My strategies for trading are obviously going to be very different than Phil’s strategies. For one, I day-trade stocks and do not work with longer term option strategies. My specific investment style is focused on short term investments that gain 2-5%. These rapid fire lucrative trades start to build up into a profitable long term virtual portfolio over time. The keys to my trading strategy are early entry, short term holds, and the earliest exit as possible.
Entry
I enter a stock based on what it can do in one to two days (maximum). When I look at a stock, I want to decide where it can be at the end of the day and whether I will be able to enter and exit it in this short term period for a 2-5% gain. Finding winners is the hardest part of day trading, while the entry, to me, is more of a system.
My entry strategy for a given equity depends on whether it has good fundamentals or bad fundamentals, as well as, whether the stock market looks to be moving upwards or downwards for the day. If a stock has good fundamentals for the day (good earnings, upgrades, bullish sector news) and the market looks like it is going to be green, the given stock will most likely gap up. On that gap up, some traders that were in the stock prior to the day will take profits. Usually on any gap up of 2% or higher, there will be a slight pullback in the first ten to fifteen minutes. This pullback is where I want to enter, because it will likely present the most discounted price that I will be able to get for the day, unless for some reason the market turns south.
If the market is looking particularly weak, I tend to stay away from stocks that have strong fundamentals because they probably won’t be able to have a lot of upward movement. Instead, I look to enter short on a stock that is either extremely overvalued, opening 10% up or more, or a stock that has bad fundamentals. When the market is looking red, I enter the stock almost right away. If there are poor fundamentals combined with a bad market, the stock has no reason to move up at the open and I want to short it as soon as I can.
The key here is that we want to initially enter our position so that we can most benefit from upward and downward movement. For a stock we are hoping will go up, I want to enter when its intraday technical indicators are showing it has been sold off or is undervalued. There are some indicators I use to help me to identify these perfect entry points. One of these is stochastics. Slow stochastics show you how oversold or overbought a stock is. If a stock has good fundamentals and it is oversold, that is a great place to enter the stock because traders are going to buy it up as it has become undervalued. You can generally use any online broker or financial website’s charts to follow stochastics. On a short sell, I like the reverse. I want to short sell when stochastics are showing me that the stock is overbought. Over time, I have found that for a long entry, a rising stock tends to get sold off in the first ten to fifteen minutes. For a short sale, if the stock gaps down significantly, I may wait for a slight upswing. However, it is often the case that a stock gaps down and swings down even further. That means we want to get into the short sale ASAP!
Here are some final rules of guidance for entering positions:
1. Avoid buying a stock that is up more than 5% in pre-market trading. The stock’s movement has already been too great to expect to get a lot of upward movement. (It may be a decent short sale, but there tends to be less risky options.)
2. Avoid short selling oil companies or utilities, even if they have bad news. These stocks tend to have very low beta, and they often don’t have enough movement to make a decent profit. They don’t trend up or down enough, so I just avoid them in my specific trading style.
3. If you miss a good entry on a trade, don’t chase the money! I have numerous times missed my opportunity to buy during a slight pullback, only to buy another 2-3% higher, after which my forced entry proved to be too close to the high of the day. Try not to repeat this mistake.
Position Size
The type of value day-trading I engage in may sometimes be more risky than regular mid to long-term trading. I sometimes buy a stock that is in the middle of a two month downward trend for one day because it presents a great opportunity on a given day. The key is to invest small amounts in a number of these day trades and not to risk excessive amounts of capital on any one trade. Exiting the position at the end of the day actually results in less risk–you are not exposed to unpredictable overnight events.
Each day I have the opportunity to find a stock that is likely to move 2-3% everyday, and any given stock can make movement up or down based on those given daily fundamentals. Taking that small position each day, gives an investor the most control over the market, and in my opinion, it eliminates a lot more risk than just simply holding a stock for a long period of time. Just think, if you make 2% every single day, you could turn $3000 into nearly $150,000 in two years.
However, I stress that I never want to put all my money on one of these trades. First of all, if I am wrong, I will miss out on other opportunities while waiting for the money to settle on that stock. Secondly, I may simply not have a winning trade, in spite of my best efforts to identify one. One of the keys to day-trading is realizing we won’t always pick a winner. We cannot control the markets. Therefore, by limiting the amount of capital that goes into each trade, we can afford to be wrong at times and make up for our losses with future trades that are profitable. So choose a reasonable position size keeping in mind that we want to live to play another day if the trade fails! (This is also a reason for stop losses. A stop loss recognizes that we may be wrong and allows us to limit our losses.)
Exit
Exiting a stock, unlike entry and position size, is something of a personal preference. What I am always looking for, at a minimum, is a 2% gain on my entry price. Further than that, I look at those gains as gravy. Once that 2% goal has been reached, I assess what are my chances of it moving higher. If the market is cooperating, if the stock is lagging its sector, if the stock has not broken out of a lower resistance level, etc., then I will probably be more likely to hold onto it. I don’t, however, want to be greedy. Too many times, I have seen 2% or 3%, but I think I want 4%. I set a limit sell at that 4% exit and get burned.
How can we help avoiding getting burned? Set stop losses. Let’s say you get 2%. Be happy with that. Set a stop loss at that range. Then, if the stock continues to increase up to 4% or 5% from your entry price you can sell there. However, what if the stock gets up 2.5% and the market goes into a serious selling spree, and the stock ends up down 1% on the day. Your stop will allow you to still make those profits.
Additionally, at my first entry to a stock, I want to set a stop loss for a 3% decrease from my stock until it reaches 2%. That way if the stock gains only 1% and drops 5% below your entry price, we can not lose too much. A single day is very volatile. A stock may drop down 2% before going up 8%, so that is why I like 3%. Once it gets to 3%, it will have to have a lot of movement just to get back to our entry price.
Again, though, your preferred exit depends on your risk assessment and what you are happy with for gains. If you think the stock has only begun part of a major move, then you might want to hang on the stock a bit longer. If you are happy with just 1%, then take those gains when you get them. If you’re making money, you are not losing it.
What happens if you hold a stock overnight or don’t set a lower stop loss and the stock drops significantly the next day or over a longer period of time?
This is the worst situation for a day-trading style like mine. At this point, assess your position and decide if you want to stick with it. Ask yourself: do I think this has the fundamentals to make me money in a given period of time that accounts for my losses and the money I could be making trading something else in its place? I never hold a stock, even if I lose 10% or more. My thinking is that in five trades, I can make that loss up. Plus, who knows when that stock will recover to the price where I bought it. At times it could be months. Again, however, this really depends on your personal opinions.
Day-trading takes a completely different philosophy of entry, exit, and holding times. It takes practice. Entry and exit are the most important parts of day-trading – so pay attention to your entries and exits. Take some time practice with small amounts of money or in a play account. It is something at which you can always get better, and you can never perfect.
David Ristau
