Stock Market Trading Systems

Posted on October 16, 2009
Filed Under Trading Software |


A stock market trading system is simply a set of rules that you follow to trade stocks. This is termed a technical analysis method as opposed to a fundamental analysis method where one uses a company’s performance data to decide whether or not to buy a stock.

People that use fundamental analysis like company reports and economic data usually buy stocks as an investment intending to hold them for an unknown length of time (buy and hold method) while technical analysts are usually traders that buy and sell stocks based on fixed rules or chart patterns.

That is, they know when they will enter a position and exit it with no discretion for a purely mechanical system trader if they stick to the rules.

Most fundamental analysts will tell you that you cannot beat the market and that technical analysis methods are a close cousin to Voodoo but the reality is technical methods and stock market trading systems have been proven over time to work.

What hasn’t worked for so many people over the years is buy and hold but we’ll leave that discussion for another day.

The reason chart patterns and stock market systems work is because, like history, markets tend to repeat themselves and astute traders have been able to identify these patterns and exploit them giving rise to the term the trader’s “edge”.

It is these little edges that any trading system is looking for that will let a trader get into a position with a high probability of making a profit overall.

Notice I didn’t say a high probability of making a profit on each trade. This is because all trading systems whether based on stocks or commodities like oil are prone to periods of bad trades.

This doesn’t make a system bad necessarily; it just is a reality of trading. Many trend following trading systems like the Turtle Method have been extremely profitable over the years despite a relatively low hit rate (percentage of winning trades vs losing trades) and long periods of drawdowns (multiple losses in a row).

This is what makes stock market trading systems kind of a paradox (if that is the right word). A good trading system can be shown to make money having been thoroughly tested and traded with live money for years yet there will still be people that take the exact same system and consistently lose money until they blow up their trading account.

Why is this? Simple it is because of the two basic emotions that drive the market, fear and greed. Many people buy a stock market system thinking that all you have to do is push a button and the money just rolls in.

First off, the best systems have been developed over years of extensive testing and hard work and no one in their right mind would sell such a system for $500 no matter what story they tell you.

Second, the systems that are for sale and are robust are only good as the system trader using them which brings me back to fear and greed.

An undisciplined trader can take a valid trading system and start to trade stocks with it. The first couple of trades go against them and all of a sudden faith has been lost in the system.

Couple that with a fear of losing money and now the trader becomes paralyzed because they cannot pull the trigger to close their losing position even thought the system (which has proven over time to work) says to liquidate.

Now the trader thinks the system doesn’t work and goes into a hope and pray mode of trading which inevitably ends up losing them money, often lots of money. Now the downward spiral begins as the trader takes the next signals from their stock market trading system.

Still stinging from the prior losses they see the stock start to move up to a point where a nice profit could be had as the trading system signals an exit. A real trader takes the profit and moves on but in our story the trader starts to think that now they are in profitable territory they can manage the trade and wring out even higher profits.

While experienced traders can and do trade this way using exit stops that they continually adjust our trader ignores any stops because they can just feel that the trade will turn around and go even higher and besides they want to make back the slippage in profits that just occurred.

You can probably guess what happens next, our system trader allows the position to move against them to the point where they are now sitting with an open loss and eventually they get frustrated and hit their “uncle point” and sell once more defeated by the evil market.

The moral of the story here is that no there aren’t any stock market trading systems that you can buy where you push a button and double your money every week or month but yes there are very good stock trading systems that will let you make money in the stock market as long as you learn to control your emotions and follow the rules.

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