There is a saying that the key to successful trading is cutting losses. If you are a reasonably informed person, you will have many profitable trades. But there are times when you buy a stock, it goes down a little. You are hoping that it will come back up but it keeps going down to 25%.  This when our emotion comes into play.

I am working as a software engineer by profession. But my real passion is following the stock market and trading stocks and options. I record couple of hours of CNBC every day and watch it in the night while working out. I have been trading stock for more than ten years. I am no great stock trader but I have been making money consistently over the years.

The biggest enemy to successful stock trading is your own emotions. You read a lot of books then try stock trading. You loose some or gain some money depending which cycle of of the market you entered. After going through a couple bull and bear market cycle you become a kind of pro. That is if you have any interest, energy and most importantly some money left to trade.

It has been said many many times that the key to successful trading is cutting losses. If you are a reasonably informed person you will have many profit making trades. But a time comes when you buy a stock, it goes down a little. You are hoping that it will come back up. But it dosn't keeps going down to 25%. Then you thinking I should have sold it at 10% but now that it has come down so much let me hold a little longer. Very soon the stock's value is half of what you paid. You forget the ego and dump the stock. You made a good decision. Next year you see this stock crossing your price. You feel down a bit? You should not. This where the emotion comes into play. Based on the situation a year back it was a good decision to take that loss, so you made a good decision but you don't feel good right now.

I have made similar mistakes many times. I buy this stock, it goes down. Then comes back up. As soon as the stock crosses my buying price I sell it and feel great that I made money on that trade. In next few days the stock goes up another five percent. I feel like an idiot. I buy another stock, this one goes up 2 bucks and I hold onto it. Next day it falls three dollars. Now guess how I feel. How to avoid this kind of problem? Set up rules for yourself and stick to those rule.

Here are the rules I have followed over years. Read on and these might help you as well.

1) Buy strong stock from a good sector when they clearly (a) breakout. The clear breakout will weed out a weak market. Double sure the breakout on a closing basis. The only other times to buy it will be when it is down (b) 15% (25 to 30% for a speculative stock) or it (c) closes positively after a long down turn. By long I mean couple of weeks. Spend time on it before buying, when in doubt stay out.

2) If a good stock from a good sector hits new high but unable to breakout then the market might be in a corrective mood.

3) Always, always avoid buying cheap stocks. That includes a stock that is near the support level during a good market. Avoid stocks under $20 and definitely penny stocks.

4) When dealing with speculative stocks always start with 10% or less of your money and put more money as the stock goes higher. Putting too much money on such stocks makes it difficult to take loss at the technically right prices (selling at right price means a huge loss when a lot of those shares are bought and also it becomes difficult to simply hold those stocks in such a situation). If the share goes down then holding upto down 25% is not illogical as long as the position is small.

5) Day trade only when market seem to be on a strong bullish course. Keep the day trade only when it is strongly on the upside. Best thing is not to day trade and save time for better things.

6) Use the knowledge. Use the hunches. Do not sell the hunch stock easily.

7) Never, never use a limit order to sell. Have patience before selling a profiting stock. If the logical stop is close to mkt price then put the stop.

8) When a stock is bought and it just goes no where, hold it for at least two weeks. New moves usually take place within two weeks.

9) Do not sell all positions same day, particularly when in doubt. Buys need to be spread out. More stocks to be bought as the price goes up. Similarly selling also has to be gradual. I have lost potential gains by selling all my positions the same day.

10) Don't sell a stock to buy at a lower price.

11) Don't put more than 25% on any stock to begin with. More money can be added later.

Rules and mistakes:
1) If day trading, close the trade same day unless it is strongly on plus side. All the major losses for this year has come from keeping a day trade in loss. I lost about $25000 from day trading AMZN and NSOL and keeping them. Another big loss was on day trading RCNC of $8000. Now I am having a loss of $10000 from HWP. I initially wanted to day trade on it. Then I changed my mind and kept it. There was a rumor of bad news on HWP and I ignored that. A stock with bad news can go down any length. Same about a stock with sector trouble. As of now I have about $33000 loss this year from day trading and a net profit of a mere $25000. Best is to avoid day trading all together.

2) Buy strong stocks when they are down. Do not buy them when they have some negative news or the sector has some problem. Don't buy when the breakout is in doubt(LU).

3) If good part of portfolio is down don't keep another losing position(JBL). Such situation might be because the market is not healthy. Also don't get into a stock without following it even if it is a new high or breakout.

4) So far this year I made money when I traded CSCO, SUNW and IBM. Lost often on LU, DELL, YHOO.

5) Another problem was to sit tight on a stock that is in money. Previously one stock went up then came down and I lost money and that instills fear that this one also will go down. If only I kept my SUNW shares I would have 46k profit on it now. This has been the biggest problem with me followed by #1. A little bit patience goes a long way. Lack of patience and taking small profits. Another recent (11/99) example has been NOK.

6) Spend some time before starting a trade. It is never too late to enter a trade. Spending time will eliminate emotional factors and facts will take precedence.

7) Trade with logic and facts. Eliminate hope and emotion.

8) Look for a clear breakout. Don't jump on it just because it hit a new high. If it is new high keep watching it. It may be worthwhile to put some money on it if it goes down due to market correction. Observation has been that in a strong market they breakout and in a weak market they just make a new high and then go down. Buying breakout only is the best thing. If a good stock from a good sector hits new high but unable to breakout then the market might be in a corrective mood. So far I have experienced three such times. PCLN in Aug hit new high to 94. I bought it then PCLN went to 60 due to market correction. When market came back it broke out and hit 160 but I sold it for a miniscule profit. When the stock comes back vigorously simply keep the stock. The same happened with SUNW and I took a profit of $250 when the stock came back. Now in Oct. history repeated itself with JBL. Bought at $56. This time however I sold at 49 and JBL is now at 62. After loosing money only I am realizing what has been happening. During such time take the money off or go short. As for shorting do it only when market is weak and the sector is out of favor. During such time it is good enough to be just out of market.

9) Never put a limit sell order. I can remember only the sell of NSOL where I sold at high price. In all other cases the price always went up beyond the price where I sold. However putting a limit order to buy after a breakout has been generally successful. On two occasions (DAL & AXP) I put a limit buy order overnight but next day there were some bad news (broker downgrade). I got a fill and the stock kept going down.

10) There has been times when I knew that such and such thing will happen. Recent example was QCOM. It had resistance at 230 then after earning it touched 250. Clear breakout. I instinctively knew the stock will go to 300. But I didn't even think of buying it. The stock hit 300 in a week. When I know something I should act on it. When these breakouts happened I felt I should have bought earlier, buying now is useless. How wrong it is. When to buy ? Breakout breakout breakout.

11) Last one month (11/99) it has happened couple of times that I sold one and then sold all other stock holdings on impulse. This has to be avoided. The original plan on each stock has to be stuck to.

12) Take action based on what is likely to happen rather than what has happened before.

It has been a problem to act on beliefs. When (10/1999) DOW and SP500 were trailing I knew NASDAQ Had to fall. I did not act on this hunch. I should have shorted BMCS which warned and went down. Instead I bought 500 JBL simply because it hit a new 52-week high and broke out on a three month chart. I didn't see it had a resistance there on the longer chart. The decision to buy JBL took less than 5 seconds. I didn't follow it and didn't even know which sector it was in.

I bought LU when I was holding HWP in loss. I lacked confidence. I has a hunch on NT but I never traded NT b4. I was probably afraid of trading NT because of unfamiliarity.

It has been a problem not to follow my own hunch and not sticking to my original plan. How many times I heard "make a strategy and stick to it". In mid summer all chip stocks were hitting new highs and INTC was trading at 55 (high 71). I knew instinctively that INTC will hit at least 71. I didn't get into it. INTC hit 87 in couple of months. Similarly I failed to pick AMAT on a previous chip rally.

The lesson from this year has been to be in the right sector. The hot sector can do well even in a choppy market and it is not so difficult to identify that sector. It has been difficult to sticking to the plan and carrying it out. Last one month (Oct,99) has been devastating for me having lost about 10k. Last years lesson was not to overtrade which is among few of the things that I successfully achieved.

Memorable lines from Reminiscences of a stock Operator :

A trader should have hope and fear. He should fear that the loss will become bigger and hope that the profit will increase.

Derive conclusion from facts. Do not try to fit facts into your hopes.

When I lost money it never bothered me because I always thought that I learned something.

Knowing something is one thing and acting on it is another.

Weakness :

1) Inability to sit over the stock that is in the money. Sometime the rule to not to let a profit go into loss conflicts with this. But I should always keep the stock when it is reasonably above my buying price.

2) Not sticking with the original plan.

3) Inability to pick market bottoms and sell tops.

4) Going for stocks that has lagged. Avoid the laggards.

Strength:

1) Spotting the right stock and getting in at the right price.

2) Spotting the right sector and moving out of dead stocks.

3) Timing small, volatile stocks correctly.

4) Speculating on small stocks. To correctly apply technical analysis on small stocks from the right sector. Although taking small profits has been a perennial problem.

Two most important rules

1) Never keep a losing day trade.

2) Buy only the breakout or when a strong stock dips more than 10 %.

Related:

• Stock Market Investment - The Path To Success

Sometimes, very simple questions can teach you life’s biggest lessons. Moreover, set you on the right path.  Therefore, it was, when I was forced to ask myself why I wasn’t.......
 
• Stock Investment Mistakes to Avoid

Investment mistakes often happen when decisions are influenced by emotion and when basic principles of investing are misunderstood. Confusion also exists about how........
 
• Warren Buffets Investing Tips- His Interesting Apects Of Life

There was an one hour interview on CNBC with Warren Buffet, the second richest man who has donated $31 billion to charity. Here are some very interesting aspects........