• Trading 101: Trade with a Plan

    by  • February 5, 2013 8:28 am • Trading 101 with Peter Bryans • 5 Comments

    Every great trader knows that success in trading requires consistency, discipline, and a well-thought out plan.  Before you put on ANY trade you need to be sure, that at the very least, you have the following three things—an entry point, a stop/loss level, and a logical price target. There is no justification for not having a trading plan.

    To illustrate with a simple example, I have provided the below chart of Lam Research (LRCX). This is the daily timeframe for the equity after the market closed this past Friday, 2/1. It was a name that had been on my watchlist and it had some very basic chart patterns that appeared to be forming.

      (courtesy of eSignal–click to enlarge)

     You can see from my notes on the chart that I was observing the bull flag pattern that had been forming for several days now. After the big candle (defined by the arrow), where the stock broke out on 1/25/13, it was followed by several more days of sideways action. LRCX never broke above the closing highs of $41.84 from 1/25, but it was showing some technical strength, as it never gave back much of those gains. This was a promising sign, and it immediately triggered a possible entry point—I would look for a sustained move over $41.84.

    The next step was to identify a logical price target. If you review the embedded link, you will learn that a simple method for measuring an anticipated move, is to take the difference between the open and close on the “flag pole” (in this case, the long candle on 1/25), and estimate the next breakout higher. LRCX opened at $39.97 and closed at $41.84 that day—a gain of $0.87. A move of $0.87 above the highs would put the initial price target at $42.71. Note emphasis of the word initial, as I firmly believe that you should take partial profits when the market makes money available to you. Part of the trick is to still leave room for further upside. Below is the chart on the following day of trading—2/4/13.

    (courtesy of eSignal–click to enlarge)

    Notice the arrow that is now focusing on the breakout from the previous trading range. On 2/4, LRCX traded as high as $42.76, just slightly surpassing the measured move to $42.71.

    Now comes the most important part of the trade—managing your position should the trade reverse against you. If you look closely at the candle from 1/31, you can see that the close was $41.14. It could be argued that any move below $41.14 (you could lower your threshold to $41) would indicate that the equity was approaching a new area of buyers/sellers and could break even lower. For the purposes of this writing, let’s say that a trader initiated a position after a move (and subsequent hold) above $41.84—their intraday analysis and trade drivers lead them to believe that LRCX was going higher. Unfortunately, this was a “failed breakout” and it quickly shot back down and approached the $41 level. At what point do you bail on the trade? What is your stop-loss level? In my opinion, a good level (based on recent price action) would be anywhere below $41.14. The skill lies in not being too “premature” with your exit and therefore placing an order that will get you out when your position is losing money. The best traders know when to admit that their initial trade drivers were wrong and they therefore do not hesitate to admit that the trade is broken. This is undoubtedly one of the most challenging aspects of trading.

    My simple advice for you is to create a checklist of things to go over before you make each and every trade. Having a plan will go a long way in this competitive environment, and you shouldn’t be putting on a trade unless you have uncovered the basics—an entry point, an exit point, and a target price. As the cliché saying goes: “If you fail to plan then you plan to fail”—so make yourself less susceptible to “failure” by going through all the right steps.



    Peter Bryans joined the Schaeffer's Investment Research trading team as a Trader in April, 2012. A graduate of the Fisher College of Business at The Ohio State University -- where he concentrated in Finance -- Peter previously held internships with an insurance broker and a wealth-management firm. In his current role, Peter trades a variety of our real-time option services and also hosts our "Options Apprentice" weekly webinar presentations.


    5 Responses to Trading 101: Trade with a Plan

    1. Peter Bryans
      February 6, 2013 12:21 pm at 12:21 pm

      Thanks for the reply—and no need to apologize. I don’t feel that you are “raining on my parade” at all–I would tend to agree with some of your points.

      For one, I don’t really recommend trading through earnings. I stay away from holding through quarterly announcements in nearly all situations.

      Certainly those new to the trading game should be aware of all the challenges that they may face, but I don’t think they should stay away from the game entirely…there’s so much opportunity to be had, and through hard work, careful analysis, and experience you can certainly find success.

      No doubt that most traders new to the game fail, but no one said it was easy. I think that the challenge is one of the reasons trading is so compelling. The 10-20% that do make it probably realized early on that it was going to take some time for them to demonstrate skill in trading.

      Anyways, just some of my thoughts. Thanks for reading.

      • Alexis
        February 6, 2013 2:58 pm at 2:58 pm

        Hi Peter, thanks for the article. I am new to trading and I do believe that certain techniques can help boost profits and sometimes reduce risk. Several weeks ago, I decided to stop ignoring candlesticks because I didn’t understand them and instead decided to face my fear of them by learning;

        I kindly disagree with my fellow investor who advises newbies to stay away; quite the contrary, like anything else in life: know why you are entering, set real goals, remember that life is hard and even harder for the uninformed and study like your financial gain depends upon it (because it does) and know that nothing in life is guaranteed or 100% right all the time. To stay because the risks are too great is the same as staying in bed because I might fall down.

        I do agree that one should enter with extreme caution and diligent preparation but if trading is truly in ones DNA they will prepare themselves and seek the potential reward.

        Again, really good article and it compliments some other articles I am studying on candlesticks.

        • akabeachguy
          February 6, 2013 4:29 pm at 4:29 pm

          Well, you are right that there are exceptions to the rule. You may be part of the 10% that has success in trading. And, yes, if it is in your DNA and you love trading, then most definitely, trade. All the best, and I wish you much success.

          As for comparing the risk of getting out of bed and falling down to trading, I guarantee this. You get out of bed and fall down, you can get up. You trade and go broke, you ain’t getting back up.

          Unless of course you have a very rich Uncle.

          • Alexis
            February 6, 2013 6:53 pm at 6:53 pm

            Thanks for your encouragement and “heads up”. A great deal of success or “failure” has to do with attitude and one’s perception; I have fallen a few times in my decades of living and I have always lived to fight another day; I can say this the few financial failures I have experienced are due to wrong expectations, no plan and no preparation – again nothing is guaranteed in life save this: no action equals no results. I sincerely appreciate your words of experience.

    2. akabeachguy
      February 6, 2013 11:22 am at 11:22 am

      These days with hfts, algos and flash crashes the best plan for a newbie is to not trade.

      For starters, you can have the best plan in the world but if a stock drops 95 points in after hours like CMG did a while back when they disappointed with earnings, you don’t have a chance. No stop loss is going to protect you there. There are plenty of examples – another from a few days ago comes to mind – VMW which dropped over $20 points in after hours on bad numbers.

      The only hope one has is to do index ETFs and even then with the 3 time ones you can get your headed handed to you if you don’t know what you are doing or if you don’t have the discipline (which most don’t) to stop out when the trade goes against you.

      What a newbie needs to know is that Wall Street’s goal is to take all your money! And in most cases they do. Research it out. 80 – 90% of traders fail. It took me a long time and a lot of money to learn the game – a game that today is a lot more difficult that it used to be when there were human emotions involved as opposed to today when a computer and its buy/sell program will go on search and destroy stop loss missions.

      Again, plan the trade and trade the plan with the plan being go out and buy an index ETF or mutual fund that beats the mkts at 1, 3, 5 years – they are out there (FSCRX is one off the top)

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