Come Into My Trading Room: A Complete Guide to Trading

320 Pages·2002·2.67 MB·English

by  Alexander Elder

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COME INTO MY TRADING ROOM
A Complete Guide to Trading
BOOKS BY DR. ALEXANDER ELDER
Trading for a Living
Study Guide for Trading for a Living
Rubles to Dollars:
Making Money on Russia’s Exploding Financial Frontier
COME INTO MY TRADING ROOM
A Complete Guide to Trading
Dr. Alexander Elder
www.elder.com
John Wiley & Sons, Inc.
New York • Chichester • Weinheim • Brisbane • Singapore • Toronto
To my campers
Copyright © 2002 by Dr. Alexander Elder. All rights reserved.
Published by John Wiley & Sons, Inc.
No part of this publication may be reproduced, stored in a retrieval system or trans-
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engaged in rendering professional services. If professional advice or other expert assis-
tance is required, the services of a competent professional person should be sought.
This title is also available in print as ISBN 0-471-22534-7. Some content that appears in
the print version of this book may not be available in this electronic edition.
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CONTENTS
Dedication iv
Introduction 1
HOW THIS BOOK IS ORGANIZED 2
MALE OR FEMALE? 4
PART ONE FINANCIAL TRADING FOR BABES IN THE WOODS 5
1 Invest? Trade? Gamble? 7
AN INTELLIGENT INVESTOR 7
AN INTELLIGENT TRADER 8
AN INTELLIGENT GAMBLER? 12
2 What Markets to Trade? 15
STOCKS 16
FUTURES 18
OPTIONS 20
3 The First Steps 25
THE EXTERNAL BARRIERS TO SUCCESS 25
GETTING YOUR GEAR 32
ANALYSIS AND TRADING 39
PART TWO THE THREE M’S OF SUCCESSFUL TRADING 45
4 Mind—The Disciplined Trader 47
SLEEPWALKING THROUGH THE MARKET 49
A REMEDY FOR SELF-DESTRUCTIVENESS 54
THE MATURE TRADER 61
5 Method—Technical Analysis 67
BASIC CHARTING 68
INDICATORS—FIVE BULLETS TO A CLIP 84
v
vi TABLE OF CONTENTS
6 Trading 123
SYSTEM TESTING 125
TRIPLE SCREEN UPDATE 128
DAY-TRADING 138
THE IMPULSE SYSTEM 157
MARKET THERMOMETER 162
EXITING TRADES 165
CHOOSING WHAT TO TRADE 183
7 Money Management Formulas 215
NO MATH ILLITERATES 217
BUSINESSMAN’S RISK VS. LOSS. 218
THE 2% SOLUTION—PROTECTION FROM SHARKS 220
THE 6% RULE—PROTECTION FROM PIRANHAS 223
POSITION SIZING 227
MONEY MANAGEMENT STEPS 230
PART THREE COME INTO MY TRADING ROOM 233
8 The Organized Trader 235
TRADER’S SPREADSHEET 236
THE EQUITY CURVE 238
TRADING DIARY 240
ACTION PLAN 242
9 Trading for a Living 245
DISCIPLINE AND HUMILITY 247
HAVE YOU GOT THE TIME? 251
THE DECISION-MAKING TREE 257
BEGINNER, SEMIPRO, PRO 264
GOING PRO 267
10 Come Into My Trading Room 271
EXCERPTS FROM THE DIARY 273
YOUR NEXT TRADE 298
Acknowledgments 301
Sources 303
Index 307
About the Author 313
INTRODUCTION
“Y
ou can be free. You can live and work anywhere in the world,
be independent from the routine and not answer to anybody.”
With those words I began my first book, Trading for a Living. One of
my great pleasures in the years since its publication has been meeting
and becoming friends with people who became free thanks to suc-
cessful trading.
Several times a year I run a Traders’ Camp, a week of intensive
classes at remote resorts. I enjoy my campers’ successes. A stockbroker
became a full-time trader, closed his business, and moved to Rio to
pursue a life-long interest in Latin women. A psychologist became
such a successful options writer that she paid for an early retirement
for her husband and moved with him to the Virgin Islands to become
an expert in what she calls synchronous hammocking. A man bought
a mountain in Vermont and trades from the house he built on its top.
I wish all students could succeed, but it’s not that simple.
How many psychiatrists does it take to change a lightbulb? Only
one—but the bulb has to want to change.
To succeed in trading you need several innate traits without which
you shouldn’t even start. They include discipline, risk tolerance, and
facility with numbers. A big fat guy who is often drunk and can’t kick
a cigarette habit is unlikely to make a good trader—he lacks discipline.
A nitpicker who obsesses over each dime is too tense to live with mar-
ket risks. A daydreamer who cannot do simple arithmetic on the run
becomes lost when prices change rapidly.
In addition to discipline, risk tolerance, and ease with numbers, suc-
cessful trading requires 3 M’s—Mind, Method, and Money. Mind means
developing psychological rules that will keep you calm amidst the
1
2 INTRODUCTION
noise of the markets. Method is a system of analyzing prices and
developing a decision-making tree. Money refers to money manage-
ment, which means risking only a small part of your trading capital on
any trade; think of the way a submarine is divided into many com-
partments so that it won’t sink if one section becomes flooded—you
have to structure your account this way. Psychology, trading tactics,
money management—you can learn these skills.
How long will it take you to become a competent trader and how
much will it cost? What rules do you set, what methods do you use,
and how do you split your trading capital? What should you study first,
second, and third? What markets should you trade, and how much
money can you expect to make? If these questions interest you, you
picked the right book.
You can succeed in trading. It has been done before, and it’s being
done right now, today, by people who started from scratch, learned to
trade and are making a good living at it. The best ones make fortunes.
Others fail, out of ignorance or lack of discipline. If you work through
this book, ignorance will not be a problem, and you will hear me yell
at you again and again, pointing you towards disciplined, responsible,
professional trading.
Trading is a journey of self-discovery. If you enjoy learning, if you
are not scared of risk, if the rewards appeal to you, if you are prepared
to put in the work, you have a great project ahead of you. You will
work hard and enjoy the discoveries you’ll make along the way.
I wish you success. Now let us begin.
HOW THIS BOOK IS ORGANIZED
Books written from the heart acquire their own direction. They develop
and change in the process of being written. You start with a plan, but
the book takes over, and before you know it, you’re going much far-
ther than planned.
I began writing this book three years ago on a flight to New York,
returning from a Traders’ Camp in Mexico. We had more beginners
than usual, many of them women. They kept asking for a book that
they jokingly called Trading for Dummies. There were no dummies in
our group. Those campers were smart, sharp, and motivated—but they
needed to learn the rules and the tools. I figured I would write a brief
INTRODUCTION 3
practical introduction, call it Financial Trading for Babes in the Woods,
and be done by Christmas.
Three Christmases passed before I completed my project. The beginner
part was easy, but I kept tunneling into the depths of trading, sharing
what I learned in the nine years since Trading for a Living was pub-
lished. I developed new indicators and systems. My money management
became crisper, and I designed a new approach to record keeping. My
work with hundreds of traders showed me how to teach people to turn
their trading lives around and move from haphazard jumping in and
out to a calm professional style. Take a few minutes to read how this
book is organized, so that you may get full value out of it.
Part One, Financial Trading for Babes in the Woods, is written pri-
marily for those who are just becoming interested in trading. It lays
out topics whose mastery is essential for success and puts up danger
signs around the main pitfalls. Even experienced traders would do well
to review this chapter, especially the concept of external barriers to
success, which has never before been spelled out in trading literature,
and the critique of the efficient market theory.
Part Two, The Three M’s of Successful Trading, teaches you the
three key aspects of trading—Mind, Method, and Money. Mind is
your trading psychology. Method is how you go about finding trades
and making entry and exit decisions. Money is how you manage your
trading capital for long-term survival and success. Once we review
the psychological rules, I’ll share with you my favorite analytic tools,
some of which I have never before revealed. We will cover system
testing, day-trading, and a new method for placing stops. The step-
by-step money management strategy has never before appeared in
trading literature.
Part Three, Come into My Trading Room, delivers another first—a set
of exact instructions for organizing your time and effort, as well as
keeping good records. Proper record keeping is a hallmark of suc-
cessful trading. Good records help you learn from your mistakes as
well as victories. You know you should keep records, but now you’ll
see exactly how to do it. By the time you work through this section,
nobody can call you “a babe in the woods.”
Take your time as you read this book, mark it up, return to the sec-
tions that interest you most. This volume distills 20 years of trading and
teaching experience. It took three years to write, and it will probably