This document is a short course on day trading with RT PRO – intra day data & charting service provided by Technical Trends. (www.techncaltrends.com)
The purpose of this document is to answer many questions that we receive daily. We wish to assist users in becoming proficient in the art of day trading. Yes, day trading is an art. There is a sixth sense, or rhythm to day trading. Those who have it do better than those who do not, but everyone who applies the principles outlined in the next few pages has the potential for consistent success in this business.
SECTION 1. DAY TRADING IS A BUSINESS
Trading in a short-term time frame is fun. It is just like playing computer games, except that there is a lot of money involved. So, unless you have money to burn, you should approach day trading as a business.
A. Record keeping.
Keep a record of all your trades. This involves keeping a trading diary. Don’t begin a story for each trade, just mention the highlights – why you took the trade & what went right or wrong.
B. Brokerage.In day trading, high brokerage rates can ruin you. Make sure you pay the lowest brokerage rates available. Many brokers will give you good rates when you negotiate with them.
SECTION 2. THE SPECIALIST TRADER
Traders who are most successful are specialists who use just one or two trading techniques and become experts in their execution. Focusing on one or two strategies will bring repeated success. Every time someone brings out a new strategy, we run to it, hoping it is the magic bullet. Well, we have not found any magic bullet, but we have identified a number of tactics that bring success. Knowing how to execute a particular strategy and being able to find the stocks that are ready to move when you want to trade is the most difficult situation facing day traders. With some study, it is possible to learn techniques to identify stocks that are ready to trade – when you need a trade. This can work out if you specialize in one or two techniques.
A. Your time frame.Traders must define the time frame in which they work. Position traders will typically enter a trade with a time horizon of weeks or even months. Swing traders are looking at trades that may last from a few hours to a few days. Day traders will usually hold stock for less than a day. Sometimes, their position will be closed in just a few minutes. Sometimes, a good trade will be carried overnight becoming a swing trade. In general, day traders will have positions that are closed in less than a day.
There are numerous advantages to day trading as well as disadvantages. Because day traders make more trades than, say, position traders, there are more chances of an error. Another disadvantage is that day traders often miss the big moves that stocks make. Therefore, some day traders let successful day trades develop into swing trades. Confirmed day traders, however, always close their trades before the market closes. An advantage to day trading is not holding trades overnight. Thus there is no risk of a gap open against the trader, the next day.
Finally, if you wish to day trade, you must be willing and able to sit in front of a computer all day and monitor a trade. If you cannot, then you can trade in the swing or intermediate time frames.
B. Goals & Cash management
Every trader must have goals. You must define these goals in terms of money. An example: “I wish to earn Rs 1,00,000 (One lakh) per month with day trading.” This works out to a daily average profit of Rs 5,000. Now, use this information in your cash management. Let’ say you find a great trade and are about to put on a trade. Suppose, you buy 500 shares. Now, the share must move at least Rs 10/- in your favor for you to reach your daily goal of Rs 5,000/-. Here, you must ask yourself if the stock has a daily range that justifies your expectation of a 10/- profit. If the average daily range for the stock is Rs 5/- then why should it move Rs 10/- on the day you put your trade? Then, you have to choose a stock that has a larger daily range, or increase the numbers of shares that you trade. But, your money management rules may not allow you to increase your volume. The only option left is to search out for stocks where the average range is enough to justify taking a position.
Average True Range – the difference between the daily high and low of the stock averaged over a number of days. Stocks with high average range are more volatile, thus offering more trading opportunities. Traders should search for stocks with high true range, or where the range is now increasing after remaining on the lower side.
The bottom line is you have to select stocks to trade that have the potential to generate a reasonable profit. While we will address the selection of stocks again in this course, once you decide on how you will trade every day, and what strategies you will employ, all of the above becomes second nature due to repetition. That is why it is important that you become a specialist. It is imperative that you have a trading plan before the open of the market. Just hoping to stumble across a good trade during the day, perhaps by listening to TV channels, is a sure way of failure in trading.
C. Are fundamentals important to day traders ?
Fundamentals do not matter to the day trader. You want a trade. You do not want the PE, Book Value, Q2 earnings, or any other information of this kind.
D. Market & Limit orders.
When trading highly liquid stocks, place orders at the market. In all other cases, place limit orders. This ensures that you do not get caught in a large spread for an illiquid stock. However, when your stops have been activated & you need to exit your position quickly, then do not wait for a limit order. Exit immediately at the market.
E. Stocks have individual trading characteristics
Stocks have personalities. One advantage of trading the same stocks all the time is you learn how they trade. If you are trading a stock for the first time, you often don’t know how it will move. Some stocks are incredibly volatile, others trade as smooth as silk. The more day traders, the more volume, the more volatility .
You should be looking at highly liquid stocks with an acceptable true range and a small spread.
SECTION 3. TREND & TRIGGER
“Successful trading is very simple. Buy a stock at the right time and sell it at the right time”.
A. TREND.
Traders make profits when the trend is in their favor. Many day traders forget this simple rule. There is only one way to make money – Buy Low & Sell high. If you are selling short then you may change the order, by selling first & buying later. It is a mathematical certainty that profits can be made only by buying at a price that is lower than the selling price.
For the day trader, who does not enjoy the luxury of time, it is all the more essential that the trend should be in his favor when he begins the trade.
B. TRIGGER
The trader need not take a trade even when the trend is in his favor. Once he is aware of the trend, he knows the direction in which he should trade. He should then wait for a trigger, which tells him that the appropriate moment to take the trade is now in hand. Thus, a trigger times the actual trade entry.
SECTION 4. . SETTING UP YOUR CHARTS
MULTIPLE TIME FRAMES
Traders can set up their trend & triggers in a number of ways. One classic & simple way is to use multiple time frames. A trend indicator on a higher time frame indicates the trend direction. The trader then takes trades using triggers in his normal time frame, only in the direction of the trend.
Example: A Day Trader uses two charts for each stock:
Chart 1. Trend. 30 minute chart which is the higher time frame
Chart 2. Trigger. 5 minute chart which is his trading time frame.
TREND CHART
To identify the trend, setup a 30 minute chart. Apply one of the following trend indicators: Escala, Alligator, Moving Average or Time Series.
You should go long only if the trend indicator is in an uptrend. This is how you identify the trend:
For an Uptrend:
Escala Day Trader: Bar color must be green. The Green bar must come after at least three red bars. If the green does not have three preceding red bars, then wait for three consecutive green bars to confirm an uptrend.
Alligator: The three lines should be in proper order. The Top line should be Green, then red, finally blue should be the lowest. Close of the latest bar MUST be above the Red line.
Moving Average: Apply a 20 period exponential moving average. Close of the latest bar should be above the moving average. The moving average should be rising. This means the value of the latest average should be higher than the value of the previous average.
Time Series: Apply a 13 period time series. This indicator is available inside the moving average option. Close of the latest bar should be above the time series. The time series should be rising. This means the value of the latest time series should be higher than the value of the previous time series.
For a Downtrend:
Escala Day Trader: Bar color must be red. The red bar must come after at least three green bars. If the red does not have three preceding green bars, then wait for three consecutive red bars to confirm a downtrend.
Alligator: The three lines should be in proper order. The Top line should be blue, then red, finally green should be the lowest. Close of the latest bar MUST be below the Red line.
Moving Average: Apply a 20 period exponential moving average. Close of the latest bar should be below the moving average. The moving average should be falling. This means the value of the latest average should be lower than the value of the previous average.
Time Series: Apply a 13 period time series. This indicator is available inside the moving average option. Close of the latest bar should be below the time series. The time series should be falling. This means the value of the latest time series should be lower than the value of the previous time series.
We have discussed four trend indicators. Please note that you should use one of these four. The choice is yours.
Note: If you are new to trading, you may think it takes a long time for the trend to emerge on the 30 min chart. This is to your advantage. When the trend emerges, it usually has some staying power.
TRIGGER CHART
This chart is a 5 minute chart of the stock that you wish to trade in. Once you determine the trend, you should be searching for a trigger to enter. The 5 minute chart provides you with the actual entry. It is also used to finally exit the trade.
We will use chart patterns on the 5 minute chart to enter the trade.
For long trades:
The 5 minute chart should have a small dip, after a rally. We want to buy when we sense the end of the dip. The end of this dip is signaled in two ways:
Reversal after dip:
After falling for a few bars, the security has a reversal bar. A reversal bar is defined as: (a) Bar with a greater than average range, (b) Open at the low and close at the High. The actual buying is done above the high of the reversal bar. If you are not filled in the next bar, you should keep the entry stop and wait for two more bars. After three bars have gone by, then cancel the trade if it has not been triggered.
For Short trades:
The 5 minute chart should have a small rally, after a dip. We want to sell when we sense the end of the rally. The end of this dip is signaled in two ways:
Reversal after rally:
After rising for a few bars, the security has a reversal bar. A reversal bar is defined as: (a) Bar with a greater than average range, (b) Open at the High and close at the Low. The actual selling is done below the low of the reversal bar. If you are not filled in the next bar, you should keep the entry stop and wait for two more bars. After three bars have gone by, then cancel the trade if it has not been triggered
Doji after dip:
After falling for a few bars, the security has a DOJI. A DOJI is defined as: (a) Bar with a greater than average range, (b) Open & close almost at the same price, and, (c) the open & close should in the the top half of the bar. The actual buying is done above the high of the Doji. If you are not filled in the next bar, you should keep the entry stop and wait for two more bars. After three bars have gone by, then cancel the trade if it has not been triggered.
INITIAL STOP LOSS:
Once a trade is taken, it must be given sufficient room to work out. Therefore, the initial stop loss should be based on the ATR (Average True Range) of the security. When a trade has been triggered, then you determine the ATR in this way:
Plot the Average True range indicator (Indicator —> Volatile —> Average True Range.) Note the value in the indicator window. This is the ATR. Now, your stop should be at least 2 times the ATR.
Example: You go long at 245. The ATR is 1.5. Then you stop will be 2 * 1.5 = 3 points below your entry price.
PROFIT TAKING:
Traders must allow the market to move as much as possible in their favor. Therefore, they should allow the market to determine the exit. For this reason, profit targets should be avoided. Let the market move in your favor. Keep a trailing stop to exit the market.
TRAILING STOP:
Two indicators can be used as trailing stops. Use the one which you find more comfortable.
Alligator Red Line: The red line is a trailing stop. If prices close below this line, then exit below the low of the latest bar.
Parabolic SAR: The SAR is also a suitable stop. SAR values are available on the screen. These become your exit values.
Exit Strategies – 1
Exits are an important part of trading plans. When you close the trade determines your size of profits, losses & total return.
Yet, traders who pay utmost attention on the right time to enter the trade, will often have just a hazy idea of when to exit. They hope that the trade will close itself. The trade does not end by itself, while the trader does not have a plan to close the trade. Many a time, a profitable trade finally gets closed at break even or worse at a loss.
For most traders, planning an exit strategy is a difficult task. This is mainly for psychological reasons. When you plan an exit, you have to accept that (a) the trade can result in a loss, and, (b) the profit on the trade is limited by some method or definition. But we do not like to bind ourselves with these assumptions.
Unrealistic expectations:
We expect that we will be able to buy at lows, sell at tops.
Lack of control irritates us:
While we can enter the market when we want, it is the market that determines our exit. This lack of control over exits irritates us, finally leading us to ignore it altogether. The truth is we are at the mercy of the market once we enter a trade. It is wise to accept that the market has control over our exits.
Answer:
We must have realistic expectations from every trade. We must accept that the trade can be a loss. A profitable trade is not going to make us as rich as Bill Gates.
Then, we can plan for an exit. While the market will still determine when that exit will take place, we will be in control of why that exit will happen.
Type of Exits:
Initial Protective Stop
Catastrophic stop
Break even stop
Trailing stop
Profit target stop
Factors influencing exits:
Reduce risk.
Protect profits.
Maximize profits.
