Sample Chapter

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SAMPLE CHAPTER (Introduction) - Sign Up to Recive the Entire 150- Page Book Getting Started

You don't need to be brilliant to make money in trading. You don't even need to be smart. In fact, people with high IQs often nd themselves losing money, and they have no idea why. There is a reason for this. Trading is about eliminating emotion and making good, sound decisions. If you can make a decision without any emotional involvement, you have what it takes to be a smart trader. If you are unable to emotionally separate yourself from your trades, you are bound to lose money. Let me give you an example. When I began my trading career in college, I was up the creek without a paddle. Despite having read every book on fundamental analysis, technical analysis, and stock market indicators I could nd, I was still losing money. I thought if others can do this, why can't I. In frustration, I started buying products that I believed would help me change my luck. My purchases, some ridiculous in hindsight, totaled over $1,000. Still I lost. My strategy at the time was simple. First, I targeted certain stocks based on advice that went the full range from credible people like Jim Cramer, who heads an expensive stock-picking service, to some no-name guy on the Internet. Next I stared at charts  the one year and ve year, in my case  looking for every possible opportunity to draw a pattern or a trendline, no matter how much of a stretch it was. Then, as long as the stock wasn't acting bearish, I bought it. Then I watched, to the point of obsession. If the stock ticked up by twenty cents, I was overjoyed. If it ticked down, I panicked. As you can imagine, after a month of this I was a nervous wreck. Even when warning bells clanged, I still held on, because I knew I had picked a good stock. With all the  expertise I had accumulated, how could I have done otherwise? In fact, as my trades failed, I just bought more of the stock given how much cheaper it was. In reality I was getting deeper and deeper in the hole. What a way to blow up an account!

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Whether this feels familiar to you because you've already had some experience trading or is brand new for you, read on. In this book, I will not only teach you the skills of a professional trader, but I will also teach you how to avoid the common pitfalls of new traders. I would have burned through my entire account if I had not had the good fortune to meet a truly topnotch player. He was a former trader for Morgan Stanley who had decided to go out on his own and was now successfully trading from his home oce  my own dream way to make a living. He became my mentor, and he taught me everything he knew, not just the skills but the characteristics of winning traders. I intend to pass these on to you. You will need to be motivated to take this journey because the skills I teach will be both complicated to learn and even more so to master. However, if you stay the course you will be well rewarded. 1.2

How to Read this Book

This book is divided into three parts.

backbone

In part one,  Know Your Stu, I will discuss, in depth, the of successful trading, which is having a solid knowledge of technical analysis. I will then teach you how to analyze various types of charts until you can read them like a pro. Finally, I will wrap up section one by discussing the dierent types of asset classes and show how you can leverage them for protability, even with a small account. In part two,  Know the Game, I will begin by teaching you the basics of intermarket analysis. Within this section, I will cover the various markets available for trading including the stock market, the treasury market, and the options market. I will introduce the concept of risk management as the basis of any successful trading career and demonstrate three strategies for trading. I will discuss how to exit your trades, whether for a prot or a loss. Finally, I will run through some case studies of real trades I have made  both winners and losers  to help illustrate the principles I am teaching.

tried and true

Once you have learned and mastered the material in the rst two parts, you will be ready for part three where I cover two more advanced topics, options theory and point and gure charting. I specialize in these topics and will demonstrate how you can be a winner provided you use my well-tested strategies. This book has been designed to accompany the workbook I have provided. Each chapter has a corresponding set of exercises in the

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workbook. In order to get the most out of this course, I suggest that you do every exercise, since practice and repetition are the only methods for improving your skills. I also suggest mentally answering the review questions at the end of each chapter. This practice will dramatically help you internalize the concepts I am teaching. Other than that, I ask that you keep an open mind as you read. Some concepts may seem counterintuitive, but with dedication and practice you will nd that it will all come together at the end. Please do not risk real money until you have completed the entire course. The skills you learn here will be essential to becoming a protable trader. Even after completing the course, success will take time and practice so you may want to consider opening a practice  paper trading account where you can try out your new skills without risking real money. 1.3

What is Technical Analysis?

Technical analysis is the art of reading price charts to make decisions about trading stocks. Its use dates back hundreds of years and predates the modern stock market. In this section, we will discuss what technical analysis is and how you can study it through understanding of charts, Dow theory, support and resistance, trendlines, price patterns, reversal patterns and continuation patterns. A technician, or someone who practices technical analysis, tries to determine future price movement in securities by analyzing their past price movement. Technical analysis diers from fundamental analysis in that, in its purest form, it ignores the fundamental aspects of the securities traded. Fundamental analysts study company  fundamentals like balance sheets and cash ows as a way to determine their inherent value and possibilities for growth. Technical analysis, on the other hand, is based on the premise that all information about a security can be conveyed through price action not through whether the underlying company has any fundamental value. Technical analysis assumes that fundamental information is already priced into a stock. Companies with strong

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Figure 1: Many people consider Warren Buet to be the most succesful fundamental analyst of our time.

balance sheets will be priced high, and companies with weak balance sheets will be priced low. In my view, the market is  smarter than I am. That's because as an individual, I know I can't have access to the resources  the ability to meet with company management, for instance  that fund managers at institutions have. Since I am at an  informational disadvantage, I prefer to focus on technical analysis. Fundamental analysts and technical analysts always argue over who is right, so let's be clear here. There is no question that to be a successful investor, you should be well acquainted with the fundamentals of the company in which you are investing. But investing is not the focus of this book, trading is. And to trade successfully, you want to be well versed in technical analysis. By charting the price of securities, you can visually examine their fundamentals without reading balance sheets and crunching numbers. As a trader, I am not interested in the fundamentals of the companies I trade. What I want to see is a good-looking chart. At this point in my career, I can look at a chart for under a minute and make a well-informed decision about whether or not to trade it. After reading this book, you too will have that ability. One caveat here: Technical analysis is not an exact science, it is an art form. Now that may sound surprising, but even good traders are proven wrong on their trades about 50% of the time. If you can get to 60%, you are great. The dierence between winning traders and losing traders is how they manage their trades. We will discuss this in more detail later. We still have a lot to learn before we get there. 1.4

What Moves a Market

The rst thing we have to learn is what moves a market. The answer to this is straightforward. Supply and demand, plain and simple, moves the market. The market is simply an engine for achieving a fair price, a price dictated by the forces of supply and demand. Traders are the gears that keep the market moving. As traders we can prot from the rises falls in price.

and

The market is most ecient when a high volume of securities is traded. When this is the case, we say the market is liquid. For

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Bid 63.82

Ask 63.85

Spread 0.03

Table 1: Shares can be purchased at the Ask price and Sold at the Bid. traders, a liquid market is the best scenario. Most stocks priced over ten dollars per share are liquid enough to trade. You should look for stocks with at least 200,000 shares traded per day on average. These are the situations where technical analysis works best, and as I said, that is the name of the game. In the stock market, there are three players  buyers, sellers, and market makers. A market maker is someone who acts as an intermediary between buyers and sellers. The market maker is responsible for buying shares from the sellers and selling shares to the buyers. The price at which we buy shares from the market maker is called the ask price, the price at which we sell shares is called the bid price. The dierence between the bid and the ask is called the spread. The more liquid the market, the smaller the spread will be. The importance of the spread will become apparent in a moment. Here is an example of how prices move. Suppose we want to get long1 TM by buying 100 shares. We place a buy order with our broker, who in turn, places an order with the market maker who controls TM. Let's have a look at the information here: This tells us that the market has currently priced shares of TM at somewhere between 63.82 and 63.85. We place our order and the market maker sells us 100 shares at 63.85 each. If we immediately sell our shares, we will have to settle for a price of 63.82, which is the price at which the market maker will buy our shares. This will result in a loss of three cents per share, or three dollars, even though the price hasn't changed. . That is just one of the reasons to trade liquid stocks.

Notice how the spread can aect your trades

Now, imagine that a big hedge fund calls the market maker and places an order for 500,000 shares. Let's assume the market maker agrees to ll this order for the hedge fund at $65 per share. The demand for this stock is essentially 500,000. 500,000 shares is a massive order, and usually the market maker won't have enough shares. Assuming 1 Get

Long: The process of buying assets to open a position, as opposed to getting short,

which is the process of selling assets to open a position.

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Figure 2: This chart shows hypothetical price action in TM when a large order is placed for $65. This could play out over a time frame of minutes, hours, or even days. the market maker has 100,000 shares in his inventory, the supply is 100,000. Since supply (100,000) is less than demand (500,000), we would expect prices to increase. How then do they increase? The market maker will have to buy 400,000 shares on the stock market in order to ll the order. In order to attract sellers, he will slowly increase the price to draw sellers into the market. As the price becomes more attractive, more sellers will sell their shares to the market maker. The market maker does not want to increase his bid price too much though, since it will decrease the prots he receives from his sale to the hedge fund manager, so at some point he will reduce the price a bit to keep his cost basis low. This phenomenon is called a pullback, and although it temporarily changes the price of the stock, it does not negate the underlying supply and demand equation, which points to higher prices. When the sellers no longer wish to sell stock at the current price, the market maker will have to increase the price. Higher prices will tempt sellers to sell the market maker more of the stock he needs to acquire. If, however, the price approaches $65, the market maker will be inclined to use that price as a ceiling. If he has to buy shares at above

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$65, he will lose money when he sells them to the hedge fund at $65. If and when the price reaches $65, the price will likely turn down from that level. This will happen until the order is lled. The ipside to this process is when supply outweighs demand and causes prices to drop rather than rise. What is key is that whether we are talking about one buyer or thousands, supply and demand ultimately controls the price. Phenomena such as the pullback can occur over a period of minutes, hours, or days. Your trading style will determine what time frame you use. As traders, we will use technical analysis to capitalize on these price movements. With practice, you will be able to look at a chart and identify the underlying supply and demand equation and then use that information to be on the right side of the trade. Technical analysis will also help you make objective decisions about when and why to exit losing positions. Those are decisions that might be dicult otherwise.

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