By Sam Seiden, Online Trading Academy Instructor
One of the most common reasons for aspiring traders having difficulty during their journey towards self-empowerment is emotion. Herd mentality trading is an account killer. Buying after a big rally in price is like going to the bank, withdrawing funds from your savings account, and then handing those funds to the person in line behind you. As you leave the bank, you say to yourself, "Why did I just do that?"
A while back, I was instructing and trading in Irvine, California. We had a very good week trading and the weather, well, it was perfect as always. One evening, I drove down to Laguna Beach and walked around the area, enjoying the art studios and the beach. I happened to walk into one studio and saw a large painting of "The Cat in the Hat" painted by Dr. Seuss himself. I am a huge Dr. Seuss fan so I was very excited and looked on. What I found was a treasure of Dr. Seuss artifacts unlike anything I had seen before. There were pictures of "The Lorax," a statue of "Yertle the Turtle," a "Green Eggs and Ham" plaque and muchly much much more, as the good Dr. would put it. Just when I thought I had found the Seuss treasure of treasures, I turned the corner and there he was, my favorite elephant (and book) in the whole world. Yes, it was a statue of Horton. Ever since I was a kid, I have always tried to live my life as Horton would. At times, it has got me into some trouble but in the end, most decisions end up being the right thing to do.
The sales woman in the store saw how excited I was when I saw him. She also knew I was a tourist and likely had a credit card in my pocket. She then proceeded to tell me that Horton was $7,800 and that they were only selling a few of them. Next, she told me that as soon as I bought him, I could easily sell him for $9,000 because of the demand for the collectable. While Horton is worth every penny, even he would never pay that because he has a logical mind that makes proper choices.
Figure 1 The chart above is the S&P futures and represents not only a good trade we took that week in class, but also represents my exact experience in Laguna. While I typically talk about supply and demand, a few weeks back I outlined a very simple strategy using a 50-period Moving Average and a slow Stochastic. While I typically don't use indicators or oscillators, they are fine if you use them properly. The slope of the moving average was down telling us the S&P was in a downtrend. Because of this, we ONLY look to sell short when oscillators such as Stochastics (and others) are overbought and give a sell signal. The circled area on the chart in overbought territory shows us this. We sold short here with a tight stop and a healthy target. Notice, however, that as price is falling and the moving average is sloping down, Stochastics is giving you buy signal after buy signal (circled on the chart, on bottom) and most if not all of them fail. My friends, this will almost always happen with any oscillator and this is why I laid out some rules. We NEVER buy a stochastics cross in oversold territory when the moving average is sloping down. If we did, we would be buying in the middle of a downtrend. Let's go back and focus on our exact entry which is shown by the red down arrow on the chart.
Technical Reason for Shorting: We sold short based on a mechanical sell signal which was a stochastic cross in overbought territory in the context of a downtrend.
Logical Reason for Shorting: We sold short to a buyer who was buying AFTER a rally in price and in the context of a downtrend. The only type of mind that would take this action is someone who makes decisions to buy and sell anything based on EMOTION, not simple and proper logic.
Our job in trading is to find the novice trader, as I have written about so many times, who makes decisions based on EMOTION, and simply take the other side of his or her trade. This is all the sales woman in the store was doing. If she really thought I could sell Horton for $9,000 minutes after buying him for $7,800, she would NEVER be selling him to me for that discount. While she was very convincing and my connection to Horton is very strong, the woman didn't know one thing. She was talking to a trader who gets paid the same way she does. I use my simple logical mind and set of simple and logical rules to get paid from those who make decisions in markets based on emotion.
So for all you "Who's" down in "Whoville" who want to succeed, I have something to say, so take careful heed... Whether you're Horton or Mazie, Thing One or Thing Two, you must use simple logic to do what you do.
Have a great day.
- Sam Seiden sseiden@tradingacademy.com
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