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The Hidden Element of Daytrading

Sorry for the lack of posting this summer, I’ve been trying to sharpen my trading method and haven’t been doing too much actual trading lately. I’m going to be posting a series of articles on the things I have come across this summer that might be helpful to other traders.  These are mostly just my notes, but I figured if others can get some benefit out of them, then that’s all good too. Trading Karma, you know.


This summer I’ve been taking a look at some methods used by other people hoping to pick up some new ways of looking at things. It has been time well spent. I’m not going to go into the guys I’ve watched or their methods, that really isn’t the point here. What is important, however, is the common thread that all of these guys seem to share. It is the common thread that makes their systems work, and the worst part is that it is totally hidden to the new trader/student who is trying to copy and use the systems these guys are selling. I watched students try to follow these guys, yet those students couldn’t seem to grasp what actually makes these systems work profitably.


Probably the most interesting person I watched was a guy using a very simple one hour breakout system to daytrade high beta stocks. Watch the one hour chart, buy when price breaks out from a range or value area. If the breakout fails, take the small loss and get out.  Sounds simple right? It’s a great system and I have even added some of the parts to my trading.  Yet many students just couldn’t make it work. Why?


I watched these students acting like manic squirrels running around looking for stocks to trade every day and apply this one hour breakout method. Sometimes it would win, sometimes it would lose. The results were fairly random. It amazed me that these new traders didn’t realize that the guy teaching the system was mostly trading the same dozen stocks every day. He knew them inside and out, knew their average size moves, average volume and how they moved. What they just couldn’t seem to grasp was that it wasn’t really his system that was making money for him. I’m not saying that having a system isn’t important, because it most definitely is important. Yes, the system helped and provided him a structure to work within, but it wasn’t the secret sauce. So what was the hidden element?


The hidden element was his familiarity with his dozen stocks. When he chased stocks he didn’t know, his results were usually random. When he stuck with the dozen he knew, the results were usually positive. I’m not sure if this teacher even realized why he was winning or if he thought his success was solely due to his “system.” His success was due to the fact that he was able to draw distinctions about these dozen stocks and he had developed a feel for them to such a point that he subconsciously knew when the conditions were right for a breakout. He also had great intuition for when these dozen stocks were not acting right and when breakouts were probably going to fail. It wasn’t so much his simple system, but rather his feel and being in the flow with those dozen stocks. The actual system was merely secondary.


I remember reading an example in a book regarding how familiarity affects our decisions. I can’t remember it exactly, but it went something like this: Imagine you see a woman who you don’t know crying, what assumption or decision would you probably make? You would probably think that something bad happened to her, right? Now suppose this woman’s friend saw her crying, but she knew she had just gotten engaged to be married and was crying because she was happy? Same exact woman, but a totally different assumption regarding her behavior. Only the person who was familiar with her would reach the correct assumption regarding her crying condition. And so it is with the actions of stocks.


The basic point here I guess is that successful trading isn’t so much dependent on what kind of system you are using, as most basic simple systems can be profitable, and you must have a defined system to operate within. The hidden element that makes these systems work is familiarity with the market or stock you are trading and how it behaves within your chosen system. It is developing a sharp intuition from hours of watching the same instrument. It is knowing how your instrument moves, average volume, average range, average volatility, and many other specific personality traits of your instrument. These ‘squirrels’ jumping from stock to stock with this simple system never developed this intuition, which is a big reason why they could never make this simple system work for them. They assumed the system was bad, when instead it was their intuition and feel that was bad, or non-existent.


In summary, familiarity with your trading instrument is a huge hidden element in profitable daytrading.  Many of the people selling systems rarely advertise this fact. I’m not saying it is impossible to be profitable without focusing on a defined set of trading instruments, but it sure does help and can absolutely speed up success.


Next article: Defining “Edge”, dynamic vs static edge, and how you find each.

Hope everyone had a great summer. Looking forward to a productive fall trading season.


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