ators fall prey tothese instances. They are not properly trading a system because they haveno sense of reality and no sense of how their own personality traits areaffecting their trading. Their trading is akin to gambling. Henry Emery, alate-nineteenth-century American economist, suggested that, in gambling,one must win and one must lose. In speculation however, this is not so. Agambler creates risks in the marketplace with wrong assumptions and byfollowing opinions. A speculator assumes risks and responds accordingly.Unless they progress from the early stage of accepting ideas at face value,early speculators will cease to exist.Bernard Baruch, a noted economic adviser to American presidentsfor more than 40 years, said about speculation, “It is a dangerously addictive habit which involves an appeal for fortune, and is often accompaniedby delusional behavior, and is dependent for success on the control ofemotions.”As early speculators begin to pull back the curtains of obviousnessand take a deeper look at the market, they begin to see the world of market
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psychology. They realize that traders are not experts in every field, and,even if they were, it has no bearing on the stock price. They realize that astock moves when supply outstrips demand and vice versa. Therefore,they read the psychology behind the move and not necessarily the reasonfor the move. To these people, the stock market is no longer a carnival offools, with playful intentions and obvious deceptions. At least they are nolonger a part of this crowd even if it still does exist.They understand that what were once thought of as simple manipulations and cons are in fact just normal parts of the game. Experiencedtraders do their job, while the early speculators fall for traps. Whatmany fail to realize is that what seems really obvious usually is a trap.If you see a road with no obstacles, it most likely doesn’t lead to anywhere. It works for reading stock movement. It works for many of thegeneral principles that market moves are based on. There are manycommon phrases on Wall Street, and all the pundits have heard them.But there are different views on things that seem to be absolutelynonarguable. It’s often the case that one’s edge is found exactly in theniches where few go. Let’s go over some of those common phrases andsee how true they are.
“Do Not Overtrade”A trading leader tried to argue with me about my many trades per day,maintaining that I was doing something wrong. He argued that we onlyhave to find that one great trade per day to make us profitable. I must haveleft my crystal ball back in Russia, because I can’t seem to distinguishhow, in a market that is based on probabilities, one will always knowwhich trade will be the best one every time.Many people say that we should pick the best of the best trades andnot jump on every one of them, trying to go for as few trades as you canthat suggest the highest potential. This is not true for all traders or for allstyles. I practice my system, which puts a high probability on my side,and I would be better off trading as much as I can. A trader should enterany opportunity that his or her system has generated. After all, that’sexactly what casinos do. They do as many “trades” as possible becausethe probabilities are in their favor and the more bets that are made, thehigher their profit. This leads us to conclude that the principle “do notovertrade” is style-dependent. If your approach is trading a low percentage of winners, small losses, and big runs, then, yes, don’t overtrade. Itwill lower your overall profits.But if your style is trading a high percentage of winners, relatively
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small profits, and even tighter stops (as is the case with scalping), then itsounds strange to not overtrade. Overtrading will work in your favor.Instead of assigning the right number of trades per day, I would ratherdefine what overtrading really is. To me, overtrading is taking the tradesthat don’t match your setups. If you get three setups a day, then the fourthtrade is overtrading. If you get 30 valid setups a day, then 30 trades do notconstitute overtrading.
“Do Not Trade Illiquid Stocks”I mentioned earlier my decision to stay away from Qiao Xing UniversalTelephone because of its lack of liquidity. This doesn’t mean that allilliquid issues should not be traded. I have seen many great traderstrade stocks with low liquidity. It’s their edge. They have to know howthose stocks move—the “jumpiness” of those issues they use to theiradvantage. One reason for this phenomenon is that on stocks with hugeliquidity and a wide following, too many conflicting interests interact,which often makes the stocks hard to read. For instance, when I watchmonsters that are traded by everyone, like Microsoft, Intel, and so on,I know that they almost never go straight up or down. They’re alwaysstruggling.In addition, trading houses know very well that there are plenty oftraders who try to squeeze the juice out of these stocks, and they have thebest of their best traders assigned to these monsters. I see plenty of onlinetraders and institutional traders with their cloudy intentions in thesestocks. You have the best traders in the world trying to fool everyone,including their neighbors (by neighbors, I mean the Goldman Sachstrader wants his or her intentions to be hidden from the Merrill Lynchtrader). I rarely want to be in the middle of such a battle. Meanwhile, onstocks with lower liquidity where there are fewer players and fewer contradicting interests, I may find a much higher level of readability. Itdoesn’t mean of course that the stock with 10,000 shares in volume issafe to trade. There should be a balance in everything. But it shows how“obvious” things become less obvious when we think to look below thesurface.
“Buy Low, Sell High”The next so-called road to success is “buy low, sell high.” This idea aloneis probably responsible for more trading failures than any other. It is adangerous idea because the trend is extremely important in trading. If you
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know the trend, you are trading safely and with a high probability of success. If you buy low, you are not trading with the trend. In fact, if you tryto pick the bottom on a falling stock, you are going against the trend. Itdoesn’t mean you have to avoid buying low completely. But at the veryleast you have to know what you’re doing and understand that until thetrend has reversed, you are on dangerous ground buying the bottoms. I amsure you have seen plenty of cases in which traders have been hurt badlyby attempting to pick the bottom (known as “catching a falling knife”).There are other ways to play that enable you to follow the trend. Forexample, “buy high, sell higher” and “sell low, buy back lower” is a stylethat matches trading to the trend. An uptrend is a series of higher highsand higher lows. As long as the trend is intact, you are safe buying everyhigh, and you will be wrong only once at the very top. Even when you buythe pullback bottom on an uptrending stock, it’s not really buying thelow—it’s just a particular detail of your timing, your microstrategy ofentry.
“You Can’t Go Broke Taking Profits”The next adage I want to discuss, and negate, is, “You can’t go broke taking profits.” We’ve heard it a zillion times. Well, it’s wrong! Of courseyou can go broke if you take losses that are bigger than profits. There isno trading without losses. They are a natural part of trading. If you allowyour losses to be bigger than your profits, you certainly can go broke taking your profits. Considering that this adage is usually used to justify“selling too soon,” I do consider it to be wrong.
“A Loss Is Not a Loss Until You Sell”“A loss is not a loss until you sell.” This saying is very dangerous. Iftraders keep their losing trades, they lose more than just money on oneparticular trade. They lose focus and the ability to pick other trades. Insuch situations, traders are nervous and often angry. The losing tradesucks all the energy out of them. Not all gaps are filled (one more wrongassumption). Any particular trade is not guaranteed to be the one that willcome back sooner or later. For instance, my three hardest losses (I mean,really hard) would have taken me out of the game if I had held them. Iowned ESOL at $15 and sold it around $5. Try to find it on a Nasdaq maptoday. I owned TTG at $20 and sold at $12. Where is TTG today? It wentbankrupt. I was short KTEL at $22 and covered at around $29. It went to
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$80. So much for the theory that one should hold a losing trade until thegap is filled.
“Short Sales Take Stocks Lower”One more idea that can be heard frequently among traders is that shortingmakes stocks go down; it’s shorters that kill our excellent picks. This isnot true. If a stock is really strong and has more demand than it has supply, it will overcome the selling pressure, and shorts will only add fuel tothe run-up as traders try to cover. If a stock is not strong enough and shortsare right, traders will provide support for the stock on the way down whilethey buy to cover in order to realize their profits. In my strong opinion,shorting is an absolutely necessary part of the game because it providesliquidity, somewhat limits volatility, and provides a cushion as stocksreverse.
“Selling Attracts Buying, Buying Attracts Selling”The last saying I want to discuss, and probably the toughest to negate, isthat selling attracts buyers by creating “value” and that buying attractssellers by creating the incentive to take profits. It seems so obvious thatit has always bothered me, even in the early stages of my trading whenI didn’t really have arguments against it. Let’s think of it this way. If“selling attracts buying, buying attracts selling” were the case, would wesee anything but the same trading range on all stocks? A stock dropsfrom $20 to $15, and happy buyers nail it. It goes back to $20, and sellershit it. We see every day that stocks continue to go up or drop, makingnew lows. In other words, it’s just one particular case of a more generallaw. There are several cases, and those are: (1) Buying attracts morebuyers, (2) selling attracts more sellers (or, if you wish, scares more traders into selling), and (3) the case we started with.The first two are called the trend. If the third case were the only one,we would never see any trends. The third case calls the range, and it worksonly for stocks that trade in a range. The problem is that failing to realizethis leads to all those disasters in which traders try to short every top or buyevery bottom. I can tell you that during the huge market run-up in the fallof 1999, there were plenty of killed traders who could not believe that themarket still had the courage to go up. They were shorting and shorting.Some got burned holding their shorts, and some were covering and shorting again, mistakenly thinking that it was a normal trading process.
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Traders try every next top to short or every next bottom to buy. Indoing so, they try to identify the point of a trend reversal. There is onlyone of these reversal points. By doing this, traders try to find that onereversal point that is going against the prevailing trend. It just doesn’tmake sense. It’s quite clear when you think of it in these terms. You arebetter off going with the trend at each interim point. You find yourselfwrong once at the reversal point, and then you can reverse the direction ofyour trades to be in accordance with the new trend.
FINDING THE ELUSIVE EDGEAs you can see, many things that seem to be obvious in reality aren’t. Allthis leads to the topic of edge. When you read trading forums and messageboards, you will see questions like, “What is your edge? How can I getit?” Do these questions make sense? Yes and no. Yes, traders need anedge in order to be successful. And, no, you cannot ask someone, “Whatis your edge? Tell me, and I will use it.” You can’t simply get someoneelse’s edge.By observing traders in action, you can see a group of traders thatapparently has an edge, whatever it is. They are confident in their actionalthough they don’t necessarily sound confident in their comments. Theyare consistent, they are in a good mood most of the time, and they don’tget frustrated or overexcited. Their plays are easy to distinguish; theyhave a very distinctive style. The trades they make are apparently “their”plays. They often have their own spin on traditional setups. You can seeother traders asking them what they do and how do they do it. They oftenshare their “secrets” with no hesitation. Yet, rarely can someone do thesame thing. It may be easy to understand what they do, but it is not thateasy to do it. How did they get where they are? And why is it so individual that their style is so difficult to copy?That’s exactly their edge. Their is the operative word here. There isno edge that could be found, shared, and used by others. Edge is yoursonly.For a long time I viewed the market as a big jigsaw puzzle. I was figuring out this piece and that piece, putting them together one at a time.Things would look clear for a short while, and then I would realize thatthere were more pieces that I didn’t even suspect existed. So, I would tryto find them and fit them into the puzzle. At the same time, however frustrating and never-ending this process seemed, one other thing was happening: I was not only adding new pieces, but I was also getting rid ofpieces that did not fit, that were not mine. They weren’t necessarily
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wrong, but I wasn’t comfortable with them. Step by step, only things thatwere “mine” remained in my arsenal. When I looked at a certain stock, atits chart or Level 2, I could tell whether it was “mine” or not. My playsbecame distinguishable. Traders I communicated with began markingsome plays as “my style.” That was a sign that my edge was emerging. Iwas comfortable with those plays, I had a feel for them, and I could tellwhat the signs were of them working or failing.Did I try to find out what other traders’ edges were? Sure I did, asany trader would. Did someone else’s edge work for me? Never. Did othertraders try to copy my edge? Sure. My results were posted, and traderscould see my calls in real time so they tried to do what I did. Did it workfor them? No, it did not work for those who tried to buy when I bought.But, yes, it did work for those who tried to learn and apply the principlesI was following.But it worked only for those who found their own spin to myedge! See the point? It’s not necessarily about right or wrong. It’s aboutwhat you and only you can read. It’s about what you and only you can geta feel for.Look at setups on any system. They might be clear enough and easyto understand, but can you apply them with no differentiations and expectconsistent profits? No, you cannot.By observing traders in action, you can see that each plays the samesetup differently. Some use setups directly, some skip the trigger itself andwait for a setback, and some don’t even look for setups that work and prefer hunting for those that fail in order to fade them. The same happenswith exits. Some traders scalp and keep their sure easy money, while others scale out, letting profits run.Which way is better? Yours! The way you feel best with, most comfortable with. So how do you find what is yours? There is one and onlyone way to find your edge: experience.Trade after trade, day after day, you must apply tight risk control inorder to survive while you are learning; and you must still be around whenthings start clicking. Accept the fact that consistency will come only afteryou find your edge. You may read many books, take courses, and participate in discussions. The purpose of all this is to find the edge that’s yours.How do you recognize it? Don’t worry. You won’t miss it. You willget this amazing, absolutely wonderful feeling of control, of knowingwhat you are doing, of feeling that there is a segment of the market actionwhere you are on top. Your edge may be something not many othertraders do, like trading at lunchtime or trading thin, illiquid stocks or trading right at the open or . . . Or you may have a different angle from what
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many others do, like fading a breakout that everyone else buys. When youfind your edge, the rest of the market ceases to exist. You ignore everything that is not your edge. You wait for your play to come around. Whensomeone asks you, “What? You haven’t played QCOM today? It wentfrom $400 to $600.” You just shrug and respond, “Really? Never evenlooked.” That’s because you found your edge, and QCOM doesn’t fit.Do all traders see the same thing when looking at the same setup,such as, “Cup and handle ABCD, trigger $20.50, stop $20.25”? No. Oneof them may see, “Buy ABCD when $20.50 is getting hit.” Another onemay see, “Wait for ABCD to clear $20.50 and go up, pull back, and thenbuy it if it holds new support at $20.50.” Yet another may see, “If ABCDclears $20.50, no play for me. But if it loses $20.25 first, I’ll short it.” Doyou see the resemblance to the art analogy and Zeldovich quote we discussed in Chapter 5? This is how your personality, your vision, shapesthings for you, and this is where your edge emerges. In Chapter 12 wedemonstrate how traders can play the same setup in many different waysdepending on their edge.Trade and observe. Listen to yourself and wait until things becomeclear, easy, and yours.
CHAPTER 7
A Trader’s IntuitionThe Real Art of Trading
T
hroughout this book I discuss how my trading mindset graduallyformed. I talk about the tricks I invented and successfully applied. All thisled me to a new state of mind. It is the highest possible level a trader canreach—intuitive trading. There are many discussions among traders aboutintuition. Some deny its existence, and some swear by it. I was luckyenough to experience this amazing state of mind and profit from it.In my opinion, most of the disagreement surrounding intuition’s rolein trading arises from misunderstanding. Many think of intuition as ofsome kind of sudden revelation about the future. They expect intuition tobe some kind of tip-giver. This isn’t true. Newer traders don’t get trueintuitive impulses. For them, it’s going to be hope or wishful thinking thatthey will mistakenly take for intuition.
WHAT IS INTUITION?As we gain experience, we reach some critical mass that results in automatic reactions. This is similar to the way we learn to drive; at first it takesconscious thought. The more we drive and the more road situations weface, the less we think and the more we respond. At some point we findourselves driving from one place to another without noticing intersectionsor other cars. Does this mean that we didn’t see them? Of course not. Wecertainly did. But we didn’t have to think about them. Unless weencounter an extreme situation, we are able to drive on autopilot. Ourbrain establishes a series of links between the situations we face and ourresponses.75
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Similarly, a master of martial arts responds to an opponent’s actionwithout thinking. To an observer, it might seem like an experiencedfighter knows in advance each move the opponent will make before he orshe makes it. Such automatic and correct responses are possible throughhighly developed intuition, which comes with a great deal of experience.In exactly the same way, the more we trade, the more we establishcertain links in our brain. Certain situations start looking familiar enoughfor us to respond to them without thinking. The number of familiar situations grows. The fewer the number of situations that look totally new andunfamiliar to us, the more confident we feel. The market ceases to be agreat mystery. It becomes a set of situations—most of them familiar—and we know how to respond to them. Some situations are not recognizable, so we don’t trade; we observe and learn.As you can see, on the surface intuitive impulses work like driving—getting there without knowing consciously how you got there. Yougo from A to E without taking notice that you went through B, C, and D.But B, C, and D are still there, and the process of going through them isstill there. It’s just that this process ceases to be conscious. Thanks to yourexperience, you know how to get to E once you recognize A. In Chapter4 we say that, in learning to trade, you have to go through many situationsand experiences yourself . This is the process that establishes those linksin our brain, collecting the “bank of familiar situations.”
BE CAREFUL OF INTUITIVE TRAPSIs it possible to develop trading intuition? It is, and there are excellentbooks on the subject that helped me greatly. But there are also traps on thepath to intuitive trading. For example, you cannot push too hard; you cannot try to make the intuitive impulse come to you. As soon as you attemptto do that, you won’t be able to tell a true intuitive impulse from wishfulthinking. The intuitive impulse comes to you as a reward for having thecorrect state of mind—clear, nonopinionated, open, calm, relaxed, andfocused. This is that unclouded state of mind that comes with great confidence and a lot of experience that enables us to hear the subtle voice ofintuition. When it comes, you just act, without second-guessing or hesitation. It feels as though your finger pushes the button by itself, and youobserve what’s happening. There appears to be a direct link between youreyes and fingers, with no brain interruption.In Chapter 6 we discuss having an edge and that in order to obtainone, we have to trade for a long period of time and go through differentmarket situations, sorting them out from the point of view of what we feel
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comfortable with. While traders develop their edge, something else isgoing on. By establishing the correct state of mind, intuitive tradingbecomes accessible. Eventually traders come to the point where bothprocesses merge, and this point constitutes a new level of their tradingcareer—a level where traders make consistent profits without feelingstressed. Trading becomes effortless, easy, fun. Everything becomes clearand simple. The way to this simplicity takes you through many complications, but when they are behind you, they become nothing more thanthings to laugh about. This stage is any trader’s dream.A close friend and coworker of mine developed great intuitive visionof price movement. He started his trading journey as a part-time trader.His regular job was as a New York cab driver. His great interest and devotion to the markets kept him near the screen during market hours everyday for years. By reading the news and observing stock reaction, helearned to feel which stock was going to move and which wasn’t.Eventually, he moved from news plays to tape reading. We discussedprice patterns during the day and observed stocks together. Sometimes hewould make a remark about where a particular stock was going, assigningit a price target that seemed to come from nowhere. The percentage ofcases when he was right was amazingly high. He still amazes me with hisintuitive impulses. Sometimes he gives this kind of reading for a stockthat has just been sitting without any movement, then it really explodesa short time later. We named this “the feeling of hidden tension.” To anoutside observer it appears that he just knows in advance what is goingto happen. At the same time, it is very easy for him to admit when heis wrong. This is that great stage when a trader acts effortlessly andnaturally.
TRADING MANTRASBut wait! Should we assume that, when you get to this stage, trading is nolonger a problem? If only it were that simple.Shortly after I started trading intuitively, I faced another obstacle,which I learned was not unique to me from numerous discussions withother traders. The problem was that this beautiful state of total claritytended to disappear for a while. It came and went without warning. Somesubtle changes in me were making this clarity go away. I felt that I had nocontrol over this. My understanding of the market processes was stillthere, of course, and I continued to trade within my system parameters.But the disappearance of this inner clarity lowered my percentage of winning plays.
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As I continued trading, I managed to make those periods of blackouts shorter and shorter. I accepted that they would happen, without frustration or panic. When they occurred, I cut back on my activity and triedto minimize my losses while waiting for my clear state of mind to return.Step by step I developed some new ideas for returning to the correct mindset more quickly. I wrote several mantras that I would read and repeat, ina sense meditating on the subject. After a while I wrote mantras for specific trading problems. Regular repetition of them helped me reduce thenumber of those undesirable periods and make the ones I did experiencemuch shorter. I regained control over myself once again. The mantrasfollow.
1. General State of MindResponsibility for Your Own Trading. No one has control over me. I amcontrolling myself. Any changes in my account are caused by me. I amlooking into my actions to find the reason for any changes that occur. Ihave the power to make positive changes in my account. No one can hurtme, since I am protected by my rules and discipline. The market is not ahostile environment; it’s just a sea of opportunities. I am giving myselfmoney or taking it from myself. I am not hiding in the comfort of blaming someone else. I want the result—profit or loss—to come from mychoices.Opinionless State of Mind. The market has no firm link between reasonand outcome. I don’t have to figure out the future. I don’t need the weightof opinion on my shoulders. I am free to react to what happens by relyingon my reading of stock action. I keep a flexible state of mind. Nothing prevents me from changing my tactic if the market doesn’t act as I expect it to.Confidence. I don’t know what the market will do next. I don’t have toknow. I know how I will react to anything the market does. I am confidentin my ability to react correctly. I have a strategy that works and the discipline to carry it out. I am independent-minded. I don’t trade to please others. I am self-reliant. I question any trade I take, but I don’t question myability to make the right decisions. I trade effortlessly and automatically.I manage risk and assume losses. I trust myself.Living in Reality. I do not convince myself that I am right. I just watchstock movement and make my conclusions. When market behavior
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changes, so does my strategy. Market movement is the ultimate truth. I amnot trying to outsmart or outguess it. I live in the here and now. My mindis open to possibilities.Emotionlessness. I am objective and calm. I am a detached observer. Idon’t get angry about stocks not doing what I expected. I know they dowhat they do and that the market is what it is. I don’t get frustrated withstop losses; they are part of the game. I don’t get overexcited with winning trades; they are just one more confirmation of my correct approach.I feel good about my trading and about myself. My performance as atrader doesn’t reflect on my self-worth.
2. Morning Tune-up after a Winning DayI am relaxed and confident. I have an optimistic, winning attitude fromyesterday. I remember the feeling of doing the right things, and I am goingto repeat those things today. I am focused. I can see everything that happens. I evaluate events quickly and precisely. I see myself in control.
3. Morning Tune-up after a Losing DayToday is a separate day, which has nothing in common with yesterday.Today’s performance is fresh. It is I who have the power to do the rightthings. The stock market has no power over me. It’s not after me. It hasno memory of yesterday, and neither do I. I remember how I feel when Iwin. I am going to remember this feeling of victory. I can identify andexecute winning trades.
4. Recovery after a Losing Streak or a Heavy LossI am starting fresh. I know what to do to win. I am doing the right thingsright now, and not trying to get back my money. I am not takingrevenge—there is no one to fight with. I am taking it slowly until I get agood feeling. I am not complaining about my loss. I paid money for thelesson. Now I am applying my new knowledge to my trading. I am takingonly trades that match my set of rules. There is no memory of moneylost—my trading account is not money. It’s a tool for making money. Iam rebuilding my confidence with many small wins. They let me feel thetaste of winning. I don’t let events control me. I am in control of myself.I am going to remember the feeling of every win.
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5. Stop LossStopping out prevents losses. It’s not losing; it’s preventing a loss. I amnot trying to control the market. I admit to its independence. I am willingto act in tune with it. If I find myself in the wrong place at the wrong time,it’s in my power to get out. I have the responsibility to keep my tradingaccount in good shape, and stop loss is my way to achieve this. There isnothing wrong in being stopped out. A stop does not make me a loser. Itmakes me a winner, serving as the line of defense for my account. This ismy way to control events. This is my salvation. I want to be in control andbe happy. A stop is not a loss. A stop prevents a loss from growing. Themarket is in endless motion. No trade is so significant that it’s worthholding onto if it doesn’t work. The next opportunity comes right away.I switch easily from the trade that doesn’t work to another that will. Ienter any trade accepting in advance that it can stop me out. If the tradedoesn’t work out, it won’t come as a surprise to me. My trading strategyhas the inevitability of losses built into it, but no single loss can get out ofhand.
6. Fear of Trading, Hesitating to Pull the TriggerTrading is a game of probabilities. I don’t have to be right every time. Ijust have to follow my rules. I know my system works. Every trade iseither a profit or a stop. Any given trade is not of significance. The resultsover a certain time period are what matter. Trading within my provensystem puts the odds on my side. I have to play to allow opportunities tomaterialize. I know I can trade by my rules. All I do is react to signals—a signal to enter and a signal to exit—that are generated by my system.They take me in and out with no hesitation. I can observe the market andemotionally detach from it. Any stock movement is simply numbers thatchange following certain patterns. I know how to read those patterns. Iam totally focused on what the market is telling me. I can hear it andreact to it.
7. Letting Winners RunI don’t have to be right all the time. I don’t have to take a profit as soonas my position shows one. I have to sell when my system generates a selling signal, not when I have a profit. My goal is to play within a set ofrules, not to make money. Things once set in motion tend to remain inmotion. I want to ride them while they move. I just trail my stop until the
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stock proves that it has reversed or until a sell signal is generated. My system is profit-oriented. I am going to let it generate profits.
8. OvertradingI have only one reason to put on a trade. This reason is a valid setup interms of my system. There are no external influ