Think and Trade like a Champion

What did i learn from this book?

• Theory behind different type of setups VCP, CWH, 3C pattern, double bottom, bull flag
• How to manage risk, when to buy, when to sell, how to manage positions
• Tips for super performance against traditional market beliefs

Quotes

Champions don't leave greatness to chance. They decide that they are going to be winners, and they live each day with that goal in focus.

Hold Tennis balls and sell eggs

Before buying, you should wait until stock goes through a normal process of shares changing hands from weak holders to stronger ones. As a trader using stop loss, you are a weak holder. the key is to be the last weak holder. you want as many weak hands exit before you buy.

Introduction: First Steps to thinking and Trading like a champion

Those who choose to win seek successful role models, develop a road map for success, and accept setbacks as valuable teachers. They put a plan into action, learn from their results, and make adjustments until they achieve victory.

Champions don’t leave greatness to chance. They decide that they are going to be winners, and they live each day with that goal in focus.

A Tale of Two wolves

There are two types of trader builder and wreaking ball.

The builder is disciplined and process-driven. the builder is focused on procedure and perfecting the method. the builder trust that the results will come if he gets the process right. Mistakes are viewed as teachers, constantly providing valuable lessons in a continuous feedback loop. when the builder makes a mistake, it’s taken as encouragement. Builder looks forward to the day when results are achieved - good or bad because the process is contantly being improved.

Wrecking ball is ego driven and fixated on results. If they don’t come right away, he gets discouraged. if a mistake is made, the wrecking ball beats up on himself or looks for someone or something else to blame. if a strategy doesn’t produce winning results quickly or it goes through a difficult period, the wreaking ball tosses it aside and looks for new strategy, never commitinng to the process. he has tons of excuses and rearely takes ownership of the outcome.

SEPA- Specific Entry Point Analysis

• it’s strategy is predicted on leadership profile for identifying promising stock candidates using historical data
• SEPA develops blueprint of the characteristics shared by superperformance stocks
• it is based on an onging effort to identify the quantities and attributes of the most successful stocks of the past to determine what makes a stock likely to dramatically outperform its peers in the future.

Section 1: Always go with plan

your goals as a stock speculator is preparedness, to trade with few surprises. to do so , you need to develop a depenedable way to handle virtually every situation that may occur. Having events and circumstances thought out in advance is a key to manging risk effectively and building your capital account.

the mark of a professional is proper preparation. Before I make a trade, I have already worked out responses to meet virtually any conceivable development that ay take place. And if and when a new set of circumstances present themselves, I add them to my contingency plans. As new unexpected issues present themselves, the contingency plan playbook is expanded. By implementing contingency planning, you can take swift, decisive action the instant one of your positions changes its behaviour or is hit with an unexpected event.

you should have contingency plans for the following

1. where you will get out if the position goes against you
2. what the stock must do to be considered for purchase again in the event you get stopped out of the trade
3. Criteria for selling into strength and nailing down a decent gain
4. When to sell into weakness to protect your profit
5. How you will handle catastrophic situations and sudden changes that require swift decisive action under pressure

Your contingency plan should include the following elements

• Initial stop loss
• re-entry criteria
  • Some stocks will set up constructively and attract buyers, but then they quickly undergo a correction or sharp pullback that stops you out. This tends to occur when the market is suffering general weakness or high volatility.
  • Often a stock with strong fundamentals can reset after such a pullback, forming a new base and proper buy point. very often the second setup is even stronger than the first because the stock has fought it’s way back and along the way, shaken out another batch of weak holders
  • you shouldn’t assume that a stock will reset if it stops you out; you should always protect yourself and cut your loss. But if you get stopped out of your position, don’t automatically discard it as a future buy candidate. If the stock still has all the characteristics of a potential winner, look for a reentry point. The first time around your timing may have been a bit off. It could take two or even three tries to catch a big winner. this is a trait of a professional trader. Amateurs get scared of positions that stop them out once or twice, professionals are objective and dispassionate. They look at each trade setup as a new opportunity.
• Selling at a profit
  • once a stock purchase you made shows you a decent profit, generally a multiple of your stop-loss, you should not allow that position to turn into loss. For instance let’s say your stop-loss is set at 7% percent. If you have a 20% gain in a stock, you should never let that position give up all that profit and produce a loss. To guard against that you could move up your stop-loss to breakeven or trail stop to lock in majority of the gain. You may feel foolish break even or taking small profit on a position that was previously a bigger gain; however, you will feel even worse if you let a nice profit turn into a loss.
• Disaster plan
  • it deals with issues as what to do if your internet connection goes down or your power fails. do you have backup system?
  • what will your response be if you wake up tomorrow and learn that the stock you bought yesterday is set to gap down huge because the company is being investigatyed by securities and exchange commision and ceo has skipped the country with embezzled funds

Contingency Planning is an ongoing process, As you experience new problems, a procedure should be created to deal with them, which then becomes part of your contingency plans.

Look for follow through buying

• The key to trading breakout is to determine the probability of sustained advance versus just a short term rally that fizzles away
• The first thing i would like to see after a breakout from base is multiple days of follow through action, the more the better.
• The best trade emerges and rally for several days on increased volume. this is how you differentiate institutional buying from retail buying
• If big institutes are in there accumulating a position, it will likely happen over a number of days with persistent buying.
• on the other hand small retail buying may break a stock out, but the buying will not be enough to hold the stock up for very long. the best indication that you’re going to make big money on trade is when you’re at profit right away and the stock follows through for sever days on good volume

Hold Tennis balls and sell eggs

Once a stock moves though a proper pivot point and triggers my buy price, I watch the stock very closely to see how it acts. Determining whether the stock is a tennis ball or an egg will tell you whether you should continue holding it or not.

After stock advances the price at some point will experience a short term pull back. if the stock is healthy, the pullbacks will be brief and soon met with buying support, which should push the stock to new highs within just days bouncing back like a tennis ball.

Tennis ball action will generally occur after two to five days or even one to two weeks of pullback, followed by the stock bouncing back up again, taking out most recent highs. this is valuable information when it occurs subsequent to the price emerging from proper base.

Volume should contract during the pull back and expand as the stock move back into new highs. this is how you determine whether the stock is experiencing a natural reaction or abnormal activity that should raise concern.

stock under strong institutional accumulation almost always find support during the first few pullbacks over the course of several days to couple of weeks after emerging from a sound structure

Often, a stock will emerge through a buy point and then pull back to or slightly below the initial breakout level. this will happen 40 to 50 percent of the time. this is normal as long as the stock recovers faily quickly within number of days or perhaps within one to two weeks. minor reactions and pullbacks are natural and bound to happen as the price advance runs its course. Sometimes the general market experience sharp decline just as the stock is emerging from base, and the weakness pulls the stock back.

it’s during those pull backs that you get to see what the stock is really made of. Does it come bouncing back like a tennis ball or does it go splat like an egg? the best stocks usually rebound the fastest. once i buy a stock , if it meets my upside expectations very quickly and displays tennis ball action, i will probably hold it longer.

Watch out for multiple violations

Depending upon how many violations occur and how sever they are, I'll either reduce my position or get out entirely. of course, if my stop-loss is hit, then I'm out regardless.

List of Violations after breakout

• low volume out of base, high volume back in
• Three or four lower lows without supportive action
• more down days than up days
• More bad closes than good closes
• a close below 20 day moving average
• a close below 50 day moving average on heavy volume
• full retracement of good size gain

Section 2 : Approach Every Trade Risk-First

Approach Every Trade Risk-First

If you want to mitigate risk effectively, you simply must acknowledge that stocks don’t manage themselves. you’re the manager, and its’ up to you to protect your hard earned capital.

Rules are meaningless without Discipline

It’s no good having “Mental Stop” , telling yourself, if the stock falls to “X” I will get out there, if you don’t follow it. That’s like driving without ever using the brakes or, only using them on occasion. -

The problem with a mental stop is that it’s too easy to “forget”, and then hold onto a losing trade, telling yourself that you’ll sell once the stock recovers. Let me get back to breakeven and i’ll get out. The stock may keep going lower, while the loss keeps getting bigger.

For most traders, it becomes even harder to sell as a loss balloons. Every huge loss starts as a small one. The onlyl way to protect a trade from turning into a large loss is to accept a small loss before it snowballs out of control. In more than three decades of training, i have not found a better way.

Don’t become an “Involuntary Investor”

Amateurs fluctuate from being a “trader” when they right and “investor” when they are wrong. When what started out as a “trade” moves against them and starts to rack up a loss, all of a sudden they’re a long-term investor. They become “Involuntary Investor”, a person who harvests a bitter crop of small profits and large losses, the exact opposite of what you want to achieve.

No one can know for sure that a stock will decline only a certain amount and then move higher. How can you tell when a 10 or 15 percent pullback is the beginning of a 50 or 60 percent decline, or worse? you can’t.

on average over time you will likely be correct on only 50 percent of your purchases. The best traders may pick winning stocks about 60 or 70 percent of the time in healthy market. In fact you can be correct on 50 percent of your stock selections and still enjoy huge success, but only if you keep your losses in check and avoid becoming an involuntary investor.

You must avoid rationalization, coming up with reasons and justification for why you should hold onto a losing trade. You should always determine, in advance, the price at which you set your stop-loss. Then write it down, put it on a post-it, and program your computer to send you an alert when that price is reached.

How much risk is too much

you should definitely keep your losses to 10 percent or less, because losses work against you geometrically. As you increasingly further away from the 10 percent mark, looses work more and more against you. A 5 percent decline takes a 5.26 percent gain to get even. With a 10 percent loss, it takes an 11 percen tgain to get even. A 40 percent loss needs a 67 percent gain. After 50 percent loss, the gain must be 100 percent. And if you position fell by 90 percent, you’d need a 900 percent gain to get even. How many stocks that you buy go up 900 percent, 100 percent, or even 67 percent? A 10 percent loss is my maximum allowance; however my average loss is much less than that.

Section 3: Never Risk more than you expect to gain

In order to set an appropriate stop-loss, you need to know your average gain, not just what you hope to make on each individual trade, but a number you can reasonably expect to occur over time on average.

Your batting averages

To determine the appropriate percentage to risk, you need to make sure your losses are contained as a factor of your gains, because you never want to risk more than you stand to win.

At a 50 percent batting average, you’re right as many times as you’re wrong, so to maintain a 2:1 reward/risk ration, you need to keep your losses to half of your gains. However, at a 40 percent batting average, in order to maintain the same 2:1 reward/risk ration, your losses will have to be contained to one-third the level of your gains. for example

• 50 percent batting average, 10 percent avg gain, 5 percent avg loss
  • (100-50)10/((100-50)5)=2:1
• 40 percent batting average, 15 percent average gain, 5 percent average loss
  • =(4015)/(605)=2:1

Building In “Failure”

I would rather be able to maintain profitability at 25% batting average than a 75% batting average. because it allows me to be wrong many times and still make money. it builds failure into the system

The smaller I keep my losses in relation to my gains, the more batting average risk i can tolerate, which means the more times i can be wrong and still make money.

The Science of volatility and expectancy

you may have heard that when setting a stop loss you should allow more room for volatile price action. you should widen your stops on the basis of the vlatility of the underlying stock.

I strongly disagree. most often, high volatility is experienced during a tough market environment. during difficult periods, your gains will be smaller than normal, and your percentage of profitable trades will definitely be lower than usual. so your losses must be cut shorter to compensate.

it would be fair to assume that in difficult trading period your batting average is likely to fall below 50%. Once your batting average drops below 50%, increasing your risk proportionately to your gains will eventually cause you to hit negative expectancy. the more your batting average drops, the sooner negative expectancy will be realized.

Real life Application

if you’re trading poorly and your batting average falls below the 50 percent leve, the last thing you want to do is increase the room you give your stocks on the downside. Many investor give their losing positions more freedom, and as a result inflict much deeper losses. their results begin to slip, and they get knocked out of a handful of trades, they they watch the stocks they sold at a loss turn around and go back up. What do they say to themselves? “Maybe I should have given the stock more room to fluctuate; I’d still be in it.” This is just the opposite of what you should do.

The only time I give my stock positions more room to fluctuate is when things are working well, they i may be little more forgiving because a good market will tend to bail me out from time to time. Conversely, in a difficult market environment, profits will be smaller than normal and losses will be larger; downside gaps will be more common, and you will likely experience greater slippage. The smart way to handle this is to do the following

• tighten up stop-losses. if you normally cut losses at 7 to 8 percent, cut them at 5 to 6 percent.
• Settle for smaller profits. If you normally take profits of 15 to 20 percent on average, take profits at 10 to 12 percent
• if you’re trading with the use of leverage, get off margin immediately
• reduce your exposure with regard to your position sizes as well as your overall capital commitment
• once you see your batting average and reward/risk profile improve, you can start to extend your parameters gradually back to normal levels.

Using Staggered Stops

You don’t necessarily have to set your stop-loss on your entire position at one price. You can use what i call staggered or bracketed stops and still mitigate losses at your desired level, but have a better chance at maintaining at least portion of your position in stock should it move against you. If you want to limit your risk at say 5 percent, you can set a 5 percent stop, and if it hits that level, you’re out. Or a more conservative approach would be to set a stop on 1/3 at 3 % , 1/3 at 5% and 1/3 at 8%. you total loss would still be around 5 percent, but it would give you chance to stay in two-thirds of the position above a 5 percent loss and maintain one third of the position down to an 8 percent stop.

In early stages of a new bull market, a new emerging leader could make a huge price move. If you give the stock more room on a portion of the shares, even a small position in a big mover could make a big difference in your bottom line. The key to using staggered stops is to try to maintain your line without getting knocked out the entire position.

I like to use staggered stops when i think a stock has a chance of making a really big gain and I want to have the best chance possible to stay in the position. When market volatility is high and my stops are getting hit, I sometimes bracket my stops to have a chance at staying in two thirds of the position at my original stop.

• +54% in two months. The stock pulled back 6.1 percent, stopping you out completely if you used 6 percent stop. By bracketing stops, selling half at 4 percent and half at 8 percent, you maintained 6 percent risk, but stayed in half the position

Adding Exposure Without Adding Risk

I like to try and make as much as I can on a winning stock position. As a result, I get creative with the ways I pyramid and add to positions. My goal, as always, is to minimize risk and maximize my potential gains.

This pyramiding technique uses paper profit to finance a scaled-up trade while keeping dollar risk constant.

Why Most Investors Fail to Limit Their Risk

Investor often become emotionally attached to their stock holdings. When their stock takes a dive, it’s blow to their trader’s ego. This in turn, leads to excuses and rationalizing why they should not sell.

Section 4 : Know the truth about your trading

By keeping track of your results, you will gain insight into yourself and your trading that no book, seminar, indicator, or system could ever tell you. your results are fingerprints of everything you do, from your criteria for identifying trees to your ability and consistency in executing them. Your results are your personal truth.

A few more important numbers to track

the next relevant numbers are the largest gain and loss in any one month and the number of days my gains and losses are held. I call them the “Stubborn Trader” indicator.

For example if your largest gainers are smaller than your largest losers on average, this means you’re stubbornly holding losses and only taking small profits, the exact opposite of what you should be doing.

If your average hold time on gainers is less than the amount of time you hold your losers, again, it’s an indication that you hold onto losses and sell winners too quickly. this is valuable information, but few traders even track this numbers

Tracking this data will keep you honest and give you true read on what’s happening within your trading. this is the discipline of champion trader. They want to know the truth so they can improve on their weakness and optimize their efforts. by developing emotional distance, separating myself from my results, i gain insight into my trades, without rationalizing or making excuses.

Monitor your results and do the math; as the saying goes : the truth will set you free.

Your personal bell curve

it’s curve with distribution of gains and losses. your trading results will distribute along a bell curve, and hopefully your curve is skewed to the right. To maintain a profitable bell curve, your stoploss should be based on what you have returned on average on your winning trades and how often these wins occur.

I recommend that you continually track your batting average, average gain and loss. doing so will allow you to determine quickly if your recent trading is deviating from your own historical norms. This will give you the necessary feedback to make adjustments in response to your losses.

• The Ideal distribution is to have as many outliers as possible on the right and fewest on the left, attaining a “skewed” curve.

A Win/Win Solution to Protect your psyche

Section 5 : Compound Money, Not Mistakes

Not all outcomes are created equal

Here’s the easiest and quickest way I know to illustrate this point: Two people attempt to cross road; one looks very carefully both ways, runs across, and gets hit by a car. The other person covers his eyes and blindly runs right into heavy traffic, but makes it to the other side safely. Does that mean the person who made it safely across the road did a smart thing? what would happen if this scenario was repeated 100 times? who do you think would have a higher success rate of making it into other side? The result does not justify the means.

“Just this one time” violates your rules and undermines your discipline. It’s like starting a diet but after three days you decide to chat “just this one time,” and order dessert at lunch. Pretty soon you’ve packed away extra calories, and the scale moves in the wrong direction the next morning. Trading is challenging enough without sabotaging your own rules. Staying disciplined means you have to take lots of small losses to protect yourself, which makes you feel like you’re going in the wrong direction when you really want to catch a big wave. But “just this one time” will put you on a slippery slope that won’t end with one trade, one time. You will eventually get rewarded for breaking a rule, and then you’ll bend and break more rules, until you end up like the guy who runs across the highway with his eyes closed and his ears covered a hood ornament.

Making sense of swift decline

with stock trading, the fundamentals and the story are not as important as how institutional investors perceive the numbers and the narrative.

Stories, earnings reports, and valuation do not move stock prices. people do. without willing buyer, stocks of even the highest quality companies are just worthless pieces of paper.

Learn to trust your eyes, not your ears. If the stock’s price action is not confirming the fundamentals, stay away.

The 50/80 rule

Every major decline starts as a minor pullback. If you have the discipline to heed sound trading rules, you will limit your losses while they’re small and you will not throw good moeny after bad.

Pros play the percentages. they’re consistent, and they avoid the big errors. Most of all, they avoid risking money on low probability plays. They bets when the odds are in their Favor and fold when they’re not.

Small Success leads to big success

Big success in life is the result of small Successes all linked together over time. Stock trading is no different. It’s not an on-off business. You don’t have to make all-or-nothing decisions. You can move in increments. I rarely, if ever, jump into the stock market with both feet.

I generally start with a “pilot buy,” initiating a relatively small position first. If it starts to work, I may add to the trade or add a couple more names, and if I have success on a number of trades, I will then increase my overall portfolio exposure and get morre aggressive. This is the way to keep yourself out of trouble and make big money when you’re right.

When first entering the market from a cah position, you should not increase your trading size and overall exposure until you gain some traction on your initial commitments. I have a very simple philosophy on scaling up my trading.

If I’m not profitable when I’m 25% or 50% invested, why would i move up my exposure to 75% or 100% invested or use margin?

it’s just opposite. I look to scale down my exposure if thing are not working out as planned or maybe I’ll hold what i currently own.

Never lt a good size gain turn into a loss

once stock moves up a decent amount from my purchase price, I go into profit- protection mode. My priorities in order of importance are

1. Protect myself from a large loss with an initial stop
2. Protect my principal once the stock moves up
3. Protect my profit once I’m at a decent gain

Should you hold into an earnings report?

My general rule of thumb is never hold a large position going into a major report unless i have a reasonable profit cushion. If i have 10% profit on a stock, then i could usually justify holding into most earnings reports. however, i have no profit, or worse I'm at loss, i usually sell the stock or cut down my position size to guard against the possibility of 10 to 15 percent gap against me. Regardless of how well you know the company, holding into earning is always a crapshoot

I’ve seen stocks beat earnings estimates by a healthy amount and still get slammed on the open. Bottom line, there’s a degree of luck involved when you hold into earnings. If you have a decent profit in the stock, you are at least insulating your principal and mitigating some of the risk. Size positions accordingly and never take big risks going into a major report.

Develop Sit out power

Like a cheetah waiting in the bush for the right sett of circumstances to pounce on, you must develop what i call sit out power. this is another hallmark of a pro the ability to wait patiently for the right set of circumstances before entering a trade. the cheetah can be starving, but it still knows that to eat, it must exercise patience and wait for the right moment. the cheetah is smart enough to know not to waste its energy on low probability kill.

If you force trades and as result, take losses, you will dig yourself into a hole that will require lot of work just to climb back to even. trust your discipline and develop sit out power. then when the moment is right you make your move.

To make money consistently, you must stay disciplined. follow your strategy and the trading rules that keep you from entering premature, ill-timed and risky trades for no other reason than you just want to be in the market.

Section 6 : How and When to buy stocks- Part 1

Trend Template Criteria

• Stock price is above both 150 and 200 day moving average
• 150 day moving average is above the 200 day moving average
• 200 day moving average line is trending up for at least 1 month
• 50 day is should be above 150 and 200 day moving average
• the current stock price is at least 25% above its 52 week low. Many of the best selections will be 100%, 300% or more above their 52 week low before they emerge from healthy consolidation period and mount large scale advance
• the current stock price is within at least 25% of it’s 52 week high. the closer to a new high the better
• the relative strength ranking is no less than 70, but preferably in 90s, which will generally be the case with better selections. The RS line should not be in strong downtrend. I like to see the RS line in an uptrend for atleast 6 weeks, preferably 13 weeks or more
• Current price is trading above 50 day moving average as the stock is coming out of base

As the stock transitions from Stage 1 to Stage 2, you should see a meaningful pick up in volume, a sign of institutional support. Looking for stocks that are in verified uptrends allows me to make my first cut and systematically narrow down my potential candidates.

Volatility Contraction Pattern

Once i determine a stock is in uptrend and meets all of my trend template criteria i look at the current chart pattern. Specifically I am looking for digestion period and consolidation of the previous gains made during the uptrend or for what I call VCP(volatility contraction pattern).

Throughout my career, I have found that almost every failed base can be traced back to some faulty characteristic that was overlooked. Many books superficially describe technical patterns, and pattern recognition exercises will often lead you astray if you lack an understanding of the supply and demand forces that give rise to high-probability setups.

The most common characteristic shared by constructive price structures (stocks that are under accumulation) is a contraction of volatility accompanied by specific areas in the base where volume recedes noticeably. Determining correct VCP is the key to establishing the precise point and time to enter a stock. In virtually all the chart patterns i rely on, i’m looking for volatility to contract from left to right. I want to see the stock move from greater volatility on the left side of the price to lesser volatility on the right side.

During VCP, you will generally see sequence of anywhere from two to six price contractions. this progressive reduction in price volatility, which is always accompanied by a reduction in volume at specific points, signifies that the base has been completed. For example stock will initially come off by 25% from its absolute high to its low. then the stock rallies a bit, and then sells off 15 percent. at that point buyers come back in, and the price rallies a bit more within the base. Finally it retreats by 8%.

As a rule of thumb, each successive contraction is generally contained to about half (plus or minus a resonable amount) of the previous pullback or contraction. Volatility, measured from high to low, will be greatest when sellers rush to take profits. As sellers become scarcer, the price correction will not be as dramatic, and volatility will decrease as the price makes its way to the right side of the base. Typically most vcp setups will be formed by two to four contractions, although sometimes there can be as many as five or six. this action will produce a pattern, which also reveals the symmetry of the contractions being formed. I refer to each of these contractions as “T”

The Contraction count

Similarly, with each contraction in a VCP, the price of the stock gets “tighter” meaning, it corrects less and less from left to right on successively lower volume as the supply diminishes. Like the wet towel being wrung dry, as a stock goes through several contractions, it becomes lighter and can move in one direction much more easily than when it was weighed down with lots of supply.

Here how it works in real life.

As the stock moves through the $17 area, you can see how fast it advances with little resistance. the reason is that supply has stopped coming to market. with little supply available, even small amount of demand can move the stock up. and if your long term work is accurate, and big institutions are indeed in there accumulating the stock , the sky could be the limit. this is a vital concept for successfully timing your buys.

A price consolidation represents a period of equilibrium. As strong investors replace weak traders, supply is absorbed. Once the “weak hands” have been eliminated, the lack of supply allows the stock to move higher because even a small amount of demand will overwhelm the negligible inventory. This is what the legendary trader Jesse Livermore called “ the line of least resistance“

Tightness in price from absolute highs to lows and tight closes with little change in price from one day to the next and from one week to the next are generally constructive. these tight areas should be accompanied by a significant decrease in trading volume.

In some instances volume dries up at or near the lowest levels established since the beginning of the stock’s advance. this is a very positive development, especially if it takes place after period of correction and consolidation, and is a telltale sign that the amount of stock coming to market has diminished. A stock that is under accumulation will almost always show these characteristics (price tightness with contacting volume). this is whatt you want to see before you initiate your purchase on the right side of the base, which forms what we call the pivot buy point.

The Technical Footprint

As it goes through a consolidation period, each stock makes its own unique mark. similar to a fingerprint, these patterns look alike from afar, but when you zoom in and look at the nuances, no two are identical. the resulting signature or silhouette is what i call the stock’s technical footprint. the immediate distinguishing features of the vcp will be the number of contractions that are formed throughout the base, their relative depths and the level of trading volume associated with specific points within the structure.

I created quick way to capture a visual of a stock by quicky reviewing my nightly notes and each stock’s footprint abbreviation.

1. Time : the number of days or weeks that have passed since the base started.
2. Price : The depth of the largest correction and narrowness of the smallest contraction at the very right of the price base
3. Symmetry : the number of contractions throughout the entire basing process.

The VCP footprint at work

let’s look at netflix justt before it made more than 500% move in just 21 months.

After rallying shaply off 2008 bear market lows, the stock established a well defined uptrend. clear evidence that big institutions were accumulating the stock. these big players saw mom and pop video rental stores, regional chains, and even blockbuster video being challenged by a new comer called netflix, which rented movies online a model that accelerated its sales and earnings dramatically.

Little did most people know at that early stage, brick and mortar video rental was about to become extinct. A paradigm shift was happening in this business, and netflix had no competition in its new niche because the company invented the category. this meant big potential for sales and earnings, equating to big stock performance.

You didn’t have to know everything about the video rental market or be a retain analyst to see the opportunity. Netflix contracted three times (3T) before it emered out of it’s 27 week (27W) consolidation. In october 2009, I was buying netflix shares aggressively, even though it was trading at 32x earnings while blockbuster traded at just 2x earnings. the fast that Netflix looked “expensive” was one reason why most people missed this opportunity just before its best days. Most amateurs and even many pros want to buy “cheaper” stock. this is based on a complete misunderstanding of how wall street actually works. From the time it went public, Netflix soared more than 3400 percent. during the same period, block busters’s stock lost 99% of it’s value.

Now let’s look at meridian bioscience.

In the midst of stage 2 uptrend, this stock underwent a series of volatility contractions as it consolidated before continuing its upward run. Meridian bioscience contracted four times (4T) before it emerged out its 40 week (40W) consolidation and advance more than 100% in next 15 months.

Overhead Supply

As a stock corrects and heads lower, inevitably there are trapped buyers who bought higher and now sitting with a loss. Trapped buyers agonize over their deepening paper losses and hope for rally to sell. as their losses grow and more time passes, many of these buyers would be delighted just to get even. this is what creates overhead supply in a stock investor who want out on a rally or around breakeven point. they can’t wait to sell, after that roller coaster ordeal, they are thrilled just to get out at breakeven.

Adding to the supply is another group of buyers who, unlike the trapped buyers sitting at a loss and waiting to break even, were fortunate enough to bottom fish the stock. now they are accumulating nice short term profits. as the stock trades back up near its old high, and as the trapped buyers are getting even, the profit takers also feel the urge to sell and nail down a quick buck. all this selling creates a price pullback on the right side of the base. if the stock is indeed being accumulated by institutions, these contractions will get smaller from left to right as available supply is absorbed by the bigger players appetites for stock. this is simply law of supply and demand at work, an indication that stock is changing hands in orderly manner.

Before buying, you should wait until stock goes through a normal process of shares changing hands from weak holders to stronger ones. As a trader using stop loss, you are a weak holder. the key is to be the last weak holder. you want as many weak hands exit before you buy.

you can tell supply has stopped coming to market by the significant contraction in trading volume and significantly quieter price action as the right side of base develops. demanding that your stock meet these criteria befor eyou buy improves the likelihood that your stock is off the public rader, which helps you avoid crowded trade and increases your chances of success. if the stock’s price and volume don’t quiet down on the right side of consolidation, supply most likely is still coming to market, making the trade too risky and prone to failure.

What does VCP tell us?

The vcp is evidence of the laws of supply and demand at work as the stock goes through an orderly process of changing from weak hands to strong hands. during the volatility contraction, increasingly less supply comes to market. as willing long term buyers meets eager short term sellers, the overhead supply that has been holding the stock back dissipates.

It’s important to keep in mind that the VCP occurs within the confines of an uptrend. The vcp is going to happen at higher levels, after the stock has already moved up 30, 40, 50 % or even more, because the VCP is a continuation pattern as part of much larger upward move.

A stock that is under accumulation will almost always show vcp characteristics. this is what you want to see before you initiate your purchase on the right side of the base, which forms what we call the pivot buy point.

the point at which you want to buy is when the stock moves above the pivot point on expanding volume.

The Pivot point

a pivot point is a “call to action” price level. i often refer to it as the optimal buy point. A pivot point can occur in connection with a stock breaking into new high territory or below the stock’s high. A proper pivot point represents the completion of a stock’s consolidation and the cusp of it’s next advance. In other words base pattern has been formed, the pivot point is where the stock establishes a price level that acts as the trigger to enter that trade.

When a pivot aligns with the line of least resistance, a stock can move verry fast once it crosses this threshold. as a stock breaks through this line, the chances are the greatest that it will move higher in short time.

This often occurs because the pivot point is where supply is low; therefore even small amount of demand can move the stock higher. Rarely does correct pivot point fail coming out of sound consolidation in healthy market.

Figure 6-10 shows meli and it’s technical footprint of 6W 32/6 3T, meaning that the basing period occurred over six weeks, with corrections that began at 32% and concluded at 6% at the pivot. After charging through the pivot point, stock price shot up 75% in just 13 days. This is the type of rapid price escalation I’m interested in capturing because of the potential to really compound money and achieve superperformance.

Volume at the Pivot

Every correct pivot point develops with a contraction in volume, often to a level well below average. In addition, there will be at least one day when volume contracts very significantly, in many cases to almost nothing or near the lowest volume level in the entire base structure. In fast we want to see volume on the final contraction that is below the 50day average, with noe or two days when volume is extremely low.

In some of the smaller issues, volume will dry up to a trickle. this often viewed by many stock investors as worriesome lack of liquidity, this is precisely what occurs right beofre a stock is ready to make big move. when very little supply is available, even small amount of buying can move the price up very rapidly. that’s why you want to see volume contracting significantly during the tightest section of the consolidation (the pivot point).

Section 7: How and when to Buy Stocks - Part 2

Big winner must make new high

One of the most common phrases you’ll hear in the stock market is “buy low and sell high”. it’s obvious that you must buy at a price lower than the price at which you sell to make a profit. however this does not mean that you have to buy at or near the lowest price at which a stock has traded historically.

A stock making new 52 week high during the early stages of fress bull market could be a stellar performer still in its infancy. in contrast, a stock near its 52 week low at best has overhead supply to work through and lacks upside momentum. but a stock hitting a new high has no overhead supply.

Leaders Bottoms First

Market leaders often emerge from consolidation around the time the general market is coming off a bear market or correction low. Sometimes it’s a little before the low, and sometimes it’s month or two after. Many times, I’ve seen a leader emerge right on the first up day after the absolute low in the broad market. Amazon did just that. It then shot up 240% in just f12 months and went on to make a 38-fold advance.

The best stocks make their lows before the general market averages do. During a correction, as the major market indexes make lower lows, the leaders diverge and make higher lows. The stocks that hold up the best and rally into new high ground offf the general marke tlow during the first four to eight weeks of a new bull market are the true market leaders, capable of making spectaculargains.

Which leaders should you buy first?

Opinions means nothing compared with the wisdom and verdict fo the market. Let the strength of the market, not yoru personal opinion, tell you where to put your money.

The stocks that emerge first adn with the greatest power in the early stage of a new bull market, or at the tail end of a correction, are generally the best candidates for super performance. By the time the market bottoms, though, you could hae missed some of the best names if you don’t get the first mover's advantage.

I can’t tell you which stock on my watch list will be my next trade. Out of 4,5, or 10 names, I don’t cheer for one over the other like it was a horse race. In other words, I don’t play favourites. Having a favourite means that I “like “a company and I’m willing to wait for it to emerge, while other names - companies that I may not be as familiar with or don’t like as much - setup exactly according to my criteria and trigger buy points. Why would I wait for some stock to make a move when other stocks are on the move and meet the correct criteria? It happens all the time. Usually, it’s because you have a favourite name for personal reasons; you like the company’s status or you’re fond of a particular product. Often, it’s because you want to town a familiar name and avoid the one you never heard of.

I let the market tell me where to put my money. I’m looking to get a first- mover advantage, buying the stocks that break out first. I embrace new names instead of avoiding them. Most big winners are companies that just went public within 8 or 10 years. Those early moves often turn out to be the true market leaders, while the stocks that lag often never get out of the gate.

The stock that is your favourite might emerge two or three days later. Or it may never complete the setup or fail to rally. Don’t let yourself miss out on perfectly good opportunities because you have a favourite. Instead, buy in order or breakout. When you evolve to the point of always being patient and only taking quality trades, that means you’ve decided that you’re not in it for action, but to make money, you’re a pro.

The Lockout Rally

During the first few months of new bull market you should see multiple waves fo stocks emerging into new high ground. General market pullbacks will be minimal, usually contained to just a few percent from peak to trough. Many inexperienced investor are unwilling to buy during the initial leg of new powerful bull market because the market appears to be overbought.

Typically, the early phase of a move off an important bottom has characteristic of lockout rally. during lock out period, investor wait for an opportunity to enter the market on a pullback, but that pullback never comes. Instead, demand is so strong that the market moves steadily higher, ignoring overbought readings. As a result, investors are essentially locked out of the market.

if the major market indexes ignore an extremely overbought condition after a bear market decline or correction, and your list of leaders expands, this should be viewed as a sign of strength.

To determine if the rally is real, up days should be accompanied by increased volume, whereas down days should be on lower overall market volume. The price action of leading stocks should be studied to determine if there are stocks emerging from sound, buyable bases and if there’s proliferation of names.

Additional confirmation is given when the list of stocks making new 52 week high outpaces the new 52 week low list and starts to expand significantly. at this point, you should raise your exposure in accordance with your trading criteria on stock by stock basis.

The 3 C Pattern

The cup completion cheat (3 C) is continuation pattern. it’s called cheat because at one time i considered it to be an earlier entry than the optimal buy point, so i would say I am cheating. Today, i would say that it is the earliest point at which you should attempt to buy any stock.

A valid cheat area should exhibit a contraction in volume and tightness in price. this pause present an opportunity to enter the trade at the earliest point, although not always with your entire position. however, you can lower your average cost basis by exploiting cheat areas to scale into trades.

The cheat setup has the same qualification as the classic cup with handle, because it’s simply the cup portion being completed. when a handle forms, it usually occurs in the upper third of the cup. if it forms in the middle third or just below the halfway point, you could get more than one buy point.

To qualify, the stock should have already moved up by at least 25 to 100% and ins some cases by 200-300% during the previous month of trading. The stock also should be trading above its upwardly trending 200 day moving average (provided that 200 days of trading in the stock has occurred. the pattern can form in as few as 3 weeks to 45 weeks (most are 7 to 25 weeks in duration). the correction from peak to low point varies from 15-20% to 35-40% in some cases, and as much as 50% depending on the general market conditions. Correction in excess of 60% are usually too deep and extremely prone to failure.

Stock emerged from 3-C pattern just days after the Dow made its low. The stock advanced 1,000 percent in 38 months. Note the difference between the 200-day moving average lines; the market is trading below a declining line, while Humana is trading above a rising line.

The Cheat

four steps to stock turning up through the cheat area

1. Downtrend
2. Uptrend
3. Pause
4. Breakout

The double bottom

The double bottom is structure that forms a “W” and undercuts previous low within the base. I prefer an undercut, because it tends to shake out more weak holders. I also want to see a pause or pivot popint on the right side of the base, as with all the base structure i trade. The double bottom could set a cheat area and handle just like other patterns discussed.

This pattern can also develop soon after an IPO as primary base or second stage base.

The Power Play

Also refered as high tight flag. this is one of most important and profitable setups to learn and one of the most misinterpreted among all technical patterns. If you get it right, it can be one of the most profitable.

The power play is what i call a velocity pattern for two reasons.

• first it takes a great deal of momentum to qualify as power play. infact the first requirement is a sharp price thrust upward.
• Second these setups can move up fast in the shortest time, and often they signal a dramatic shift in the prospects of a company.

The rapid price run up could be induced by a major news development such as and FDA drug approval, litigation resolution, a new product or service announcement, or earning report. it can also occur on no news at all.

Some of the best trades from this setup can develop as unexplained strength. therefore, this is the type of situation i will enter even with dearth of fundamentals. it doesn’t mean that improving fundamentals don’t exist; very often they do. however with the power play, the stock is exhibiting so much strength, it’s telling you that sonmething is going on regardless of what the current earnings and sales show.

Although i don’t demand that power play have fundamentals on the table, i do require the same vcp characteristics that i do with all other setups. even the power play must go through proper digestion of supply and demand. with power play, you should look for tight weekly closes over three to six weeks.

To qualify as power play, the following criteria must met

• an explosive price move on huge volume that propels the stock price up 100% or more within eight weeks. stocks that have already made a huge gain comming off late stage base usually don'tqualify. the best power plays are stocks that were quiet in stage 1 and then suddenly explode.
• Following the explosive move, the stock price moves sideways in relatively tight range, not correcting more than 20% over period of 3-6 weeks
• if the correction in the base then it does not exceed 10%, it is not necessary to see price tightening in the form of volatility contraction, because the price is already tight enough

more info

What Is The High Tight Flag Chart Pattern? | TraderLion

Section 8 : Position Sizing for Optimal Results

Position sizing guidelines

• 1.25 - 2.5% risk of total equity
• 10% maximum stop
• Losses should average no more than 5-6%
• shoot for optimal 20-25% positions in the best names
• No more than 10-12 stocks total (16-20 for larger portfolio)

Depending on the size of your portfolio and your risk tolerance, you should typically have between 4 and 8 stocks and for large portfolios maybe as many as 10 or 12 stocks. This will provide sufficient diversification but not too much. There is no need to own more than 20 names, which would represent a 5% per position.

Ideally, I like to concentrate my capital in the best names, for example, devoting 20 to 25% of my portfolio in each of my top four or five stock picks. But it doesn’t always work like that. Often, I start with a much smaller position 5 to 10 % of my portfolio, so that my risk is less until a stock can prove itself. If the stock performs as I had hoped, I will increase my position size accordingly or add additional names as they meet my buy criteria.

Think of your portfolio like a garden. You pull the weeds and water the flowers- nurturing what you want to grow and getting rid of anything unwanted that’s only depleting resources. You’ll find that some of the stocks in your portfolio aren’t the “flowers” you had hoped they’d be. Instead, they’re looking more weed-like. This doesn’t mean a stock has hit your stop; it may just be sitting there, doing not much of anything. As time goes on, you must consider hwo your money could be better invested in something that is poised to move.

The two for one rule

If out of six stocks, four are doing well, but two are mediocre or poor performers, it’s probably time to reallocate your capital. To do so , you don’t have to dump the two lacklustre performers completely. Instead, you can reduce your positions in them. For example, you can sell half your position in each of the two underperforming stocks and then buy a full position in the more promising candidate. The capital you raised from selling the two half positions finances your new full position

Don’t sell leaders too quickly

Keeping some of your position after a run-up is especially important if it’s the beginning of a new bull market and you’ve bought stocks that have been leading the move. You don’t want to sell too quickly just because there are profits and you want to buy something else. Sometimes the best stock to buy is the one you already own. You can sell a portion of the strong performers, take some profits, and reinvest in another promising name. The remainder of your original position, meanwhile, is allowed to keep growing as you try to get a bigger move from the name.

At the start of a new bull market, in particular, there could be plenty of upside potential, even for stocks that have already made strong advances. At the beginning of a new bull market, you don’t want to give up your entire position in a leader. The stocks that come of the gate the strongest is a new market uptrend are often the best performers going forward. I usually will hold 25-50% of my original position for a larger move in these strong leaders.

Don’t di-worsify

As you sell some of your stocks and reallocate capital into others, you don’t want to spread yourself so thin that you’re overly diversified. That’s not diversification; I call it “di-worsification”. Not only is it hard to keep track of a large stocks, but your positions are going to be small, which will undermine the potential to get super performance out of a really big winner. Bottom line you will never achieve super performance if you overly diversify and rely on diversification for protection. It’s better to learn how to concentrate your buys in the best names precisely at the right time and then protect yourself with the use of intelligent stop-loss placement.

In the other extreme, one of the big dangers with overconcentration such as having 75 or even 100 percent of your portfolio in one stock is the potentially disastrous exposure to a downside event. It may be rare for a stock to get into trouble suddenly and gap down huge, say 50% in one day, but it does happen. Your position is 50% less, you may say, “I’ll just wait for it to come back and sell it then,” but you have no assurance that it will come back, which adds additional risk.

If you adhere to my position sizing guidelines and only risk 1.25 to 2.5% of your equity on any one trade, you will never have to worry about a stock wiping you out. Even if you take 25% position and the stock drops 50%, you would only suffer 12.5% loss. Admittedly, that would be a serious hit to your equity curve, but recoverable.

To leave you with some further perspective on this topic, i have had many periods in which i put my entire account in just four or five names. This of course corresponds with some of my most profitable periods. Yes, there is risk, but you can mitigate that risk with proper position sizing balanced with a stop-loss that keeps you in the range of my position sizing guidelines. If you are strict with your selection criteria and choose the best stocks for your portfolio, then it should be difficult to find a lot of names that are worthy to be included among your elite group.

Diversification does not protect you from losses, and too much concentration will put you at risk of ruin. Optimal position sizing is the goal.

Section 9 : When to sell and nail down profits

When i first started trading, i devoted almost all my energy to learning how and when to buy. Most of my effort was spent on fundamental and technical analysis, and i honed my selection criteria until i gained the confidence that i could put my hard earned capital on the line in a trade. The next challenge was learning how to cut my losses and mitigate risk without fail. I had to learn how to manage that risk effectively to protect my account. finally i started making some decent profits then i discovered a hole in my trading plan. I had spent so much time on stock selection really gaining an edge when it came to buying, i didn’t have a clue as to when i should sell and how to handle big winner.

The emotions of selling at a profit

one of the most indecisive moments in trading is when to sell. Sell too soon and you fear losing out on future profits. Sell too late and you regret giving back your profits. Two emotions fear and regret lead to indecisiveness: Should I sell? Should I hold? What if i sell too soon or too late? These “sell-side” fears are no different from what you felt before you bought the stock: Should I buy now? Should I have bought yesterday? Should I wait longer?

There are two basic scenarios in which to sell. The first is to sell into strength while the stock is moving in the direction of your trade and buyers are plentiful. You have a position in a stock that’s doing great, and you use that strength to sell into. This is how pros sell, especially if they have sizable position to unload. When you have a large amount of stock to sell, and liquidity is an issue, you get out when you can, not necessarily when you want.

Most individual traders don’t have that problem; however, you still want to learn how to sell into strength. Why? Because you don’t want to give a stock the chance to break and give back a large portion of your profits. You may want to wait until the signs are clear that a stock should be sold based on a weakening trend. But if you do, it usually turns out that you would have been better off selling earlier, into strength, as it will often turn out to be more favourable price.

The second scenario is selling into weakness. Your stock made a good run at first, but now the price action is weakening, and you need to protect your gains as the stock reverses direction. this can happen unexpectedly requiring, in many cases, a very swift response.

The base count

If a stock is in the earlier stages of an upward price trajectory, you will want to give that stock some time to make a full-scale advance. You could be onto a key leader ready to embark upon huge move, in which case you’ll want to give it time to become a much bigger winner. Or the market could be in the late stages of a bull market and your stock is in the late stage of its own expansion; the strong move you’re seeing is the last gasp before it comes crashing down.

Borrowing the explanation from my first book, the movement of a stock’s price through the stages of it’s life cycle resembles the outline of a mountain, from flatlands to the summit and back to the flatlands again. As the mountain rises, there are plateaus; this is where the price ascent stops or rests for a bit. If this were a real mountain, these plateaus would be where climbers would establish base camps to rest recharge. This is exactly what happens with a stock’s price action.

Following a run upward, there is osome profit taking, causing a temporary pullback. This activity causes the stock to decline and build a base a short term pause that llows the stock to digest its previous run-up. If the stock is truly in the middle of someting significant, and long term buyers outweigh short term traders, the longterm trend will resume.

More than 90% of big upward moves emerge from market corrections. That’s your golden opportunity to get into stocks that are coming out of their early to mid stage bases. After a bear market decline, the initial plateau counts as the first base. When stocks are coming out of bases 1 or 2 following a market correction, that’s generally the best time to jump onboard a new trend. bases 3 and 4 can also work, but are later in the cycle and should be treated more as trading opportunities. Bases 5 or 6 are extremely failure prone and should be viewed as opportunities to sell into soon after a price breakout gets extended. Sometimes the later-stage bases can get exciting as stocks can often experience climactic moves during late stage “ blowoff” runups. But these are the most difficult periods to sell into because the stock is soaring and appears to have no end in sight.

Keep in mind, the later stage bases become increasingly obvious, and the more obvious they get, the more people will have piled into the stock. All that are left are potential sellers. this is what i call and some refer to as “crowded” trade. As they say in the stock market, what’s obvious is obviously wrong. As the stock gets crowded, all eyes are on it because it has already made a strong move, an investors have seen the bases work many times in the past. This attracts less-informed investors. The “smart money” that got in early is now looking to exit and lock in profits, and dump the stock into retail buyers hands. This selling or liquidation takes place on the way up when the stock is making headlines and everyone is excited and happy; that’s why it’s difficult for most investors to identify.

P/E Expansion

The stock’s P/E also can give you some indication as to where a stock is in its life cycle. Specifically, the P/E can tell you some indication as to where a stock is in its life cycle. Specifically, the P/E can tell you whether the run-up is late-stage and further upward momentum is likely to become exhausted. Here’s how I use the P/E in conjunction with the base count:

When i buy a stock, I take note of its P/E ratio. Now, let’s say this is a position I hold over the next year. Duringg that time, the stock goes through two , three, or four bases as described, periods of “plateaus” when previous upward surges are digested before the price acceleration continues. When that stock gets to a late-stage base- let’s say it’s putting in base 4 or 5 I take note of the P/E again and compare it to ration when I bought it. Or, if I bought a stock during a later stage base, I’ll compare the current P/E to the ratio at the first base at the beginning of the move. If thatP/E has doubled or more say from 20 to 40 I know I must be careful.

The Climax Top

After leading stock has made a healthy advance for many months, the price will accelerate adn start to run up at a faster pace and steeper angle than at any time during the advance. When this occurs, you should sell into the rally and nail down some, if not all of your profits.

A climax top occurs when the stock price runs up 25 to 50% or more over the course of one to three weeks. Some can advance 70 to 80% in just 5 or 10 days.

Selling into strength, Specific things to watch

As you count up versus down days, you’ll start to see a shift where up days dominate down days. Maybe 6 out of 8 are up days, and then a few weeks later 8 out of 11 are up days. Look for 70% or more up days versus down days over 7 to 15 day period (example : 7 of 10 days are up). As a general guideline, once the stock is extended, look for 6 to 10 days of accelerated advance, with only 2 or 3 days begin down. At this poin tthe price is likely to be daily spread since the beginning of the move. That last blast of upward momentum usually signals that the run is over; very often this occurs within a few days of the top. You should look for recent exhaustion gaps, another sign the stock could soon come crashing down

Look for the following warnings

• New highs from late fourth and fifth stage bases
• P/E expansion by twice or more during late-stage price action
• climax run or blow off top ( price up 25 to 50 percent or more in one to three weeks)
• On extended stocks, 70% or more up days versus down days over 7 to 15 day period
• once the stock is extended, 6 to 10 days of accelerated advance with all but 2 or 3 days being down

In addition

• look for the largest up day since the beginning of a long move during the fast run-up
• look for the widest daily spread from high to low
• Look for recent exhaustion gaps

Look for signs of reversal and heavy volume

• High volume reversals
• elevated volume without much price progress- “churning”
• The stock price down on the largest volume since the beginning of the move

Selling into weakness

When your stock experiences material weakness, your ego may tell you to hold on. I’ll wait until it snaps back” you think to yourself. But these signals shouldn’t be ignored. Once you start seeing warnings that your stock is extended and vulnerable, holding out for more is just exposing yourself to unnecessary risk and potential air pockets. The danger is that there’s good chance the stock will come off its highs hard and fast ton surge in volume.

When this occurs, it’s major sell signal, because the big boys are piling out, and you can’t fight a tsunami of institutional selling. Sometimes it even happens on good news, such as an earning report. The discrepancy between what appears to be good news and a sharp sell-off often confuses investors. They can’t figure out why the stock is down, because in their minds it should be up. As I explained earlier, this may be a case of “differential disclosure.”

Before it becomes apparent that the fundamentals of a company have changed, a major break in the stock price could occur on overwhelming volume. If your stock experiences its largest daily and or weekly price decline since the beginning of a stage 2 advance, this is almost always an outright sell signal.

You will always sell too soon or too late

The goal of stock trading is to make a decent profit on your investments. not to try to be right all the time. It’s not about getting the low and the high either, which is nearly impossible to do even occasionally, let alone consitently. Bottom line, if you dont’ sell early, you’re going to sell late. 99% of the time it will be one or the other. If you held onto a stock that you bought at 20$ and saw it rise to 40\(, then fell from 40\) to 30$, you’d probably kick yourself for not selling sooner. However, one the most demoralizing experiences is to watch a stock you own skyrocket and then tumble, taking back all your profit, or worse still turning into a loss.

Remember, your goal is to make more on your winners that you lose on your loser, and to nail down good-size profits when you have them.

You might as well know something right up front. you're almost never going to get the highest price, but it’s not necessary to do so to achieve super performance. Instead of worrying about selling at that high or buying at the low, concern yourself with what trading is about: making a good size profit and repeating it over and over. The goal is to sell stocks higher than you buy them. this has little to do with where the stock trades relative to where it once traded.

Section 10 Eight Keys to Unlocking Super performance

The Four Keys to Generating big performance

• Timing
  • Top of the list of what most experts say you can’t do in trading is time the market. Yes, you can time the market. I’ve been doing it successfully for decades. Simply stated, timing is everything in life and in trading. We often hear how someone got a lucky break by being at the right place at the right time.
  • As for those who say “you can’t time the market,” that usually means they can’t time the market, so they can't imagine anyone being able to do so. Keep in mind, your timing isn’t always going to be correct. In fact, you are likely to be correct only about half the time. It’s how you manager the winners and losers that will turn your timing into performance.
  • If you ever want to do anything great with your life, you must stop believing those who say you can’t. This naysaying always comes from the mouths of people who never did it themselves.
  • when you are trading individual stocks, especially smaller, under-followed names, timing becomes much easier than trying to figure out the direction of the entire market day to day. Your job is to time your purchases along the “line of least resistance.” As discussed previously, the line of least resistance is the price level from which a stock can move very quickly, making a large scale advance in a short period of time. I call these velocity trades.
  • As a trader pursuing SportPerformance, you should always be on the lookout for velocity trades, which can make gains on the order of 20,30, or 50% over a few weeks or a few months. With velocity trades, you can compound your money very rapidly. Even with a 20 or 30% return made over a few weks or few months, you can compund your money with several trades over a longer period and amass a significant total return.
• Don’t Diversify
  • If you have a significant edge, diversification doesn’t help you; it dilutes you. bottom line: you are not going achieve big returns consistently if you are widely diversified. To generate a big return consistently, you need to be concentrated among the very best names- somewhere between four and twelve, depending on your account size and risk tolerance. In fact, when things work well, I like to have most of my money in the top four or five names that I am following closely. Regardless of what you may have heard or read, there is no need for an individual investor to be widely diversified.
  • I am not suggesting you load up on stocks and trade aggressively all the time; just the opposite. The way to make big money in stocks is to be concentrated at the right time - when things are working and moving in your direction and to trade lightly when trading gets difficult. That means you must stay on top of your stocks. you can’t possibly do that effectively if you own dozen of names. With a concentrated portfolio, you can keep a close eye on every name and move quicky into or out of positions. You can increase your market exposure on a moment’s notice, and you can go to cash just as rapidly. Speed is your big advantage.
• Turnover is not taboo
  • Another rule among most money managers and mutual funds is to keep portfolio turnover low because of commissions and for tax reasons Buying and selling frequently is frowned upon for them. But if you have an edge and you’re running a concentrated portfolio, turnover can be a good thing. Trading in and out of positions could further your goal of compounding your money rapidly, if you have an edge. With every trade, you are trying to make as much as possible in the shortest possible time frame, so you can go on to the next potential wining trade and maximize compounding. That’s not to say you shouldn’t hold a stock if it continues to act well, but you want to lose as little time value as possible.
  • Here’s a simplified example. : let’s say that you’re flipping a coin, and every time it comes up heads you make 2$ and when it comes up tails you lose 1$. given the statistical probability of heads being the result half the time and 2:1 payoff, the more you flip, the more you make because of the mathematical edge. An edge in the stock market works much the same way. I’m not going to keep myself from selling one stock and buying another because I’m concerned about having a high turnover rate or because I will have to pay taxes on the gain my goal is to have gains to pay taxes on. I buy a stock when the probability is high for reward verses risk, and I sell when the risk of owing it gets too high. I never make a sell decision based on turnover or tax reasons.
  • Bottom line: if you get a sell signal, get out. Or, if something looks more appealing, move out of less attractive name and into something better. Traders don’t get married to a stock they just date. Your money should always be moving to where you are going to reap the best performance and moving out of trouble situations that put your capital at risk. you may even move to cash when there are few compelling stocks. As a result, much of your turnover will be the result of cutting losses and managing risk. You want to hold a key leader for a big move when the time is right, but don’t underestimate the power of smaller wins compounded. With an edge, turnover is good.
• Always maintain risk/reward relationship
  • Here all the keys to generating super performance come together: timing, a concentrated portfolio, the willingness to move into and out of positions, and now, managing risk versus reward. You are poised to take advantage of a huge upside, with protection that allows you to move out of a position quickly, if and when something moves against you. By continuously rebalancing the risk and reward, you negate or mitigate any downside to being highly concentrated among a few names in your portfolio. You should take a short-term approach to losses and a relatively longer-term approach to gains. that means you cut your losses and let your winners run. Regardless of the time frame, I always maintain the risk/reward relationship. for example, if I think there’s a decent chance that a stock can trade up 15% , i set my stop at 7 or 8 percent or less. Even if it’s a 50/50 chance that i’m right, it’s a good risk reward play because i’m only risking 7 % to gain 15%.

The four keys to limiting drawdowns

• While stops are a great discipline, you must set them at a level that makes sense so that you are controlling risk in relation to reward. If you don’t maintain the correct balance, you might find yourself taking on big risk in return for only a small payoff. The objective here is to do the opposite, take a small risk in return for a big potential reward.
• Sell into strength
  • Always keep in in mind, it’s generally better to sell early than late. A stock you bought has risen steadily; your position is up 20,30 or 40% so what do you do? The answer divides the pros from the amateurs.
  • Professional traders sell into strength. They want to sell when there are eager buyers. Amateurs, on the other hand, get happy and giddy, thinking that their rising stock is never going down. The greed sets in and they don’t sell. Even when a 30% gain turns into 40 or 50% gain, they refuse to get out while the getting is good.
  • Granted, after you sell, the stock may keep on going, rallying even further without you in it. You can grumble and complain about money you didn’t make because you got out after, say a 40 % gain and the stock ended up doubling or tripling over a longer period of time. That’s going to happen.
  • But if you fail to sell into strength, you’ll set yourself up for a far bigger problem than potential profits left on the table. If you wait too long to sell, the uptrend will end and the stock will come erasing back down. You might shake off the first dip, after all, stocks rarely rise of fall in one direction. But the 5% drop turns into 15% drop, and now you really don’t want to sell because you’re kicking yourself for not selling higher. Wait too long, though and the stock could break even harder, giving back all or most of your gains. When you do sell, your profit is either greatly reduced or fully negated, and all because you were afraid of missin gout on more upside.
  • It’s far better to sell into strength than wait too long and lose all or most of the sizeable gain you once had. When you sell into strength , your equity value is at its highest point. If you want to maintain an equity curve that consistently stair step up, you should learn how to sell when you have a decent gain while the stock is advancing.
  • Waiting too logn to sell also runs risk of losing time value. when you hold a stock through a significant correction, you may have to go through weeks, months, or longer before it starts another leg up. During that time, you’re tying up your money instead of getting out at profit and moving on to the next best opportunity.
  • Remember the lesson on time value: thanks to the power of compounding, if you can get small but consistent return and repeat it over and over, it could be far more productive than trying for a bigger return that takes several months or even years to produce.
• Trade small before you trade big
  • But when things aren’t working so well—perhaps your analysis is correct, but your timing is off—you can’t remain aggressive. That’s when it’s time to slow down or even take a break from trading as you analyze why you’re out of sync with the market. This is the essence of letting the market guide you, instead of following your opinions or hunches. Developing this self-control will train you to listen to and trust the market, not your “gut.” Your intuition has no business in your trading. Personal feelings are seldom a substitute for facts.
  • Here’s how it works in real-life trading: You make a few purchases from your list of stocks that you’re watching as they trigger buy points. Once you’ve logged a few gains or a number of your positions are showing some net progress, these results will “finance” the risk for bigger trades. Let’s say you make $1,000 on one trade and then $1,000 on another, for a total of $2,000. You can now afford to trade a little larger. You can risk $2,000 to make $4,000, because that risk is already “financed” by the $2,000 in banked profits. Moreover, you’re trading more aggressively on the heels of profitable trades, pyramiding your way to bigger positions, instead of working your way out of a hole.
  • When losses mount, it takes a toll not only financially, but also emotionally. Your confidence gets shaken. But by following the market’s guidance as it “tells” you whether your strategy and timing are on or off, you won’t ever get too far off track. As a result, your capital and your confidence will remain intact.
  • Losses are valuable information that things aren’t working. Your timing is off, or perhaps the market is weighing on stocks in general. Why would you want to throw good money after bad if something isn’t working well? If you do, then your ego is more invested in your opinion than in the actual market. This rule is one of the most important disciplines to keep your drawdowns low.
  • Yet, most investors don’t operate this way. When things get difficult and losses mount, most investors “revenge trade” and try to get it back quickly. This means trading larger or doubling up on losing positions to get back the money they lost. Occasionally and in the short run, this can work and bail you out of a losing streak. Over the long run, though, it will only lead to large drawdowns and invite disaster
• Always trade directionally
  • You must trade directionally. If you try to go against the tred, you will seldom be correct. Once trend is established for example , a stock you like has come under selling pressure it’s very risky to buy, thinking that at some point it will come back. There is usually a low likelihood of that stock reversing the trend and making a sustained move in your direction precisely when you expect. If you’re using relatively tight stops, even a small decline could stop you out and produce a losing trade. These losses can add up, so the goal is to buy at exactly the precise moment when the risk of loss is minimal.
  • I never buy a falling stock. I always trade directionally. This applies to all time frames, from long term investing to swing trading and even day trading. allowing the market to guide you puts you in sync with it, which increases your chances of makign a profit and limiting losses. Over time you will, at a minimum experience smaller drawdowns.
• Protect your breakeven point once you have attained a decent gain
  • Protect your principle as soon as possible. How and when this occurs will depend a lot on market conditions and how well your trading is progressing. If market conditions are challenging, I will be quicker to protect the downside, moving my stop up more quickly and being less forgiving of any adverse moves against me. If my strategy and timing are in sync with the market, then i’ll be more forgiving and allow my stocks a bit more room. As your trade becomes profitable and shows a decent gain, you want to protect your breakeven point or at least move up your stop to lessen your risk.

The eight keys in your hands

I realized that to get big returns I didn’t necessarily need to find giant winners in the stock market (although that remains my ultimate goal). But while I’m looking for those stocks that make huge moves, I can still pursue a very strong performance with smaller, solid gains that compound my money. This “Plan B” allows me to turn 15 to 20% winners into triple digit annual returns, instead of waiting for that one big stock that my or may not show up this year

when i started trading for a living, I had to find a way to extract consistent profits form the market. I learned that smaller moves can compound into sizable gains with intelligent market timing, a concentrated portfolio, and some turn over because you’re nailing down profits by limiting losses, while letting your winners finance your risk.

Section 11: The champion trader mindset

Mark Minervini with performance coach jairek robbins

Mark Minervini: Over the yers, I’ve come to realize that fear is the number on emotion that causes traders to sabotage their discipline.

• Fear of missing out causes them to chase stocks and bu past the point at which they know they should.
• Fear of loss causes them to sell too soon and take small profits in stocks that show no real reason for concern
• Fear of making a mistake keeps traders from being able to pull the trigger decisively

How can investors deal with their fears so they can trade more effectively?

Jairek Robbins : There is emotional state called detachment that allows you to operate at your absolute best. With detachment from the outcome, you have the ability to access a strategy with total cerntainty. You know that sometimes you’ll win and sometimes you’ll lose. You detach from whatt happen once you place the trade. Detachment, which is grounded in eastern philosophy, keeps you from being, affected by negative emotions such as fear. To achieve that state, you have to create what i call your emotional forecefield.

One example and mark, i know you practice this one every day is the “mental rehearsal”. Before going on to explain, let me point out one important distinction. A mental rehersaliss not visualization and that’s where a lot of people go wrong. Positive visualization is imagining the best possible results. But that’s not reality. For a trader, that would mean visualizing every trade going your way, which is impossible. If you visualize everything positive and you have a loss, your nervous system freaks out, and all your fears come true.

Mastering those fears requires a mental rehearsal. In your mind, you start out with the mental picture of what you want to see to make a great trade. By following your plan, step by step, you move into and out of the market effortlessly. However, you also picture yourself doing the exact same thing—diligently following your plan and identifying the perfect setup—but this time you envision the market going against you. The stock doesn’t follow through the way you had expected. Your trade is stopped out at a small loss. You see yourself accepting that loss, taking a breath, shaking it off, and sitting back down to identify your next trade. Your mental rehearsal includes seeing yourself achieving positive outcomes on some trades, and getting hit by obstacles and having losses on others. The more you rehearse and see yourself able to stick to your discipline and your plan, no matter the outcome, the better you’ll be able to tame your anxiety. You will see yourself resisting the temptation to chase a stock. You see yourself holding your stops and getting out of a trade with a small loss, even if the stock turns around and rallies without you on board. You know these things are going to happen to you, just like they do to every trader.

Mark : Here’s how i like to explain. You have go from outcome to process. Using another sports analogy, if you’re up at bat, you are not going to hit home runs by being focused or preoccupied with the scoreboard. Your goal is to score runs. But if you put all your attention on the task at hand, you will hit well, and score will reflect it My own personal performance went from mediocre to stellar when I finally said to heck with the money. I’m taking my focus off the score board. I’m going to focus on being the best trader i can be and concentrate on making every decision a quality choice. Then the results appeared. Making money is the result or by product of effectively carrying out a well thought out plan. Focusing on the money or the outcome will only distract you from the work you need to do achieve the desired result. The money will only come after you execute your plan. So, that’s what i focus on.

Jairek: As part of your daily preparation, you want to activate your body and optimize your mental and emotional state. Here is a technique I learn from an ex-Navy Seal. it’s called “box breathing”. You breathe in through your nose for four seconds, hold your breath for four seconds. then you breathe out through your mouth for four seconds and hold like that for four seconds. Do this for five minutes. This allows you to focus your mind by concentrating on your breath. Five minutes of box breathing disassociates you from anything else. If you are completely focused on your breathing, your mind cannot form fears or anxieties or negative thoughts. And, breathing like this gets oxygen to your brain. A lot of people stop breathing when they get fearful. you are recentred emotionally and refuled with oxygen.

Mark: Jairek, you’ve discussed the emotional and physical preparation, what else can help traders prepare mentally for the trading day- especially to master their fear? As I’ve found in all my years of teaching and coaching traders, and now with my seminars, if I give people rules, that’s not enough. For one thing, they don’t always follow the rules. Trading is not a game of certainty, but a game of probability and the rules are what move the odds in their Favor. I can teach them my strategy and the mechanics, but they go home with their idiosyncrasies. And so they lose their confidence, and in some cases regress into a myopic state focusing on the most recent trades and losing perspective or what i call reference to the whole.

Jairek: Here’s another preparation that can help affirm discipline and adherence to the rules. Every day, before you trade, review what happened the day before. First, you identify what great things happened the day before in your trading—not just the wins, but also when you stuck to your discipline, like getting stopped out for a small loss. Second, identify two or three lessons learned that led to good results—or that you realize now from painful outcomes. Write down the lessons learned every day. Some traders will find, as they write down the lessons from the day before, that they keep repeating the same ones, over and over. That will keep occurring until they master whatever it is they need to learn. Third, ask yourself, “How am I going to improve today?” Again, write it down so you can record where you see the need for improvement.

Starting the trading day with these three questions—what went great, what were the lessons learned, and how am I going to improve—will help traders learn from their results and improve. Bringing it all together—mental rehearsal, box breathing, activating your body, and asking these three questions—you can become better prepared for the trading day.

Mark: Yes! It’s all about empowering yourself. To do that you need to understand yourself. Each trader is different. For some, buying correctly is the problem, while for someone else selling may be the issue. I always recommend that you print out charts of your trades and mark with a pen where you bought and sold. As you study these trades, you will almost always find a common denominator, something that you do repeatedly.