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Tuesday, November 13, 2007

Money Management: Trade / Investment Management

Man, if this isn't an area that receives total neglect on the part of even most guru's. It's very, very difficult to find information about it. At most you'll hear this:

"Make sure you have a trading plan, once you are in the trade". Or you might hear "Ride out your profits, cut your losses" or "Always use a stop / loss order"

That's it.


What does that mean? I mean let's face it, those are all pretty much common sense factors. "Make sure you have a trading plan" while true? Is about as helpful as "Buy low, sell High"

Well duh.

So yes. You need a trading plan, once you have pulled the trigger, and you are in the investment, or the trade. What should that plan consist of?

TIME: How long are you looking to be in this trade, or this investment. When dealing with the markets, timing is everything when it comes to your entrance right? Well it should be a big part of your exits as well.

I'm a big one for considering seasonality into a market. This gives us not only an entrance clue (notice it's only a clue), but also a clue as to when we might want to start thinking about exiting the trade.

Gann wrote that timing, for the individual investor, is the most important aspect. NOT price. Price is important, but of the two, I agree with him. TIMING is the more important.

What about an investment? Well, perhaps your timing is more concerned with how to add to your position, since I very rarely sell any of my investment stocks or 'take profits'. But you still have to be concerned about time, once you have bought a piece of a company as an investment.

Let's say I bought Ford at 6.55 (Which I did). It rises to $8.90 and I'm making dividends along the way, for each share. Great. Do I buy more Ford at $8.90 on July 20th? Seasonality is telling me that such timing may not be a great idea. That I may want to look for dips in Ford, and buy more of it (thus increasing my dividend income) come November, when the market typically bottoms out from the Autumn doldrums and weakness.

PRICE: What is your profit goal?

Now you must understand that sometimes, you won't make this goal. But it's very important to have a price goal in mind before, and once you are in the trade.

RISK: What are you willing to risk? If you are trading, where is your stop / loss order? How does this risk equate to to your profit goal?

EVOLVING MARKET FACTORS: Your plan must be flexible. And you can't be afraid to reward your winners, if the market calls for it. At the same time, you must realize when a trade has run it's course, and you may not reach your profit goal.

For example. I'm short in Sugar #11 since July 25th. I bought a Sugar #11 950 October Put. My risk is about $125.00 (Actually, a little less, probably around $56.00 since I'm selling the option before expiry). My profit goal is for the market to hit $9.40, which would mean that my option would be almost 4 times my risk. This particular seasonal weakness in Sugar #11 runs until about August 21st.

Now after I initiated the trade, the market hit some support, and couldn't go any lower. So now what? I decided that if the market broke through a certain level of support - to add to my position and buy another put option. That's exactly what happened. The market broke below 9.97, and I bought a 925 October 925 Put for 8 ($87.00). Actually at the moment, that account is looking at two 950 puts, and 1 925 put. The market conditions told me that 9.97 was some key support. I should reward my winners as much as possible, so an entry point was to add to my short position, and buy another put option if the market fell through that support. (Put options are for when you are expecting the market to DECREASE in price. They gain value as the price falls)

Now remember my goal? What happens if the volume starts to decrease around August 17th, the market sinks to 9.50, but not my goal - 9.40? Do I hold out until 9.40? No. I've made a profit. Seasonality is telling me that the market weakness would be ending on the twenty first. Sinking volume on sinking prices The market is technically starting to chop around, and has trouble sinking lower? It just might be time to take my profits as market conditions are telling me that while I was correct as to the markets direction - that direction has run it's course.

* * *

When you use all of the above factors in conjunction with one another and come up with a good trade plan, the result is that you know what you want out of the market, and are not left with questions rattling around in your brain at each tick of the market: Should I take my profit? Should I let it ride? Will I be cutting my profit too soon? What do I do?

Next topic for tommorows blog? The dreaded drawdown! Oh noes!

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