How to Kill a Trade Before it Gets Started
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How to Kill a Trade Before it Gets Started

Dont't kill a trade before it starts!

by Roy R. Frank on March 4, 2013

A very common question from traders that I am regularly asked, especially by new traders, is how one knows which specific stock to pick from a list of seemingly good qualified trade candidates on any given day.  The correct answer, which is the answer that most of them do not want to hear, is that this is something that is unpredictable.  If you have a good solid trading method that you are comfortable implementing and following with confidence, depending upon exactly how many stocks you apply it to, there is a good chance that you will get allot of stocks that meet the qualifications or conditions of the method.  This makes sense if you are applying your method to the entire stock market which will be over 7,000 stocks.  Once you pare this list down after your method is applied you may still end up with a rather large list of qualified stocks.  Picking among them is what will likely separate a winning trader from a losing or mediocre trader.

Once you have applied your setup conditions from your stock trading strategy that are available in the market on any given evening a visual inspection of each of the ones that meet your criterion may be the best and only real way to determine which one or which ones you want to trade.  You may consider looking at a chart of each of the candidates looking for the one or ones that are trading in the most deliberate fashion.  Generally speaking a deliberately trading stock is one whose price action is not producing allot of gapping, wide range bars, long wicks on each end of its candles or alternating colored candles.  For a long position we want to see the price action creating higher highs and higher lows gradually moving in an upward fashion.

If we see a chart that portrays allot of gapping from day to day this means that there is allot of pent up pressure on the price action of the stock when the market is closed, this pressure is then released upon the next opportunity for traders to trade the issue which is the open of the next day’s trading.  Gapping can work great if the gap is in your favor but it can destroy the premise of a trade very quickly if it goes against you.  Protective stops are not guaranteed so if a stock gaps open and gaps well beyond your stop you will get stopped out at the next available price which may be far worse than what you had committed to risk on the trade.  Generally speaking stay away from stocks that exhibit tendencies to gap. 

Wide range bars or very large bars in the price action can be very dangerous as well if you are looking to enter the market at the time that they occur because the move that you are looking for could be exhausted just in the creation of one wide range bar.  Again if you already have a position in a stock and a wide range bar occurs in your favor it can be a great day but if there is a wide range bar that goes against you your trade may end up giving back any unrealized profit that it had up until that point getting stopped out with little or no profit or maybe even with a loss.  Avoid entering the market right after a wide range bar has occurred and avoid issues that regularly produce them.

Each candle is a war between buyers and sellers with the body limits of a candle being the open and close and the candle direction showing the winner over the given time period.  If we see a candle with a wick on a given end we know that there was the effort by the traders pressuring that side, up or down, which failed in the end.  When we see wicks on both ends of a candle especially long wicks this is an indication that neither side won or failed which is a very clear indication of indecision and even more so when the candle body is small.  When we see this, especially if there are several in a row, this is a sign of indecision meaning that the price action is just as likely to go one way as it is to go the other.  Avoid stocks whose price action is creating a stalemate in consecutive candles.  Alternating colored candles are also a problem for the same reasons, avoid this situation as well.

The items mentioned above are all clear indications of indecision in the price action of a stock and should be avoided as much as possible.  There are so many opportunities to trade and make money there is absolutely no reason to take on any unnecessary risk.  Trading in general is difficult enough so why get into a trade when right from the inception of the trade it does not have momentum in your favor.  Be patient and be very selective in the trades that you do participate in putting yourself in the best possible position to be successful.  Trading and losing money is easy anyone can do it but trading consistently and having the discipline to follow your rules will greatly enhance your success.  All we are doing by avoiding these pitfalls is simply following what the market is telling us.  Always remember that we do not make the market do what we want it to do it tells us what it is going to do.

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Roy R. Frank

Roy R. Frank went to Wayne State University in Detroit Michigan where he was an Investment Finance major. Roy is our resident Stock expert and diligently works to help students realize their dreams of becoming profitable, independent traders in the equity markets. Connect with us on Google+

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