Cat Davey shares 10 key insights from her trading day.

Trading can be just about the most thrilling thing an adult person can do that’s legal. So it has always amazed me that, rather than sharing the grit and drama of a real-world trading experience, most trading books offer strategies that the neophyte punter will often find remote and unworkable in the real world. This was the reason I wrote my 2005 book, ‘Trading CFDs’. I wanted to create a real-time and realistic account of what it’s like to trade and I hoped to share some insights in the process. So when YTE asked for a CFD story for this issue I thought I’d describe my trading day – 23 January 2009. It’s turned out to be a significant day because it was a new closing low for the index in the bear market that started in November 2007.

Setting the scene
At the close of business yesterday, I was feeling confident. I finished the day with one short and four long positions – only one of them looked shaky – the position in Santos. This is my trading log:

1. US market action
The first thing I do is check the overnight action in the United States. The Dow was down 105 points, recovering from a loss of 270 points. Volatility has picked up again in the last week or so. The rally on the Dow into the close I interpret as positive impetus for our market today. Also with the SPI futures down only 20 points overnight I expect a short-lived pullback on my long positions but predict a recovery for the rest of the day. Caltex is often contrary to the general index and the crude price so I am not too worried about it. With our index around 200 points from its November lows I know this is the point where there could be a violent recovery or …the opposite. The opening is as predicted. But soon enough the market starts to look a lot sicker.

2. Stop and reverse
My decision to go long Santos a couple of days ago was due to a solid-looking base forming from $13.68 with a double bottom pattern confirmed from a low of $13.82. I had also done my stats for the month and had found Santos was my most profitable stock and therefore I felt extra confident trading it. Therefore, when it falls below $13.82 and I get stopped out I know that this stock has the potential to fall significantly further. I take a short as soon as I can and am set at $13.78 working a stop at $14.25. I take a smaller position size than I normally would to lessen the blow if I’m caught in a false breakout, which often happens around key levels. I’ll sell my full quota if it keeps falling. It doesn’t take long to slip further, and once past $13.68, the lows of 13 January, I sell some more, getting set at $13.61.

3. Position calculator
To determine my position size I use my position calculator, which is a spreadsheet I have running in the background. The calculator has one static input, which is the percentage of capital per trade. In my case it’s 2.5 per cent. The latest real-time account balance, the entry price, and stop loss price are freshly input with each new trade to determine position size. This means if I’ve had a losing streak and my account balance has fallen, the position size will automatically be reduced. It also means if I’ve had a profitable run I can take advantage of this higher capital base to compound my trading returns and ultimately create exponential gains.

4. Loss is a virtue
WOW opens lower and I kick myself for not exiting at least half my position on yesterday’s close. WOW is frequently retracing a large percentage of a move the next day and I often take profits at the close to avoid the reversal. In the end I am stopped out for a five cent profit (compared to last night’s close of 61 cent profit) feeling disappointed. The longer you trade, the more you realise that the most challenging emotional aspect of trading is not losing, but how you manage your trades. Exiting a trade at half the profit your system said you should have made is as bad as moving a stop loss further away and losing more than your maximum risk capital per trade. The longer you trade the more virtuous you will feel for exiting a trade at a loss that is exactly in accordance with your trading system, even if that trade goes back into profit.

5. Familiarity breeds success
I trade a limited number of stocks and focus mainly on WOW, CTX, STO, JBH, HVN and NCM. The more you trade a stock the better you get to know it. Each stock or market has its own character, probably because the same traders are trading them all. I have been a professional technical analyst for the last 12 years and have learned that textbook charting techniques cannot be applied with a blanket approach. If I see, for instance, a particularly wide key-reversal day appear on the chart, I don’t automatically assume the stock will reverse. I go back over the charts of that stock and locate all previous key reversal patterns. I determine if they are a short-term or a lasting reversal signal, if a signal at all. I roughly measure the average move they may trigger and I note if they can then be surpassed by the price again until a better reversal signal is given.

6. Record keeping
Apart from my position calculator spreadsheet I have all my trades – open and closed – on another spreadsheet. This spreadsheet also shows my Van Tharp expectancy equation. By keeping track of the size of my average losing trade, my average winning trade and the proportion of wins to losses, I can predict my profitability based on the number of trades I take. It is the single most important piece of information you can have as a trader because it allows you to pinpoint problem areas, head off losing streaks and be realistic about losses. I also keep a running total of unrealised profits and losses. Large winning streaks are usually followed by careless trading that can give back much of the gains. Big jumps higher in your unrealised profit and loss are a sign to aggressively trail stops or take profits.

7. Second attempt failure
After being stopped out of my long position in WOW, price starts to rise again from a spiky looking low on the hourly chart. I decide to buy again, this time getting set at $25.64. I place a stop at $25.43 and am soon stopped out. I notice the general market is starting to look seriously ill. From the index being 30 points down earlier in the day, I notice it is now down over 100 points. By the afternoon, CTX, which had been trading higher in the morning without stopping me out, starts to fall. This time it exceeds yesterday’s low – a good sign to keep this position open.

8. Exiting before a stop loss is hit
HVN starts to fall with momentum. I check the general market again. The first thing I notice is how many stocks are right near or already below their November 2008 lows. It’s a bad sign for the index generally and I assume they are merely leading indicators for the whole market. I decide to exit HVN and get short as soon as I can. I sell at $2.06 instead of my stop level at $2.04 and get short at the same time. It doesn’t actually trade at $2.04 until the post-market auction, so I am relieved I took action.

9. Looking for exposure to weakness
The state of the banking sector has me searching for a financial stock to go short. I don’t trade any of the banks regularly but a break of such an important failed base-building pattern sector-wide is significant. I choose Westpac because it is closest to its breakout point (the November 2008 lows) while NAB and CBA have already traded below their November lows in the past few days and ANZ did not give me a satisfactory stop level to take a safe high-probability trade.

10. Flight to quality
Finally I notice my position in Kingsgate is recovering from rejecting the $3.40 lows for the third time. Given how weak the general market is looking, I figure there may be a late flight to quality. I check the chart for gold stocks including NCM and find a nice set of small rising waves building from the day’s gap low open. It looks like a buy. Given the propensity of this stock to gap on the open, I don’t trade my maximum risk amount but instead place a smaller sized trade. I get set at $30.69 and place a stop at $29.90.

By the end of the day, my position blotter looks like this:



The next morning I discover the Dow has had a 45-point loss overnight while gold is up $US37. The local markets are closed for Australia Day on Monday (the day this article is due) so I have another night on the US to contend with before our markets open again.

Catherine Davey is a qualified technical analyst and author of ‘Contracts for Difference’ and ‘Making Money from CFD Trading’. She is also business editor of The Week magazine.

Excerpted from an article originally published in the Mar/Apr 09 issue of YourTradingEdge magazine. All rights reserved. © Copyright 2009, MarketSource International Pty Ltd.