I am a stock trading dummy
Keep it simple stupid KISS. There are a million ideas out there about how to trade stocks and there may seem like a million people trying to tell you how to do it right. The good news is that you can ignore them and improve the probability of your stock trading success. You should be happy that you are a stock market dummy because this fact may help you in making real money in the stock market.
Some of the smartest people I know are in the stock trading business and many are stock brokers and financial advisers. I am going to let you in on a dirty little secret. Of all the forces in the economy that have caused people to lose money in the stock market, none have been greater than the advice of financial experts and brokers. There does in fact seem to exist an inverse relationship between intelligence and effective stock trading. It would seem that the smarter a person is that the more effective they are in finding ways to cause you to lose your money in the stock market.
It has been scientifically proven that the performance of stock brokers in picking profitable stocks could be replicated by having monkeys throw darts at a page of stock listings in the Wall Street Journal. So the first lesson for the wannabe stock trader is to plan to MAKE YOUR STOCK TRADING DECISIONS YOURSELF and stay away from those stock brokers in their pin stripe suits and shiny shoes. (See my article Do it Yourself Investing)
STAY AWAY FROM TECHNICAL ANALYSIS
You should also stay away from technical analysis. I call it wiggly line theory. Technical analysis of market behavior is pseudo science and frequently promoted by snake oil salesmen disguised as brokers and other financial advisers. Other technical analysis proponents include trading system vendors and trading system software companies.
For some brokers and financial wizards technical analysis is a kind of religion promoted to explain what otherwise cannot be explained about markets. It is the opium of stock market losers everywhere. I call it WIGGLY LINE THEORY. (see my article Stock Market Movement)
For example, the proponents of technical analysis may tell you to buy XYZ stock when the 15 day moving average crosses the 45 day moving average and then take profits on your positions next year when the stock moves into “overbought” territory provided that the stochastic confirms the sell signal.
Hogwash and financial sophistry I say. Again technical analysis of market behavior is pseudo science and if you are really fascinated by the technical analysis of markets you might also consider the study of cloud formations. Both technical analysis and cloud formations have a kind of imaginative beauty to them and both can appear to have shape and meaning. But then as the market moves and the winds blow those shapes and meaning disappear and are soon forgotten. It is not a good idea to use technical analysis to determine where to put your money.
You may ask, “But all the financial experts use technical analysis and why can’t I use this science to make financial decisions regarding stock market investment?”
This is my answer: In the simplest terms technical analysis is pretty useless, not because its math and formulas are flawed, but because the data it attempts to organize and make sense of is predominantly random. Short term stock market movement is predominantly random. It is difficult to make sense of random data no matter how sophisticated are your methods of analysis. It is garbage in and garbage out. The randomness of the markets defeats technical analysis along with the bravest and brightest financial experts and traders.
Be happy you are a stock market dummy. If you can’t understand it you can easily shut out the noise and not become unnecessarily confused.
MARKET MOMENTUM THEORY
Let me illustrate with a pool hall example. In pool one player makes the opening break shot by striking the cue ball with the cue tip causing the ball to move towards the racked balls on the opposite side of the pool table. The cue ball can end up anywhere on the table, in a pocket or even on the floor. However, because the original momentum pushed the ball from one side of the table to the other side of the table, probability favors that the ball will stop rolling on the opposite side of the pool table from where it was initially struck with the cue tip.
We can easily transfer this theory and apply it to stock market movement. First we must define “significant price movement” and we can call it the “cue ball condition”. So let us say that in a hypothetical market the “cue ball condition” is met if price moves higher by five dollars. OK, now let us say that a market closes at a certain price on Monday. But on Tuesday the market meets the “cue ball condition” by moving five dollars higher and so we decide to buy it at that price. Now using the previously mentioned market movement theory we decide to always sell our positions acquired on Tuesday on the open on Thursday.
So what will happen? Well what will happen is that we will make money over time and that about 55% of our trades will be profitable. Why?
Because by first defining significant momentum we in effect turn stock market price movement into a cue ball headed for the opposite side of the pool table. There is no guarantee that the ball will always end up on the opposite side of the pool table but momentum theory says it’s more likely it will end there than bounce back. Similarly the stock that meets the “cue ball condition” on Tuesday is more likely than not to open higher on Thursday and if we sell it there we are more likely than not to make money.
How do I know this? Well first of all I have tested this very basic idea extensively and have traded similar ideas thousands of times. In fact in one two year period, while trading around two and a half million dollars, I took about 10,000 trades and pushed millions and millions of dollars worth of trades through the marketplace while making about five million dollars in profits.
But what was interesting is that I did NOT have a trading system that was 95% accurate. Instead I used a simple system based on market momentum theory that won about 55% of the time and lost about 45% of the time. Because of the random nature of short term stock market price movement I knew that 55% was about the best ANYBODY could do and I settled for 55% accuracy. And by settling for 55% accuracy I made close to 100% annual returns on the money invested and I made nearly five million dollars in profits in two years.
BE HAPPY WITH A 5% “HOUSE ADVANTAGE”
So 55% accuracy is not really so bad. If you can trade consistently with 55% accuracy you have a “house advantage” of 5%. That means that for every $100 you push through the market you are going to make $5. It’s like owning your own casino and YOU ARE THE HOUSE. (See my article, Is Investing in the Stock Market Gambling)-
SOME ADDITIONAL RULES AND STRATEGIES
Now that I have given you a robust theory of market movement that can make a lot of money for us stock market dummies let me just add a few more important rules and strategies.
- 1) MECHANICAL TRADING SYSTEM: Now that you have a theory, you should develop a mechanical trading system, and resolve to follow it for at least one year. (see my article, Automated Stock Trading)
- 2) GET YOUR SYSTEM PROGRAMMED: Put your system into a program that can be run on a computer. You are a stock market dummy so now let your computer do the thinking for you. You do not have to understand technical analysis; you just need to love and follow your computer. You do not even have to think about markets; you just need to place the orders your computer tells you to place. (see Automated Stock Trading Software)
- 3) DIVERSIFY: Spread your money out thin in many markets. We follow 96 markets and sometimes are in as many as 35 at a time. Market diversity can protect you from aberrant price movement and aberrant price movement is an occupational hazard of trading random markets.
- 4) IN AND OUT IN TWO TO THREE DAYS: Limit your trades to two or three days. The cue ball is struck and it goes forward and then stops. It’s a short term move and so is stock market price movement based on momentum theory and probability. Momentum theory ends with day 3 and oftentimes sooner. But keep in mind that there is also great safety in limiting your trades to two or three days. You have certainly heard stories of people who have lost everything in the stock market. Let me assure you that the only people who lose everything in the stock market are people who let brokers do their trading for them and who marry stocks and refuse to sell them. By making it a rule that you will ALWAYS get out after two or three days you cannot lose all your money and become a stock market casualty. (See my article, Stock Market Trading Tip )
So stock trading for dummies may be the way to go. Ignore the experts, trade simple ideas you can understand, and let your computer do the thinking for you. By following these rules for stock trading for dummies we can easily take over Wall Street and put “the suits” out of business. Stock market dummies can be rich!