TIme Tested Trading Tips… February 8.

Steve Palmquist.Author of ‘The Timely Trades Letter’. ‘How to Take Money from the Markets’, and Money-Making Candlestick Patterns. A number of traders use chart indicators to determine when to enter and exit trades. Most charting programs include dozens of different indicators that can be displayed on the charts. Popular indicators such as the Stochastic, and MACD, are frequently discussed when traders get together. I have listened to a number of these discussions, the interesting thing is that people typically explain why they use a particular indicator by citing an number of examples of when it has worked for them. When they do, another trader will typically say something like, ‘well it did not work for me, so I use the XYZ indicator which is much more reliable’. When I ask the second trader why his XYZ indicator is more reliable, the explanation usually involves a few more examples of good trades. Examples do not prove anything. It is possible to flip a coin and have it come up heads five times in a row. Few traders would observe this and then think that when you flip a coin it always comes up heads. Yet for some reason people will read an article about an indicator that shows four or five examples of good trades it produced, and then they will go and risk their money trading the technique. They typically trade the new technique until it produces several losses in a row, and then they start looking for another article that describes a ‘better’ technique, and the process repeats itself in an endless search for a better trading system. Adopting a trading technique because it was recommended by someone, or written about in an article that showed a few working examples, is a high risk endeavor. Trading is a statistical business. Traders need to understand how a potential system has performed over hundreds, or thousands, of trades. If you flip a coin three times there is a one in eight chance of it coming up heads three times in a row. If you observed this example and drew conclusions about the probability of heads coming up you would be wrong, just like seeing three examples of when an indicator produced favorable results could also be wrong. Trading should be data driven, not based on emotion, whishful thinking, or hot tips from TV hosts. To be data driven one needs to test and analyze trading tools and find out what really works, and when each tool should be used. Traders must understand which tool to use for a specific task, and have a clear understanding of how the tool works, and what can and cannot be done with it. I have extensively tested several trading systems, the results of this testing on specific trading trading tools are outlined in ‘How to Take Money from the Markets’, and Money-Making Candlestick Patterns. The testing process helps us understand how stocks usually behave after forming a specific pattern such as being outside the Bollinger Bands, showing strong distribution or accumulation, or pulling back or retracing during a trend. Understanding what a stock is most likely to do forms the beginning of a trading strategy. Trading without this information is taking unknown risks.

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