Stockscores.com Perspectives for the week ending April 11, 2010

In this week’s issue:

Weekly Commentary
Strategy of the Week
Stocks That Meet The Featured Strategy

I am in Calgary on Monday and Edmonton on Tuesday doing one trading workshop at 7:00pm in each city. These workshops are mini-classes where I will teach some analytical methods and then demonstrate how I use those methods to find and execute trading opportunities. We’ll also do analysis of the overall market and hopefully find some trading opportunities to take advantage of.

These presentations are free to attend courtesy of Disnat, who will be on hand to open brokerage accounts for anyone interested. For location details and to register, go to this link. We are expecting large turn outs so you may want to arrive a bit early to get a good seat.

This week, I want to talk about how you get paid as a trader. I hope to change how many of you approach the stock market because I think it is important that traders take the right approach if they are going to succeed.

The “normal” way to approach trading is to want to make money on every trade. While every trader wants this, it is also important to recognize that it is an impossible goal. Losing money on trades is party of making money trading. Rather than judge success one trade at a time, it is extremely important to take a big picture view of the trading process.

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My typical trading strategy is historically right 70% of the time. Whether I am day, swing or position trading, I expect to lose 30% of the time and make 70% of the time. On the surface, that sounds pretty good, but the rookie trader would probably consider a strategy that has a 85% success rate much better. This may not be the case.

It is important that we understand how much money is made on the successful trades and lost on the losers. A strategy that is usually right but suffers big losses when it is wrong can be a loser overall despite its high success rate.

So, when judging a strategy we also need to know the average gain on the winners and average loss on the losers. I reference Reward for Risk when I make this judgment.

The risk of a trade is how much you lose if you get stopped out. If you buy 100 shares of a stock at $10 with a stop loss point at $9, your risk is $100. If you then sell that stock at $12, you make $200, yielding a Reward for Risk ratio of two (you earned two times the reward for the risk you take).

If my average Reward for Risk on my winners, which happen 70% of the time, is two, and my average loss is one 30% of the time then I have a strategy that averages a two for one Reward for Risk. A good strategy because it means that over a large number of trades I make money.

However, remember that this Reward for Risk ratio is an average over a large number of trades. It does not mean that every winner earns a Reward for Risk ratio of two. In fact, I find that most of my trades earn less than two when they are right. It is the occasional big winner that ultimately pays me most of my profits.

One or two times out of ten, I can get a trade that pays me five to fifteen times my risk. These trades are the source of the majority of the profits of a trading strategy.

The issue that many traders encounter is that they exit their good trades too early to enjoy the big gains. Their overall profitability suffers because they don’t catch the big winners.

Why is this? Simply, it is because fear causes us to exit our winners early to avoid having the winner turn in to a loser. We avoid the pain of watching a profit turn in to a loss. It is this risk adversity that limits the performance of many good traders.

To overcome this problem, you must have a set of simple exit rules that work to keep you in to the best trades while still locking in some profit on the many marginal trades that you make. I have spent a lot of time working to fine tune the exit rules, not to maximize the profit on one trade, but to maximize the overall profitability over many trades.

This is a skill that all traders should work on. The tendency is to focus on making the best entry decisions but the impact of the exit decision on your overall profitability is probably more substantial.

If you would rather learn my rules than come up with your own, consider attending the Stockscores three day live classes that will be taught in Calgary and Edmonton through April and May. Information on these classes can be found here.

Although the basic principles of my trading method stay the same, the way that I find opportunities does change over time. Right now, I like looking for stocks making abnormal price moves out of good chart patterns. I can use the Stockscores Market Scan to filter for potential trades by running the Abnormal Day Up scan available to Pro members. I then inspect the charts to see if the abnormal action is out of one of the predictive chart patterns that I look for.

1. V.FO
V.FO broke out of a pennant pattern on Friday. This is not an ideal pattern but this stock has been such a strong performer for me in the past that I am willing to consider it despite the overhead resistance showing on the chart. Support at $0.18.

2. LTXC
LTXC has already had a great run but had stalled around $3.25 over the last five weeks which is old resistance from two years ago. The distance down to support is relatively small making the reward for risk potential good on this trade. Support at $2.95.

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3. MSPD
MSPD is a stock that I featured in the daily newsletter back in July and it has been a great performer. Over the last six weeks, it has consolidated in to a trading range. On Friday, it broke out of that range on strong volume, indicating that it is ready to make the next leg up. Support at $7.90.

References
Get the Stockscore on any of over 20,000 North American stocks.
Background on the theories used by Stockscores.
Strategies that can help you find new opportunities.
Scan the market using extensive filter criteria.
Build a portfolio of stocks and view a slide show of their charts.
See which sectors are leading the market, and their components.

Click HERE for the Speaker Lineup and to Purchase the video if you want to learn from some of the worlds best traders including Tyler Bollhorn.

Tyler Bollhorn started trading the stock market with $3,000 in capital, some borrowed from his credit card, when he was just 19 years old. As he worked through the Business program at the University of Calgary, he constantly followed the market and traded stocks. Upon graduation, he could not shake his addiction to the market, and so he continued to trade and study the market by day, while working as a DJ at night. From his 600 square foot basement suite that he shared with his brother, Mr. Bollhorn pursued his dream of making his living buying and selling stocks.

Much of Mr Bollhorn’s work was pioneering, so he had to create his own tools to identify opportunities. With a vision of making the research process simpler and more effective, he created the Stockscores Approach to trading, and partnered with Stockgroup in the creation of the Stockscores.com web site. He found that he enjoyed teaching others how the market works almost as much as trading it, and he has since taught hundreds of traders how to apply the Stockscores Approach to the market.

Disclaimer
This is not an investment advisory, and should not be used to make investment decisions. Information in Stockscores Perspectives is often opinionated and should be considered for information purposes only. No stock exchange anywhere has approved or disapproved of the information contained herein. There is no express or implied solicitation to buy or sell securities. The writers and editors of Perspectives may have positions in the stocks discussed above and may trade in the stocks mentioned. Don’t consider buying or selling any stock without conducting your own due diligence.