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Think & Trade Like a Champion: The Secrets, Rules & Blunt Truths of a Stock Market Wizard
Minervini, Mark

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If you want to paint like Leonardo da Vinci, first you need to learn to think like him. Because where the mind goes, everything else will eventually follow. If I wanted to follow in the footsteps of the all-time great traders, I had to learn all I could about them, until I could think like they did. And so, I began to read books and study legendary traders. I wanted to get into their heads, to think like they did, so that I could model their success. I read these books over and over so
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It’s not just putting in the hours that will make you successful; it’s the persistent intention to improve by examining your results, tweaking your approach, and making incremental progress.
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Daniel Coyle refers to this process as “deep practice”—not just doing the same thing over and over, but using feedback to make adjustments and making practice more meaningful. Just because you
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Odds are that you won’t be good at value investing, growth investing, swing trading, and day trading. If you try to do them all, you will most likely end up a mediocre jack-of-all-trades. To reap the benefits of one strategy, you have to sacrifice the others.
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To become great at anything, you must be focused and specialize; you must avoid what’s known as “style drift.” Style drift comes from not clearly defining your strategy and goals. As a result, you won’t stay with your approach through thick and thin. If you are a short-term trader, you must recognize that selling a stock for a quick profit only to watch it go on to double in price is of no real concern to you. You operate in a particular zone of a stock’s
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As a stock trader, when you strip off what feels natural and learn to do what feels unnatural, you become supernatural.
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As Ralph Waldo Emerson said, “The mind, once stretched by a new idea, never returns to its original dimensions.”
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There are three basic levels of knowledge. The first level is when an idea is presented to you by someone else. Someone tells you something, and you evaluate it against your own opinions. You might have mixed feelings about this information; maybe you agree, disagree, or don’t really know what to make of it. The second level is when you become convinced that what you have been told is true. Now, it’s a belief. A belief is stronger than an idea, but it is still not the strongest level of knowledge. The third level is a knowing—the most powerful form of awareness. This is the knowledge that you carry within yourself. It is what you know to be true because
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By defining my parameters ahead of time, I establish a basis for knowing whether my plan is working or not.
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An entry “mechanism” that determines precisely what triggers a buy decision How you are going to deal with risk; what will you do if the trade moves against you, or if the reason you bought the stock changes suddenly? How you’re going to lock in your profits How will you position size, and when will you decide to reallocate funds?
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Without a plan, you can only rationalize. Often you will tell yourself to be patient when you should be selling, or you may panic during a natural pullback and then miss out on a huge stock move. Defining what you expect to
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backup. Your goal as a stock speculator is preparedness, to trade with few surprises. To do so, you need to develop a dependable way to handle virtually every situation that may occur. Having events and circumstances thought out in advance is a key to managing risk effectively and building your capital account. The mark of a professional is proper preparation. Before I make a trade, I have already worked out responses to meet virtually any conceivable development that may take place. And, if and when a
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Where you will get out if the position goes against you What the stock must do to be considered for purchase again in the event you get stopped out of the trade Criteria for selling into strength and nailing down a decent gain When to sell into weakness to protect your profit How you will handle catastrophic situations and sudden changes that require swift decisive action under pressure
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batch of weak holders. You shouldn’t assume that a stock will reset if it stops you out; you should always protect yourself and cut your loss. But if you get stopped out of your position, don’t automatically discard it as a future buy candidate. If the stock still has all the characteristics of a potential winner, look for a reentry point. The first time around your timing may have been a bit off. It could take two or even three tries to catch a big winner. This is a trait of a professional trader. Amateurs get scared of positions that stop them out once or twice, professionals are objective and dispassionate. They assess each trade on its merits of risk versus reward; they look at each trade setup as a new opportunity.
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Selling into strength is a learned practice of professional traders. It’s important to recognize when a stock is
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running up too rapidly and may be exhausting itself. You can unload your position easily when buyers are plentiful. Or you could sell into the first signs of weakness immediately after such a price run has started to break down. You need to have a plan for both selling into strength and selling into weakness.
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LOOK FOR FOLLOW-THROUGH BUYING The key to trading breakouts is to determine the probability of a sustained advance versus just a short-term rally that fizzles away. The first thing I would like to see after a breakout from a base is multiple days of
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follow-through action, the more the better. The best trades emerge and rally for several days on increased volume. This is how you differentiate institutional buying from retail buying. If big institutions are in there accumulating
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Once a stock moves though a proper pivot point and triggers my buy price, I watch the stock very closely to see how it acts. Determining whether the stock is a tennis ball or an egg will tell you whether you should continue holding it or not. After a stock advances, the price at some point will experience a short-term pullback. If the stock is healthy, the pullbacks will be brief and soon met with buying support, which should push the stock to new highs within
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Volume should contract during the pullback and then expand as the stock moves back into new highs. This is how you determine whether the stock is experiencing a natural reaction or abnormal activity that should raise concern. Stocks under strong institutional accumulation almost always find support during the first few pullbacks over the course of several days to a couple of weeks after emerging from a sound structure.
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indication that the trade is working out as planned is more up days than down days during the first week or two of a rally. I simply count the days up and the
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You should know the signs that a trade is
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problematic, which can tip you off it’s time to exit the stock or reduce your position—in some cases even before it hits your stop.
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Once a stock breaks out of a proper base and starts moving up, it should hold above its 20-day moving average; I don’t want to see the price close below its 20-day line soon after a breakout. If that happens, it’s a negative. I won’t necessarily sell just for that reason alone. But my studies have shown that, after a stock breaks out of a proper VCP, if it closes below its 20-day moving average shortly thereafter, the probability of it being successful before stopping you out is cut in about half. If the stock closes below the 50-day line on heavy volume, it’s an even worse sign. Remember, a close below the 20-day moving average is not significant on its own; it’s when it occurs soon after a stock breaks out of a proper base that the 20-day line is noteworthy, particularly if additional violations are triggered.
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Sometimes it takes four lower lows. The rule of thumb, however, is every consecutive lower low after the third becomes more and more ominous, and even much more so if volume is high.
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All traders vacillate and struggle between two emotions: indecisiveness and regret. This inner conflict stems from not establishing a clear timeline and a solid plan up front.
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If you want to mitigate risk effectively, you simply must acknowledge that stocks don’t manage themselves. You’re the manager, and it’s up to you to protect your hard-earned capital.
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You also have to realize and confront that it’s your own laziness, lack of discipline, and failure to prepare that will lead to poor performance—or even your financial demise.
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Distinguishing normal behavior from abnormal is an important skill that you should spend time developing. Buying breakouts and setting stops based on a percentage drop is a good start and will likely put you ahead of most traders. However, the really great traders know how to discern proper price action from dangerous price action, and they place trades close to the point at which a stock flashes warnings and the trade sours.
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Making the decision to cut your loss in a stock requires that you accept the notion that only you can be wrong; the market is never wrong. This is a very difficult reality for most traders to accept because of the ego. We all have egos, but when the ego drives your investment decisions, the end result is rarely a good one. The ego is 100 percent responsible for you stubbornly digging in, holding onto losses, and not being able to admit your mistakes.
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Not losing big is the single most important factor for winning big. As a speculator, losing is not a choice, but how much you lose is.
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My results went from average to stellar when I finally made the choice that I was going to make every trade an intelligent risk/reward decision. The following formula is the only holy grail I know of: PWT (percentage of winning trades)*AG (average gain) / PLT (percentage of losing trades)*AL (average loss) = Expectancy
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Pros play percentage ball, and that’s why, in the long run, they are more consistent than amateurs. Therefore, it could be said that the difference between an amateur and a pro lies in consistency.
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Your results in poker and in the stock market are all about what happens over time—not the flukes and outliers. Your goal is to place trades with the best chances of success at the lowest possible risk. If you apply sound rules, your preparation and criteria will increase your probability of success. And if it doesn’t work out, then remember: it’s better to lose correctly than to win incorrectly. Losing correctly can lead you to a fortune, because you are only a short-term loser; but because of your discipline and mathematical edge, you’re a winner over time, and you will be able to compound those wins. On the other hand, winning incorrectly only reinforces bad habits that ultimately fail, and could very well lead you to bankruptcy. That, in a nutshell, is the difference
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By keeping track of your results, you will gain insight into yourself and your trading that no book, seminar, indicator, or system could ever tell you.
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Your results are the fingerprints of everything you do, from your criteria for identifying trades to your ability and consistency in executing
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Whether you’re a new trader just starting out in the market or you’ve been at it for a while, you should definitely keep a spreadsheet of your results—every trade (and not just the trades you want to remember). Record where you bought and where you sold every single trade. Pretty soon you’ll have a track record of average losses and average wins, and the frequency of the wins and losses. I also keep track of my largest gain and largest loss each month, as well as my average holding time for all my gains and losses.
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As you collect this data and calculate your numbers, don’t mix strategies. If you were a day trader for a few months, and then switched to swing trading or to long-term investing, you don’t want to compute an
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Your average gain is the important figure to base your risk on; you should know this number. That’s the best way to determine how much risk you should take per trade.
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Your average win size: how much do you win, on a percentage basis, across all your winning trades? Your average loss size: how much do you lose, on a percentage basis, across all your losing trades? Your ratio of wins to losses: your percentage of winning trades, or what is referred to as your “batting average.”
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It’s all a matter of what can be accomplished in a given time frame. Let’s say within a 120-day period you feel pretty confident that you can find a stock to buy that will go up 40 percent. The question is, can you find three stocks that go up 20 percent or six stocks
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that go up 10 percent? It’s certainly easier to
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find stocks that go up 10 percent than it is to find a 40-percent gainer. The real question is: does more frequency make mathematical sense? Six 10 percent gains compounded will yield almost double the total return of one 40 percent winner, and just three 20 percent winners will yield almost as much as six 10 percent winners.
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As I’ve already pointed out, a trader’s mindset fluctuates mainly between two emotions, indecisiveness and regret. And a trader’s emotional state vacillates between greed and fear—and mostly fear. As we’ve touched on previously, there is the fear of missing out, which leads traders to chase a stock that’s already had a big run-up in price. They try to squeeze every dime out of a trade because they’re afraid of selling too soon, fearing that a stock they sell at $20 will become the next Google. Or, a stock that they bought at $45 drops to $40 and then to $35, which leads to regret for not selling at $40—so they hang on, hoping
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THE 50/80 RULE To compound money, and not your losses, you need to be aware of an insidious probability I call the 50/80 rule. Here it is: Once a secular market leader puts in a major top, there’s a 50 percent chance that it will decline by 80 percent—and an 80 percent chance it will decline by 50 percent. Think about these probabilities for a moment. After a stock makes a huge upward move, it will almost assuredly drop by 50 percent when it ultimately tops out. And it’s a flip of a coin whether that downward move will be as much as 80 percent. Once big market leaders top, they experience an average decline of more than 70 percent!
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Pros play the percentages; they’re consistent, and they avoid the big errors. Most of all, they avoid risking money on low probability plays.
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Protect myself from a large loss with an initial stop Protect my principal once the stock moves up Protect my profit once I’m at a decent gain
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To achieve consistent profitability, you must protect your gains and your principal; I don’t differentiate between the two. Once I make a profit, that money belongs to me. Yesterday’s profit is part of
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today’s principal. Amateur investors treat their gains like the market’s money instead of their money, and in due time the market takes it back. I avoid this by protecting my breakeven point and my profits when the stock is up a decent amount.
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There are many distractions that can cloud your judgment when trading. Your job is to keep your thinking pure and focused on what matters within your own circle of competence. The hallmark of a pro is to operate within this circle and ignore everything else.
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Marching to your own drummer means insulating yourself from extraneous influences that would otherwise cause you to deviate from your own discipline.
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DEVELOP SIT-OUT POWER Like a cheetah waiting in the bush for the right set of circumstances (a wounded antelope upwind) to pounce on, you must develop what I call sit-out power. This is another hallmark of a pro—the ability to wait patiently for the right set of circumstances before entering a trade.
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To make money consistently, you must stay disciplined. Follow your strategy and the trading rules that keep you from entering premature, ill-timed, and risky trades for no other reason than you just want to be in the market.
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My starting point is always to have the “wind at my back.” That means I only buy stocks that are in long-term uptrends.
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The key is not knowing for sure what a stock is going to do next, but knowing what it should do. Then it’s a matter of determining whether the proverbial train is on schedule or not.
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Based on studies of the biggest winning stocks going all the way back to late 1800s, more than 95 percent of those
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stocks made their huge price gains while in a Stage 2 uptrend.
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Stage 1: Neglect phase: consolidation Stage 2: Advancing phase: accumulation Stage 3: Topping phase: distribution Stage 4: Declining phase: capitulation When trading stocks, I have found it invaluable to know the particular stage a stock is in.
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he said that a stock must be above its own 200-day moving average, and that he would “get out of anything that falls below the 200-day moving average.”
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The most common characteristic shared by constructive price structures (stocks that are under accumulation) is a contraction of volatility accompanied by specific areas in the base where volume recedes noticeably.
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VCP is the key to establishing the precise point and time to enter a stock. In virtually all the chart patterns I rely on, I’m looking for volatility to contract from left to right. I want to see the stock move from greater volatility on the left side of the price base to lesser volatility on the right side. During a VCP, you will generally see a sequence of anywhere from two to six price contractions. This progressive reduction in price volatility, which is always accompanied by a reduction in volume at specific points, signifies that the base has been completed. For example, a stock will initially come off by, say, 25 percent from its absolute high to its low. Then the stock rallies a bit, and then sells off 15 percent. At that point buyers come back in, and the price rallies a bit more within the base. Finally, it retreats by 8 percent. As a rule of thumb, each successive contraction is generally contained to about half (plus or minus a reasonable amount) of the previous pullback or contraction. Volatility, measured from high to low, will be greatest when sellers rush to take profits.
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As sellers become scarcer, the price correction will not be as dramatic, and volatility will decrease as the price makes its way to the right side of the base. Typically, most VCP setups will be formed by two to four contractions, although sometimes there can be as many as five or six. This action will produce a pattern, which also reveals the symmetry of the contractions being formed. I refer to each of these contractions as a “T.”
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THE CONTRACTION COUNT Here’s what’s happening with successive contractions. Imagine you’ve soaked a towel in water and then wrung it out. Is it completely dry? No, it’s still wet and contains some water. So you retwist the towel to wring it out some more. After more water comes out, is it dry now? Probably it’s at least damp. As you keep twisting and wringing the towel to get all the water out, each time the drops will be less and less. Finally, the towel is dry and much lighter. Similarly, with each contraction in a VCP, the price of the stock gets “tighter”—meaning, it corrects less and less from left to right on successively lower volume as the supply diminishes. Like the wet towel being wrung dry, as a stock goes through several contractions, it becomes lighter and can move in one direction much more easily than when it was weighed down with lots of supply.
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Tightness in price from absolute highs to lows and tight closes with little change in price from one day to the next and from one week to the next are generally constructive. These tight areas should be accompanied by a significant decrease in trading volume.
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Time. The number of days or weeks that have passed since the base started. Price. The depth of the largest correction and narrowness of the smallest contraction at the very right of the price base. Symmetry. The number of contractions throughout the entire basing process.
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As a trader using a stop-loss, you are a weak holder. The key is to be the last weak holder; you want as many of the weak hands as possible to exit the stock before you buy.
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In fact, we want to see volume on the final contraction that is below the 50-day average, with one or two days when volume is extremely low; in some of the smaller issues, volume will dry up to a trickle. Although often viewed by many investors as a worrisome lack of liquidity, this is precisely what occurs right before a stock is ready to make a big move. As stated previously, when very little supply is available, even a small amount of buying can move the price up very rapidly. That’s why you want to see volume contracting significantly during the tightest section of the consolidation (the pivot point). Consider the example of Michaels
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Under most conditions, stocks that correct more than two and a half or three times the decline of the general market should be avoided.
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Making it even more difficult to recognize a proper buy point is the fact that, once again, leading stocks always appear to most investors to be too high or too expensive. Market leaders are the stocks that emerge first and hit the 52-week-high list just as the market is starting to turn up.
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An industry group is usually dominated by one, two, or possibly three companies.
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Very often a strong competitor is vying for the industry leader’s customers. Coca-Cola’s archrival was Pepsi. Starbucks and Dunkin’ Donuts compete for coffee drinkers, and the home improvement market is split mainly between Home Depot and Lowe’s.
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Ultimately, opinions mean nothing compared with the wisdom and verdict of the market. Let the strength of the market, not your personal opinion, tell you where to put your money.
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As the adage goes, “It’s a market of stocks, not a stock market.”
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Instead of arbitrarily picking a number, your maximum risk should be no more than 1.25 to 2.5 percent of your equity on any one trade.
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The less experienced you are, the less risk you should take on because you are at or near the bottom of the learning curve and more prone to mistakes and losses.
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Either your stop moves or your position size moves. One or the other must be adjusted to dial in the correct amount of risk.
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very aggressive and put 50 percent of your account into one position, you would need to use a 5 percent stop to contain your risk as a percentage of equity to 2.50 percent. But the tighter your stop, the more likely you are to get stopped out. The key is to find a balance between an acceptable position size and a stop that allows the stock’s price to fluctuate normally without choking off the trade. This is known as backing into risk.
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When you back into risk, you are approaching the trade risk-first, which should always be your line of thinking. If you adhere to my position sizing guidelines
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below, you will never take on too much risk per position. Then it’s up to you if you want to take less or more risk, up to the maximum level (Figure 8-1).
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1.25–2.50 percent risk of total equity 10 percent maximum stop Losses should average no more than 5–6 percent Never take a position larger than 50 percent Shoot for optimal 20–25 percent positions in the best names No more than 10–12 stocks total (16–20 for larger professional portfolios)
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you can sell half your position in each of the two underperforming stocks and then buy a full position in the more promising candidate. The capital you raised from selling the two half positions finances your new full position.
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Sometimes the best stock to buy is the one you already own.
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you will never achieve superperformance if you overly diversify and rely on diversification for protection. It’s better to learn how to concentrate your buys in the best names precisely at the right time and then protect yourself with the use of intelligent stop-loss placement.
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There are two basic scenarios in which to sell. The first is to sell into strength while the stock is moving in the direction of your trade and buyers are plentiful. You have a position in a stock that’s doing great, and you use that strength to sell into. This is how pros sell, especially if they have a sizable position to unload. When you have a large amount of stock to sell, and liquidity is an issue, you get out when you can, not necessarily when you want.
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Most individual traders don’t have that problem; however, you still want to learn how to sell into strength. Why? Because you don’t want to give a stock the chance to break and give back a large portion of your profits.
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The second scenario is selling into weakness. Your stock made a good run at first, but now the price action is weakening, and you need to protect your gains as the stock reverses direction. This can happen unexpectedly requiring, in many cases, a very swift response. Both plans start with an “aerial view.” ALWAYS PUT THE CHART INTO PERSPECTIVE
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You need to have some perspective, starting with the big picture. From an aerial view, you begin to understand the context of the current price action. Without this perspective, you run a high risk of becoming victim of your fears and emotions.
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What you don’t realize, however, is that this stock is not starting its first run. In fact, it is in the last stages of a much bigger run-up and is about to come crashing down. The first drop is sharp, from $120 to $108.
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Knowing when and where to sell requires analysis, just as you did to identify the stock you bought and to pinpoint your entry spot.
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An important factor that influences the decision to sell is where the stock is within its own cycle. One way to assess this is with the “base count” to help you identify whether the stock is in the early or late stages of its upward move. This matters tremendously because it will help inform your decision about the likelihood of a continued move, or if you should be on the lookout for more specific sell signals. If a stock is in the earlier stages of an upward price trajectory, you will want to give that stock some time to make a full-scale advance.
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Late-stage stocks need to be treated very differently than early-stage names. But you won’t know the difference or where you are in the life cycle of a stock unless you study the charts and learn what to look for.
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Borrowing the explanation from my first book, the movement of a stock’s price through the stages of its life cycle resembles the outline of a mountain, from flatlands to the summit and back to the flatlands again. As the mountain rises, there are plateaus; this is where the price ascent stops or rests for a bit. If this were a real mountain, these plateaus would be where climbers would establish base camps to rest and recharge. This is exactly what happens with a stock’s price action. Following a run upward, there is some profit-taking, causing a temporary pullback. This activity causes the stock to decline and build a base—a short-term pause that allows the stock to digest its previous run-up. If the stock is truly in the middle of something significant, and long-term buyers outweigh short-term traders, the longer-term trend will resume.
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What would concern me is the stock price running ahead of the earnings to the point that the P/E expanded to two or more times what it was at the beginning of a major move—particularly if the stock is also in a late-stage
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After a leading stock has made a healthy advance for many months, the price will accelerate and start to run up at a faster pace and a steeper angle than at any time during the advance. When this occurs, you should sell into the rally and nail down some, if not all, of your profits.
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As you look for specific sell signals, paying particular attention to the largest up day, you are also on the lookout for the day with the heaviest volume. What is the price action on that day? Does the heavy volume come on a down day?
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up. Big investors sell into strength when everything looks great. But that big supply will eventually overwhelm the retail demand; when big institutions want out, a stock can fall very fast and furious. When you see abnormal negative price action relative to the price action during the big advance, look out!
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If your stock experiences its largest daily and/or weekly price decline since the beginning of a Stage 2 advance, this is almost always an outright sell signal.
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you have to learn how to accomplish two things: 1. Make big money when you’re correct, and 2. Avoid big drawdowns when you’re wrong.
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In the pursuit of superperformance, timing separates the big performers from the mediocre. To generate big returns, you must compound
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your money rapidly.
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If you have a significant edge, diversification doesn’t help you; it dilutes you. Bottom
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line: you are not going achieve big returns consistently if you are widely diversified. To generate a big return consistently, you need to be concentrated among the very best names—somewhere between four and twelve, depending on your account size and risk tolerance. In fact, when things work well, I like to
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Ken Heebner of Capital Growth Management. Ken manages billions with a
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relatively concentrated portfolio, rarely ever going above 15 to 20 names for 80 percent of his capital. If Ken can manage billions of dollars in just 20 names, surely you can manage with 5 or 10. I’m not suggesting you
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The way to make big money in stocks is to be concentrated at the right time—when things are working and moving in your direction—and to trade lightly when trading gets difficult.
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The other reason why I dislike diversification is that it gives a false sense of security, as if you can buy a bunch of names and then forget about them. This is the exact opposite of the thinking you must adopt to achieve superperformance.
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“We can’t figure out how you’re doing this,” he said, “but you have an alpha (excess return above the market) of 212 percent and a beta (volatility) of 0.43.” During this period, 88 percent of my
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months were positive with only one down quarter.
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Your money should always be moving to where you are going to reap the best performance, and moving out of troubled situations that put your capital at risk.
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You should take a short-term approach to losses and a relatively longer-term approach to gains; that means you cut your losses and let your winners run.
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by limiting losses to a predetermined level. While stops are a great discipline, you must set them at a level that makes sense so that you are controlling risk in relation to reward. If you don’t maintain the correct balance, you might find yourself taking on big risk in return for only a small payoff.
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When you sell into strength, your equity value is at its highest point. If you want to maintain an equity curve that consistently stair-steps up, you should learn how to sell when you have a decent gain while the stock is advancing. Waiting too long to sell also runs the risk of losing time value. When you hold a stock through a significant correction, you may have to go through weeks, months, or longer before it starts another leg up. During that time, you’re tying up your money instead of getting out at a profit and moving
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Remember the lesson on time value: thanks to the power of compounding, if you can get a small but consistent return and repeat it over and over, it could be far more productive than trying for a bigger return that takes several months or even years to produce. Time Value and the Power of Compounding Two 40 percent returns = 96 percent return Four 20 percent returns = 107 percent return Twelve 10 percent returns = 214 percent return These numbers are eye-opening for many novice traders who think that their only hope of achieving superperformance is finding that one “moonshot” stock. But eight trades that produce a 10 percent profit will more than double your money.
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And 12 trades (one per month on average) that produce a 10 percent return will more than triple your money. So ask yourself: how much easier would it be to find a dozen
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stocks that go up 10 percent, versus finding three or four that produce a 40 percent return, or one that doubles or triples? This is opportunity cost at work.
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feelings are seldom a substitute for facts. Here’s how it works in real-life trading: You make a few purchases from your list of stocks that you’re watching as they trigger buy points. Once you’ve logged a few gains or a number of your positions are showing some net progress, these results will “finance” the risk for bigger trades. Let’s say you make $1,000 on one trade and then $1,000 on another, for a total of $2,000. You can now afford to trade a little larger. You can risk $2,000 to make $4,000, because that risk is already “financed” by the $2,000 in banked profits. Moreover, you’re trading more aggressively on the heels of profitable trades, pyramiding your way to bigger positions, instead of working your way out of a hole. When losses mount, it takes a toll not only financially, but also emotionally. Your confidence gets shaken. But by following the market’s guidance as it “tells” you whether your strategy and timing are on or off, you won’t ever get too far off track. As a result, your capital and your confidence will remain intact. Losses are valuable information that things aren’t working. Your timing is off, or perhaps the market is weighing on stocks in general.
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There is an emotional state called detachment that allows you to operate at your absolute best.
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With detachment from the outcome, you have the ability to access a strategy with total certainty. You know that sometimes you’ll win and sometimes you’ll lose. You detach from what happens once you place the trade. Detachment, which is grounded in eastern philosophy, keeps you from being affected by negative emotions such as fear. To achieve that state, you have to create what I call your “emotional forcefield.” To do that, you have to “fill up and fuel up daily.” Here’s an analogy—it’s going to sound silly, but bear with me: Imagine you’re a can of soda. If you are only half full, even a child could crush the sides of the can. But if you were filled and pressure-sealed with positive pressure pushing outward, you couldn’t be dented even by a strong adult. A full and sealed soda can is impossible to dent. Traders need to do that for themselves, every day. They do that by creating
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routines for themselves as they prepare for the trading day—what will fill up, fuel up, and pressurize themselves before they even step into the space where they trade. One example—and Mark, I know you practice this one every day—is the “mental rehearsal.” It’s what Muhammad Ali used to prepare for every match, and what other major athletes rely on. Before going on to explain, let me point out one important distinction. A mental rehearsal is not visualization—and that’s where a lot of people go wrong. Positive visualization is imagining the best possible results. But that’s not reality! For a trader, that would mean visualizing every trade going your way, which is impossible. If you visualize everything positive and you have a loss, your nervous system freaks out, and all your fears come true.
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Mastering those fears requires a mental rehearsal. In your mind, you start out with the mental picture of what you want to see to make a great trade. By following your plan, step by step, you move into and out of the market effortlessly. However, you also picture yourself doing the exact same thing—diligently following your plan and identifying the perfect setup—but this time you envision the market going against you. The stock doesn’t follow through the way you had expected. Your trade is stopped out at a small loss. You see yourself accepting that loss, taking a breath, shaking it off, and sitting back down to identify your next trade. Your mental rehearsal includes seeing yourself achieving positive outcomes on some trades, and getting hit by obstacles and having losses on others. The more you rehearse and see yourself able to stick to your discipline and your plan, no matter the outcome, the better you’ll be able to tame your anxiety. You will see yourself resisting the temptation to chase a stock. You see yourself holding your stops and getting out of a trade with a small loss, even if the stock turns around and rallies without you on board. You know these things are going to happen to you, just like they do to every trader.
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Here is a technique I learned from an ex–Navy Seal—it’s called “box breathing.” You breathe in through your nose for four seconds, hold your breath for four seconds;
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happened the day before. First, you identify what great things happened the day before in your trading—not just the wins, but also when you stuck to your discipline, like getting stopped out for a small loss. Second, identify two or three lessons learned that led to good results—or that you realize now from painful outcomes. Write down the lessons learned every day. Some traders will find, as they write down the lessons from the day before, that they keep repeating the same ones, over and over. That will keep occurring until they master whatever it is they need to learn. Third, ask yourself, “How am I going to improve today?” Again, write it down so you can record where you see the need for improvement. Starting the trading
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Ask yourself: What habits have I built into my trading already? Which are helping and which are hurting me? Charles Duhigg’s book The Power of Habit shows that every habit has only three parts: a cue (or trigger),
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a routine, and a reward. Starting with identifying the negative patterns in your trading—what you repeat continuously that is hurting your ability to trade.
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Pavlov’s famous experiment was using external stimuli—the sound of a metronome—every time he gave his dogs food, until the sound alone caused them to salivate. The principle here is the same. As mentioned earlier in our discussion of NLP and cognitive behavioral coaching, you are retraining yourself to celebrate when you follow your rules and take a small loss. What you’re doing is activating the pleasure cycle of feeling good in the moment because you kept your losses small, and breaking the cycle of associating losses with pain. The key is to really celebrate. Dance around. Play your favorite music. Watch your favorite YouTube video for five minutes. Do something that gives you pleasure and makes you feel good in the moment. You can’t do this just once. You’ve got to retrain yourself to have a different reaction so that you reprogram your pain/pleasure cycle. Follow the rules, cut your losses to keep them small, and celebrate. Then repeat—every time. Your body will start associating cutting losses quickly and keeping losses small with feeling amazing.
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Personally, I don’t watch TV and I limit the news I read. The reason is marketing psychology. The purpose of TV programming is to get you mentally and emotionally addicted to watching them. And if you keep watching, those shows will generate more money from advertising. And those advertisements are meant to make you want to buy what you see. That whole process is geared to get you emotionally and mentally addicted. Obviously, a trader does need information in order to trade. But I would suggest that there is a better option than letting everything in.
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Most traders cannot stick with a strategy or style for very long. As soon as the strategy runs into trouble (as every strategy will), they give up and change. In the industry, we call this “style drift.” As a
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In his book Mastery, Robert Greene looks at the difference between “mastery” and “dabbling.” His findings are very enlightening. Let’s say you start something new, you make progress and then more progress, until suddenly you hit a plateau where you aren’t making any headway. What happens next? The dabbler, who was having fun in the beginning, gets discouraged the minute something gets difficult. The dabbler changes approach or tries something entirely different. It’s fun learning for a while, but when it stops working, the dabbler changes again and tries something else. The master, however, acts differently. When the first plateau is reached, the person pursuing mastery steps back, realizes that these episodes are part of the learning journey and are to be expected, and then commits to learning more and practicing more. Mastery is gained by using these plateaus as opportunities to hone experience. During these lulls, performance may suffer, but the lessons learned during this time and the self-knowledge and discipline gained will propel the person far beyond that plateau. People using this approach will repeat the process of making progress and honing expertise until they achieve mastery. If you only dabble, switching every time something begins to stall until you’ve gone through dozens of strategies, you will never stick with one long enough to generate the return you want. Mark: I
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Author Byron Katie seeks to free people from what made them suffer—such as fear and anxiety. One of her techniques is to ask a series of questions. For example, let’s say you realize that while you want to be successful, you don’t think it’s possible. The first question you ask yourself is: “Is it true?” Is it true that you cannot become successful, even though that is your goal? The answer might be yes, or not really, or I don’t know. But until you ask the question, you can’t expose the conflicting
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belief. Let’s say you answer is “No, it’s not possible.” Then comes the second question: “Is it true all the time, everywhere, no matter what?” If you’re honest, there is no way you can say yes to that one. Nothing is true all the time, everywhere, no matter what—not even the law of gravity! Now you’ve opened yourself
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Trade Like a Stock Market Wizard: How to Achieve