Saturday, February 07, 2009

Avoiding Impulse Trades

Last weekend, the Newsletter article began with the following paragraph:

"When we trade we need to make many decisions. What stock will I choose? What strategy will I use? When will I enter? Am I bullish or bearish? What is my exit strategy? Will I set a stop to buy? Will I set a stop loss once I have entered? What reward to risk do I seek to attain with the trade? Will I bother to create a trading plan? These are just a few of the decisions we must make as traders."

I then went on to explain how important I believe it is to make decisions and how difficult it is for so many to make those decisions themselves. Somehow, at least one subscriber interpreted the article to suggest that I was advocating making trades on impulse. Exactly the opposite is true and I thought I better write this weekend's article to clarify my thoughts just in case any other subscribers may have reached the same mistaken conclusions.

Each of the elements in the quoted paragraph require a decision. We specifically should decide what stock we choose, if any. Part of that specific decision will be based upon whether we are bullish or bearish. If we are bearish, for example, we may just decide to stay in cash or choose an ETF (Exchange Traded Fund) or option strategy to play the downside. We then would want to decide on an entry point and an exit strategy. After all, the trade is not over until the exit and that exit strategy, in my view, needs to incorporate both a way to cut losses and a way to let profits run. These are decisions that should be made in advance of entry into any trade. We may then decide to implement the decision using a stop loss order or a trailing stop loss or an alert that is sent us once a specific price is reached. Deciding on a specific minimum reward to risk ratio before ever making a trade can make the difference between being a winner overall or a loser.

Anyone who has read my book, "Trade Your Way to Wealth," has seen that my philosophy is definitely NOT to trade on impulse, but rather to create a plan that is specific to each individual trader or investor. In the book, I set out elements I believe should be incorporated into each traders plan and discuss how a trader might decide to implement those specific elements. Trading without a plan is often the equivalent of trading by impulse and sets the trader or investor up for failure. So there is no mistake and in order to be crystal clear, I absolutely believe a trading plan is essential. Creation of a plan requires that the investor make decisions and it is that decision making process that I discussed last weekend. The decisions should not be made on impulse, but rather with careful consideration, but they should be made. Again, as I discuss in my book, I believe all trading decisions should be made out of the heat of battle and at a time when emotions are not ruling the decision making process. Only in that way, I would suggest, can we avoid making trades on impulse.

by Bill Kraft, Editor
Copyright 2009, Makin' Hay, Inc.
All Rights Reserved

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Gemma Star said...

Your writing is so clear, that I am flabergasted to learn that some readers didn't understand your point.

I'm am editor. Thus, I am reminded (yet again) by today's post: no matter how clear, it's never clear enough for some!

Bill Kraft, said...

Thanks, Gemma Star. It really is such an important concept that I believe it was well worth reiterating.
Bill Kraft

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