Thursday, January 21, 2010

A Key to Executing Your Trades

Several traders have asked me to resolve a seeming contradiction: On one hand, I post indicators that track the market's trend status; on the other hand, I suggest that trend following does not work and that one should be cautious in trading what they see.

The resolution of this issue represents what has been, for me, the single best contributor to the profitability of my trading in the last couple of years.

And here it is, in all its simplicity:

I trade with the trend.

I execute the trade countertrend.

That is, if I identify an uptrend at time frame X, I wait for a pullback at time frame (X-1) to enter the market on the long side. If I identify a downtrend at time frame X, I wait for a bounce at time frame (X-1) to enter the market on the short side.

If I'm a buyer, I wait for the sellers to take their turn in the market and show me what they've got. If they cannot push the market below a prior low reference point, I'll buy and use that reference point as a stop.

If I'm a seller, I let the buyers rally the market and show me how far they can take it. If the buying dries up below a reference prior high, I'll sell and use that reference area as a stop.

If we have a good trending move and a weak countertrend dip or bounce, we'll usually at least test the prior highs or lows. That means that even a trade that doesn't roar to new highs or lows can often be exited with some profit.

That execution edge can make all the difference in terms of profitability; it has for me.