Ten More Valuable Trading Rules

(Fourth in a series of articles on trading)
By Jim Wyckoff   ISSUE 608 | AUG 2007

In last month's article, you read about my "Top 10" trading rules. Below are 10 more important rules that traders can add to their trading toolbox, or to your trading plans of action. These rules are not exclusive ones that I have discovered myself, but ones that I have picked up through the years by talking to successful traders and from reading informative books by successful traders. These rules are in no particular order of importance.

1. Don't trade markets about which you know very little. This is not to imply you have to be a fundamental expert on every market you wish to trade. However, you should know about what fundamentals are impacting, or could impact, a market you are contemplating trading. For example, a person who has only traded grains would not want to jump right into a Treasury bond futures trade without first doing a bit of homework on how the bond market trades— what price increments (dollar amount per tick), trading hours, on what exchange the market trades, etc. A trader could pick up a Wall Street Journal and read the "Credit Markets" section for a week or so to become familiar with fundamental factors that influence the bond market. Also, consider this: Most traders enjoy the process of trading. If they did not, they would likely just hand their money over to a fund manager and give the manager discretionary control over their money. Learning and knowing what fundamental factors are impacting or could impact a market a trader is contemplating trading is part of the process (enjoyment) of trading.
   
   
2. Don't trade on "tips." I have been involved in the futures industry and trading for around 20 years and have never heard a good trading tip. Reason: There are not any—at least not any that are any good for "regular guys" like you and me. Markets are way too big and too tightly regulated to be impacted by any tips or inside information. Any legitimate "early information" has almost certainly already been factored into the market price structure by the time off-floor traders could ever benefit from it. Don't confuse tips with rumors. Markets do move on rumors more than just occasionally. Rumors are a part of futures trading, but still fall into the category of "not of much use" to off-floor traders. Besides, many rumors are never confirmed as fact and are often self-serving to those who try to start them. When I was a reporter on the trading floors I would occasionally have traders walk up to me and try to plant a rumor with me, to try to get me to report it on the news wires. It never worked.
   
   
3. Don't get too fancy with your market orders. Entering a trade "at the market" with a market order may be the best way to enter a trading position—especially in markets that are liquid (have high open interest). It's certainly the easiest way to enter. Fiddling around with limit or stop-limit, or other multi-step orders to save a tick or two or three can cost a trader a good entry point or even a missed trade altogether. I must admit that I have been guilty of this offense. I don't mean to imply that limit or stop-limit or other types of orders are not useful in certain circumstances, because indeed they are. However, the majority of entries into trades are best made "at the market." I compare this situation to pitchers in Major League baseball who "nibble" with their pitches around home plate. Most wind up with a walk instead of an out.
   
   
4. Don't form a new market opinion during trading hours. This rule goes hand in hand with the rule that says you need to stick to your trading plan of action. Day-to-day market "noise," or the minor up-and-down price fluctuations of a market, can be at least distracting to a trader and at most prompt the trader to make a hasty and not well-founded trading decision.
   
   
5. Don't force trades; if you don't see a trade, stand aside. I won't chase a market just to put on a trade. I try to exhibit the patience and discipline in trading. So should you. Patience and discipline have not been easy virtues for me to learn. I fit into the description of a typical futures trader: Type A personality, competitive nature, and I hate to wait in lines. (Just ask my wife!) However, I learned early on that if I wanted even a chance at success in this fascinating business, I had to control my impatience. If you happen to miss a trading opportunity because you waited too long, there will be other trading opportunities. Don't chase markets.
   
   
6. A good trade is usually profitable right from the beginning. This is more an observation than a rule, but it is still useful. If the market price moves your way in the first couple days after you've executed the trade, then odds are significantly higher that your trade will be a winner. This rule reinforces the notion that tight protective stops are an important part of trading success. If a straight futures trade is under water after two or three days, more times than not it's prudent to take a small loss and move on.
   
   
7. Watch open interest in future contracts, and especially in options. In any futures contract or futures options strike price you are contemplating trading, make sure to first check the open interest for that specific contract or strike price. If a futures contract or options strike price has a low open interest total, it is probably best to seek out a more liquid contract. Fills on both entry and exit can be tough and produce more slippage than is desired. Lumber futures and options have very low open interest totals. The U.S. Dollar Index options market also has low open interest.
   
   
8. Know what you can and cannot control. You can control the market you want to trade. You can control the type of market order you want to give your broker. You can control when you want to enter the market. You can control the amount of contracts you wish to trade, and you can control when you want to exit the market. But you can't control the market. Knowing and prudently managing the market factors you can control and knowing that you cannot control the market gives you a trading edge.
   
   
9. Make the market's action confirm your opinions. If you've got a particular market on your "radar screen" for a trade, don't just jump in based on a hunch or a "gut feeling," or because you want to get a fill right away. Make the market first confirm your opinion. Make the market show you some strength if you want to be long, or make it show you some weakness if you want to be short.
   
   
10. Do not over-trade. Trying to trade too many markets, or too many contracts in one market, can create problems for a trader. There is no set rule for how many markets one trader should trade at one time. Some traders can trade many markets at one time and not have a problem. But if a trader is feeling stress or can't keep up with what's going on in all the markets he or she is trading, then the trader is likely over-trading. For those traders who are really not sure how many markets to trade at one time, or how many contracts to trade for each position, it's always better to take a conservative approach.
    
    

Jim Wyckoff is the proprietor of the analytical, educational and trading advisory service, "Jim Wyckoff on the Markets," and is also a technical analyst for Dow Jones and senior market analyst with TradingEducation.com. He has a Web site at www.jimwyckoff.com and can be reached at jim@jimwyckoff.com.

You can hear more about Jim's approach to trading in a webinar presented on May 9, 2007. It is available at no charge in our webinar archives at www.lind-waldock.com/events. Jim's e-booklet, "Sharpening Your Trading Skills," which explains important tools that can help traders, is available by clicking here.

Kristina Zurla Landgraf is editor of Lind eWire. She can be reached by email at editor@lind-waldock.com.

Futures trading involves substantial risk of loss and is not suitable for all investors.

Past performance is not necessarily indicative of future trading results. Trading advice is based on information taken from trade and statistical services and other sources which Lind-Waldock believes are reliable. We do not guarantee that such information is accurate or complete and it should not be relied upon as such. Trading advice reflects our good faith judgment at a specific time and is subject to change without notice. There is no guarantee that the advice we give will result in profitable trades. All trading decisions will be made by the account holder.

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