well tested scans which typically show me 15-20 interesting setups. I enter these setups into an alerts screen which will beep the next day if a trigger point is approached. When this process is completed I am ready for the next trading day. If you are interested in my analysis of the current market conditions and the setups I am currently watching send a request to [email protected].
During the trading day I usually avoid trading during the first 20 minutes unless something triggers on outstanding volume. When I get a trigger I bring up the chart to verify the pattern then check the volume and estimate what the volume will be for the current session. If the market, stock pattern and volume pattern all signal go then I enter the trade. Immediately after entering a trade I enter two orders in "order cancels order" format. The first order is an initial protective stop loss just under the low of the setup pattern. The second order is a limit order placed just under a price target. Price targets are different depending on the pattern and the market conditions.
After the first three hours of trading I work on other things until after the market is closed and I can download the data for my stock data base and start the process again.
What do you consider are the most important elements in becoming a successful trader?
When I meet traders I am often asked what the key to successful trading is. I have found through 20 years of market experience that there are three keys to successful trading. Making money in the market involves knowing what to trade, when to trade, and an ability to vary your trading style to match the current market conditions. Trading the same way all the time, or using the wrong set up's, can just churn your account and give you a lot of practice at taking draw down's.
Successful traders are students of the market, not listeners to financial TV shows. Successful traders have invested time in carefully testing systems in different market conditions and know which one to use in the current market.
How did it all start? (How did you get into trading?)
When I was in college I discovered that a savings account was a guaranteed loser after inflation for me, and a guaranteed winner for the bank. I was an electrical engineering major and was researching potential places to work when I graduated. I started following several technology companies, and watching their stock prices. I wondered what made good companies and what drove the stock prices so I began reading about investing. I found it interesting and investing became one of my life long passions.
How did you learn to trade? (Are you a self-taught trader or did another trader/mentor pass on valuable lessons to you?)
Like many traders I started out reading books and attending seminars. I found that most of the books provided a few examples of trades that worked but very little information on how often the trades worked, what type of market conditions they worked best in, or position sizing and money management. The breakthrough for me came when I started doing my own research and backtesting. I have found that the trick to trading is not to have a favourite strategy, but to have a tool box full of them and select the appropriate strategy for the current market conditions.
Which markets do you trade and how often?
I trade specific patterns, not specific stocks or markets. I trade these patterns wherever they occur because I have tested them and found them to be productive. I run a dozen scans on my data base every evening. These scans look through the stocks in my data base to find patterns of interest. The patterns are ones that I have backtested and found interesting to trade in the current market conditions. The number of trades I make depends on market conditions and may range from zero to more than ten a week. If the market is presenting me with good money making opportunities I take the trades, if not I pass.
What is your basic approach to analysing and trading the markets?
Successful traders adjust their trading style, trading system; holding period, exit strategy, etc based on the current market conditions. This is a process I refer to as "Market Adaptive Trading". It is difficult to cover this entire subject in an interview, so I have posted an article on my website, www.daisydogger.com that readers can review.
Imagine that you hired a carpenter to build an addition to your house and he shows up in the rain dressed in shorts, and only brought a screwdriver. Most people would fire the guy. He isn't prepared for the conditions, and lacks the tools for the job. Traders need to "dress for the weather" by having multiple tools that have been carefully tested in different market conditions and know how to read the market and know when to use which tool. Trading with one system in all markets is like trying to build a home addition with just a screwdriver.
I focus on short term strategies and techniques when the market conditions indicate that that is the best approach. I focus on longer term strategies and techniques when the market tells me that is the best approach. I don't trade by what I prefer, I trade based on what the market prefers.
How do you pick your trades?
Trading opportunities are presented by my trading systems. I use over a dozen different scans every evening. I trade the ones that have tested best for the type of conditions the market is currently experiencing. Time should be spent carefully evaluating trading systems and market conditions, not each and every potential trade that the system identifies. The process I use for evaluating trading systems is outlined in an article on my website. Go to www.daisydogger.com and click on "Pullback Setups".
When presented with more trading opportunities than I am currently willing to take, I look for the opportunity that triggered on the largest increase in volume. Volume is the interest or pressure behind a move.
Carefully consider the point risk in the trade which is the difference between the entry price and the initial stop loss placement under the low of the setup pattern. Use this to calculate the number of shares or contracts to take as outlined above.
Know your exit point before you take the trade. If you don't know exactly how will be taking profits do not enter the trade. Successful exit strategies will depend on market conditions, but if you don't have one then you are in buy and hope mode. Hope is not a strategy.
How important is "volume" in deciding your trade?
Volume measures the interest and pressure behind a move. Volume analysis is a critical part of most of my trading systems because backtesting results indicate that it makes a difference in results. One of my systems uses only volume analysis, it does not consider the price action at all, volume is very important in picking successful trades.
I am a student of price and volume. All indicators are derived from price and volume, and it is better to be able to read them directly than to have a complex or unknown math formula in the way.
I start by analyzing the current market conditions to determine what type of trading system, trading style, and exit strategies to use. I then select the best tools from my trading tool box and take trades that trigger.
I do not trade patterns or systems that I have not extensively backtested and have a clear understanding of how they work and how various factors and market conditions influence them
How important are breakouts and pullbacks in your style of trading?
I have a number of different pullback systems that test well. I change the position sizing and exit strategies depending on the current market conditions. The market will not adapt to us, we must adapt to it and one of the ways to do that is by adjusting position sizing and exit strategies based on market conditions.
Many traders focus on various types of breakout strategies because there are several popular books describing them. These approaches tend to work in Bull markets, but the results are marginal in trading range markets and there are better approaches to use in trading range markets.
I ran several tests that involved buying the QQQQ when it made new ten and twenty day highs and compared the results to buying the QQQQ when it made a new ten or twenty day low. In both cases the positions were held for five days then sold. Over the past three years all four approaches showed profits, but buying the ten and twenty day lows and holding for five days far out performed the approach of buying new highs. This is one reason that a number of professional traders have some type of pullback system in their toolbox.
Much of what traders hear about market behaviour or trading is just wrong. Don't trade any system until you have tested it yourself and clearly understand how it performs in different market conditions and with different filters. Readers may wish to refer to one of the articles on my web site, www.daisydogger.com that outlines some of the testing process I use before trading a system.
What type of technical analysis do you find works best in the current Bull market? (And will that analysis still hold in a Bear market, or will it be different?)
I have clearly defined systems for Bull, Bear, and Trading range markets. Each tool has been tested in all three market environments and I clearly understand how the tools perform during the transition from one type of market condition to another. Using the same system in all three market environments will give you a lot of practice at taking draw down's.
Trading pullbacks in up trending stocks during bull market conditions tends to work well. The same system may be used when the market is in a wide trading range, but the exit strategies and holding times need to be different because of the way that stocks behave in trading ranges. In this case the same "technical analysis" or system may be used in two different market conditions, but unless the holding times and exit strategies are changed the results will be poor.
New traders tend to focus on learning one system and trying it in all market conditions. After several consecutive losses they try another system, and then another, in a never ending search for the "holy grail" of trading. Many new traders think that if they just have one more piece of information they can avoid losing trades, and see huge returns like are claimed in the slick brochures we all get in the mail. There is a difference between a marketer's illusion and the real world.
Do you think mechanical traders can be just as successful as those that analyse the markets each day themselves?
Yes.
Do you think "more" or "less" is better when it comes to indicators?
Less is clearly better.
All indicators are derived from price and volume. Learn to read the supply and demand demonstrated by price and volume charts, and leave the indicators to the marketing people. In looking at fifty different indicators I have not found one that is strongly predictive by itself in all three market conditions. Traders should not have anything on their charts that has not been clearly shown to be predictive.
Many traders use Stochastic and the MACD to help them with trades. When I teach trading techniques at seminars I show backtesting data that illustrates that neither of these is particularly useful in timing the market. People agree with the data but continue to use them anyway. There is some comfort is using Stochastic to see that a stock is oversold or over bought. The problem is that over bought often becomes more over bought, especially in trending markets. The Stochastic as defined by George Lane relates current price levels to the 21 day price range; this is something one can clearly see on the price chart so the indicator offers nothing new.
Stop looking for the perfect indicator, it does not exist. The marketing guys have made more money selling new indicators than the people using them. Most successful systems are very simple, and are used by people who have thoroughly analyzed them in various market conditions. There are few if any systems that work well in all market conditions. You will come closer to the "holy grail" by learning to analyze current market conditions and select the proper tools than you will by focusing on anything else.
What are your thoughts on trading using "fundamental analysis"?
When people look at the "fundamentals" do they look at numbers for the last 12 months or projections for the next 12 months? Most people tell me they look at the next 12 month projections. Well, projection is another work for guess. Trading on someone else's guesses in not a great strategy.
When companies report earnings are they GAPP, or some other system determined by each company? Do sales include just end user sales or product in the channel? I know companies that engage in "channel stuffing" when times get tough. Then there enough cases of outright fraud to keep the SEC busy check their website. In many cases it is difficult for the individual investor to know exactly what the "fundamentals" represent or to be able to compare them between companies.
There is also the problem of "street expectations". The reaction to earnings news may be driven more by what the "street" expected, rather than the actual numbers. Who sets expectations? There are even web sites that report "whisper numbers".
There are constantly a number of cases where stocks with "great fundamentals" are punished, and ones with poor fundamentals or even ones with no fundamentals that go on a tear. "Fundamentals" clearly are not the only thing that has a bearing on the stock price, and in many cases it is unclear that they have much of a bearing at all on the current stock price.
Stock prices are driven by supply and demand. Demand shows up on the charts and cannot be hidden or manipulated. I trade the charts. Period.
What is your trading day like? (What time do you start trading, what preparation do?)
Every evening I first review the current market conditions. Is the market in an uptrend, downtrend, or trading range? Where are the key support and resistance levels? What would cause me to be interested in Longs or shorts? What do the market conditions tell me about position sizing and exit strategies? After analyzing the market I run a dozen well tested scans which typically show me 15-20 interesting setups. I enter these setups into an alerts screen which will beep the next day if a trigger point is approached. When this process is completed I am ready for the next trading day. If you are interested in my analysis of the current market conditions and the setups I am currently watching send a request to [email protected].
During the trading day I usually avoid trading during the first 20 minutes unless something triggers on outstanding volume. When I get a trigger I bring up the chart to verify the pattern then check the volume and estimate what the volume will be for the current session. If the market, stock pattern and volume pattern all signal go then I enter the trade. Immediately after entering a trade I enter two orders in "order cancels order" format. The first order is an initial protective stop loss just under the low of the setup pattern. The second order is a limit order placed just under a price target. Price targets are different depending on the pattern and the market conditions.
After the first three hours of trading I work on other things until after the market is closed and I can download the data for my stock data base and start the process again.
What do you consider are the most important elements in becoming a successful trader?
When I meet traders I am often asked what the key to successful trading is. I have found through 20 years of market experience that there are three keys to successful trading. Making money in the market involves knowing what to trade, when to trade, and an ability to vary your trading style to match the current market conditions. Trading the same way all the time, or using the wrong set up's, can just churn your account and give you a lot of practice at taking draw down's.
Successful traders are students of the market, not listeners to financial TV shows. Successful traders have invested time in carefully testing systems in different market conditions and know which one to use in the current market.
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