Trading Education Top 10 Mistakes Traders Make

I have been thinking about writing this sort of article for a long time. Basically what I want to do is essentially a brain dump of what I believe to be the top 10 mistakes traders make. Surely there are much more than just 10, but for now I am going to seed this post with 10 and see if it will grow and become more useful over time.

1. They Do Not Use Protective Stops!

This has to be number 1. How can it not be? Unfortunately when someone is first getting interested in trading most of the lessons to be learned usually only come from expensive trading mistakes and losses. Too bad there is not a mandatory trading manual that everyone must read when making a first trade. The reasons for using protective stops are obvious, and yet so often overlooked. People buy insurance for their cars, for their place of living, for their health, or in case there is a fire. But they forget to 'buy insurance' when they make their trades. Protective stop losses limit your risk and make your trade definable.

What happens when you don't always use a protective stop? Then you are left to resort to your judgment, your time availability to watch the trade, and your emotions. Emotions and hoping in the market is a guaranteed path to losses.

Use protective stops always! Especially if you are just starting out.

2. They Commit Too Much Capital Per Trade!

This is also a big one because it places you at a much higher risk and a much higher chance of not surviving longer term as a trader. If you over extend yourself either in amount of capital committed to a trade, or in the use of margin on a trade, then you are increasing the chances of failure. If you are over leveraged, then just one or two mistakes can wash you out of the markets for good.

Better to keep your position size small relative to the total of what you have to work with. Then, gradually build your way to the top piece by piece using proper risk management techniques.

3. They Do Not Understand How To Effectively Use Different Time Frames!

Time frames in the market are crucial. Short term (Intra day and daily), medium term (weekly), long term (monthly), longer term (quarterly) and ultra long term (yearly). When you first start to scan a particular market or security, it is most important to do a 'top down' analysis that starts with the longest term charts first (for example monthly or quarterly). This is very important because it gives you insight into where the largest forces of supply and demand are. Are they just beginning a bullish trend? Are they nearing a top? Once you have this bigger picture view it will help to give you confidence in any other decisions you may decide to make on the security in question.

Longer term time frames always have precedence over shorter term time frames. For example, say that the monthly MACD is showing a bullish crossover, but at the same time the daily MACD is showing near term selling pressure. Even though the shorter term outlook is bearish, in the back of your mind you should be thinking that the stock is still modestly bullish and at the worst case will enter into a basing pattern before eventually turning higher to start a new up trend.

4. They Do Not Make Technical Analysis Their Primary Trading Tool!

Technical analysis in my opinion should be one of, if not the primary tool you use to make trades in any time frame. The most basic information needed to do technical analysis is just price and volume. Beyond that there is a whole world of indicators and systems to help you identify trends and opportunities. The reason why technical analysis is so important is because it shows you where demand and supply meet, when one is leading the other, or when they are meeting at equal levels. That is the kind of information you need to make consistent trades over the longer term.

Fundamental pieces of information, while sometimes useful, can often confuse the overall picture and cause dangerous rationalization in your trades. For example, XYZ company has a hot new product so their sales should be great, so their stock price should go up etc. etc. That kind of thinking can work sometimes, but it is not consistent and not as reliable as technical analysis. There are so many fundamental variables, too many in fact, that it makes making a decision on any one of them almost impossible.

Learn Technical Analysis and discover the best methods that consistently help you over time.

5. They Do Not Pay Attention to What Market Indices are Doing!

Having a pretty good idea where the market indices are going is crucial to longer term success in trading. The component stocks or commodities that make up a particular index for the most part will follow the direction of that index. There are exceptions of course. Sometimes a particular stock or commodity will have relative strength and do better than the index. But hoping that a security will do such a thing is not a good idea.

Pay attention to and try to get a very strong idea about where the index is going on an intermediate and longer term basis so that you know where the 'tide' is moving. You never want to be on the wrong side of the tide because the tide is too powerful a force to swim against.

One of the most useful indicators that provides a good indication of the longer term direction of any index is the monthly MACD. This is a trend change indicator made up of moving averages. Sometimes this indicator gives false moves and crossovers but for the most part it is a very reliable indicator of future longer term price direction.

6. They are Not Picky Enough!

This is a big one. Being picky in the market is very important! The best attitude to take is that a market or security must prove itself to you. Of all the different types of trading setups out there, there are only a few that are highly reliable. For example, ascending triangles forming under a long term resistance line after a long base has been established are quite reliable set ups. Head and shoulder patterns and reverse head and shoulder patterns are quite good too as are cup and handle patterns. Volume is also an important factor in determining the reliability of an overall chart pattern or setup.

The bottom line is that the pickier you are, the better off you will be in the long run. Do not be so quick to throw your money after something based on a quick judgment. Instead, think, contemplate the odds, assess the risk/reward, wait, do not rush to judgment.

You may even decide one day that you will only focus on one or two very specific chart pattern setups that are usually very reliable and consistent. Meanwhile all the other 'so-so' setups can be ignorned. This strategy would offer you fewer setups over time and would test your patience, but it will also keep you in only high probability trades and help you avoid chart pattern failures.

7. They do not Use Volume !

Volume is the force that moves markets, period. It is the energy of a stocks movement and reflects the underlying demand or weakness and the strength thereof. In order for a stock to exceed a previous swing high, it must do so on equal or greater volume. This is why it is always important to make an assessment of just how much consistent volume is coming in on the beginning of a new trend relative to what type of volume existed before.

8. They do not Pay Attention to Sectors!

Sector analysis and stock selection is key because it helps you to find the areas of the market that are experiencing the most demand. Try to identify which sectors are weakest and strongest so that you have a better road map of where to place emphasis at any particular time.

9. They do not Decide What Result they Want Before it Even Happens!

You need to decide what goal it is you want to achieve from trading and to state so very specifically and within what time frame.

  • Decide what amount of capital you wish to have and be specific
  • Decide when you wish to have this amount of capital
  • Make an organized plan that will lead you to this goal
  • Write out your specific plan on a sheet of paper and your goal you want to achieve
  • Put this written plan in front of you every day and recite it in your mind with the belief in good faith that it will come true

The whole point of doing the above is to help structure your activities to the point where your daily, weekly or monthly decisions will be made with more care so that you are able to successfully reach your end goal.

10. They do not Leave the Party Early Enough

When you are able to make a good trade based on a sound analysis, it is usually better to leave that particular stock or commodity and then look elsewhere or simply stop trading for a while so you clear your senses.

A lof of the time, traders become too emotionally attached to a particular stock or index and stay with it too long in the belief that it will continue to reward them. It is always hard to leave a friend, but in trading you must be decisive and logical, not emotionally attached.

For example, two particular stock set ups I mentioned in the stock and commodity trading forum
were NGAS and USTT. The set ups in both were pretty good and both led to at least a 20% move. After that kind of move it is usually best to exit and leave, take a break and not return to them again. If you stick around too long chances are something is going to go wrong.

Big spike moves in the market are rare events and do not last that long. Sooner than later the price movement will switch from high spiking volatility to longer term sideways cause building. Getting trapped in this sideways cause building is never a good thing and is costly in terms of percent and time.

If you have any more to add to this list feel free to add them in the comments section!

tc

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