1 Key Note on the Odds of Stock Trading

July 23, 2013 at 4:35 am Leave a comment

How Do You Know When the Odds of Trading are in Your Favor

At any trade situation, successful traders make an approximation for the risk involved in the trade.

What is the Risk of a Trade and can a trader control the risk?

If you are a day trader, you are in best control of the risk involved in any trade. As long as you are trading a liquid asset, your stop identifies the maximum risk. To stay in control of the risk:

  • Use a hard stop.
  • Stay out of a trade, when key economic news are released.

For a swing trader, the overnight risk of a news related gap-up or gap-down is a key element, which can increase the risk for a trade above the original approximated base. To control this risk:

  • Use a trade adjustment price level and method, which will keep you in the trade but buffers the risk of it.
  • Stay out of a trade, at earnings announcements or at other key news events.

The actual amount of risk is calculated in relation to the expected wiggle room, you need to leave the price, when it is going in your desired direction. Past data, price gravitation lines which identify support and resistance help you to define the actual dollar-amount.

Next, we need to approximate the potential reward of a trade and do this by:

  • Measuring the distance from the actual price to the next potential support or resistance zone.
  • By calculating an expected price move, where NeverLossTrading is using the SPU (Speed Unit = algorithm based expected futures price move in the time unit observed).

As a final step, our trading system shall give us an approximation of the probability for success for specific trade setups and when we correlate those with the approximated reward and risk, it calculates an odds ratio, which will tell if the odds are in favor of a trader.

Taking trading serious, we also need to consider commissions, which are increasing the potential risk and decreasing the potential reward. Many new traders have the sentence plugged in their mind: “Never care about commissions; they are just part of the game, like you need a car for going to work”. However, by commissions being part of the professional trading business, we run, we surely consider them.

You might think, this is all a given, however, let me tell you a little story about a man, I met who had worked out a trading plan, which he assumed, will make him rich quick:

Once, I was invited at “trading symposium” in New Jersey and a new trader-coach showed his trading. He had just mastered all the classes of his education firm. He explained the trade; he wanted to get rich with. The trade is called QQQ (or 10/20 cents financial freedom) and sells for about $4,000 on DVD’s. His setup was as follows: If the market ticks up or down 5-minutes after the open, he buys a delta 70 QQQ option (put or call) and then trades for a 10 cent move. If the 10 cent move is concluded he takes profits. If the trade goes against him, he takes a loss. When I asked him a couple of questions he got annoyed and had answers like this:

  • “I do not care about commissions, I trade (he paid about 1.5 Cents per side for the trade)”.
  • “I know others tested the system and it works”. OK, but when I ran the tests on 500 days it only gave a probability for success of about 50% that the trade concluded in the direction of the first five minutes. However, when you worked with a stop on the option, then you had another 50% chance to get stopped, which gives you only a probability 25% to make a profit – and we do not even need to calculate the odds, the trade is setup for failure from the get go.
  • His answer in respect of using a stop was: “I take a mental stop and a maximum risk of $0.20, and then I am out”.

He did not understand, nor accept an odds ratio.

Here are the calculated odds in his best case, NOT considering, that at times he had to bite the bullet and take a $0.23 loss.

Reward Risk 1

When I politely asked the organizer of the symposium what he was thinking of this presentation, he said, that he does not understand all the trading talk, he is not trading; he organizes the education process (great prerequisite for success).

The trade, this instructor propagated that it will make him rich, had a 2:1 chance for losing and should be considered by nobody.

Turning the odds around, what would allow you to have them approximated at 2:1 in your favor?

When you trade an asset it should give you a minimum 1-SPU price move of $0.17 (in the observed time unit):

o If you buy 300 shares and your 1-SPU is only $0.08 and bid/ask is 1-cent and you are entering 1-cent above the price threshold, it just leaves you with a 6 –cent profit expectation at target. Paying another 2-cents commission for a trade round-trip, reduces your reward expectation to $0.04. When trading with a 1-SPU risk, the odds are no more in your favor: The trade has double the risk than the reward.

o If you trade for at least for $0.17, at the same assumed risk (1-SPU), with a high probability trading system the approximations made, turn the odds 2:1 in your favor. This is how it is calculated:

Reward Risk 2

These are the instruments, NeverLossTraders use for putting the odds in their favor:

· Entry at high probability signals, with NLT Double Decker Stop. Exception: Stop at a box line below the cyan dot of an NLT Light Tower Candle.

· Watch the candle color; if it is the same color of your trade direction, you have a high probability for a positive, rather than for a negative exit and no need to take profits early.

· You have all the other indicators (Purple Zone, Box Lines, Channels, Price Gravitation Lines, Buy/Sell…..), which help you to know where prices will accumulate. If none of such lines are in your way to target, let the trade make its move for 1-SPU or 2-SPU’s or to the next price gravitation line.

If you want to learn how to trade like this: Call +1 866 455 4520 or contact@NeverLossTrading. Com

Entry filed under: Financial Market Investment, Investor Education, Price Prediction, Stock Market, Technical Analysis, Trading, Trading Education, Uncategorized. Tags: , , , , , , , , , .

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