Read how swing trading is done and types of swing traders.

What is Swing Trading

A lot of people get confused when they are told about Swing Trading. Lot of them assume that Swing Trading is same as Day or Intraday Trading.

Most of the positional naked traders especially Future traders are swing traders. It is important to note that they themselves do not know that they are Swing Traders.

In technical terms even day traders are Swing Traders, but Intraday trading is based purely on small moves so it cannot fall under proper Swing Trading.

Traders do know that for every fall in a stock there is a support and for every rise there is a resistance.
Swing Traders try to capture and benefit from the stock’s or any financial instrument like Options and Futures, movement especially support and resistance.

It is a different story that most Swing Traders end up in huge losses, so hedging is highly recommended.

How Swing Traders Get The Support and Resistance of a Stock?

Novice Swing Traders speculate the movement of a stock and initiate a swing trade by buying or selling a future, and they lose heavily.

Experienced traders study Technical Analysis to look for stocks with huge volatility or short term momentum.

Swing Traders come into action during the results season. As soon as quarterly result of a stock is announced they find the support and resistance of a stock and take entry of a trade.

How Many Types of Swing Traders Are There?

There are two types of Swing Traders:

1. Short Term Swing Traders.
2. Long Term Swing Traders.

Short Term Swing Traders are those who trade in derivatives like options and futures and hold the position till expiry only. Which means it may be one day till expiry day.

Long Term Swing Traders usually do not trade in derivatives. They buy stock in cash when they see support and hold for the long term. This may be from one month to many months. Warren Buffet is the world’s best Long Term Swing Trader. He buys a stock when he sees a strong Economy MOAT, and sells when it loses its MOAT.

What is “Economic Moat”?

Economic moat is the competitive advantage that one company has over other companies in the same industry; this term was coined by Warren Buffett, a renowned investor and executive at Berkshire Hathaway. The wider the moat, the larger and more sustainable the competitive advantage of a firm. By having a well-known brand name, pricing power and a large portion of market demand, a company with a wide moat possesses characteristics that act as barriers against other companies wanting to enter into the industry.

Economic moat describes a company’s competitive advantage derived as a result of various business tactics that allow it to earn above-average profits for a sustainable period of time. Companies that obtain defensible competitive advantage from patents, cutting-edge technologies and other cost advantages can have a wide economic moat that curbs competition within their industry. Also, firms that enjoy strong economic moat tend to demonstrate solid financial performance and rising returns on capital over time. The most common sources of economic moat are cost advantages, switching costs, efficient scale, intangible assets and network effects.

Source: Investopedia.

Who Are Swing Traders?

Mainly retail traders who are Swing Traders. Large financial institutions do not do Swing Trading as a lot of money of their clients is at stake. One big bad trade may wipe out a huge portion of wealth from a single trade. They fear that. Even if they want to do Swing Trading they do it only on a portion of their cash like 10% or less and hedge it to protect unlimited loses.

My course can help retail traders like you learn proper hedging methods to protect huge losses. Even small retail traders sometimes take wrong trade and keep it in the hope that markets will reverse direction and they will make a profit. It does not happen and one day they exit with a huge loss. Therefore it is highly recommended that you learn hedging methods and non-directional trading strategies where there is no need to find direction and still you can make a profit without bothering about where Nifty is heading the next day.

Time Involved in Swing Trading

Too much time is involved in Swing Trading. The trader has to keep monitoring the trade as long as the markets are open. Institutional traders do not like too much monitoring as they have other jobs like fundamental analysis to buy stocks for the long term, cash allocation, client management etc. Therefore only a small portion of cash is allocated to Swing Trading. The team which does Swing trading is different than the team doing fundamental analysis to buy stocks for the long term. Institutional traders mostly buy stocks of good companies for the long term swing trading. Only a small portion goes into short term swing trading.

Another reason why large institutions cannot do swing trading with all the capital is that large institutions have too much cash so they are bound to trade only in stocks that are highly liquid. If there is less liquidity their trade may not be completed. Therefore they buy-hold-sell stocks for long term, only a small portion goes into derivative swing trading. Some institutional traders do not do swing trading at all.

However most retail traders whether Intraday or day traders do swing trading and suffer huge losses as they are not able to:
1. Find the support and resistance, and,
2. Do not hedge their positions.

How Long Swing Traders Hold Positions?

Day traders do not hold positions overnight. They are very short term swing traders.

Positional traders may hold positions overnight or until expiry day, but usually these traders are looking for bigger profits so they do not clear the trade the same day. Most of the positional traders try to make 5% return from every trade.

For positional swing trading the risk is more. It is therefore very important that careful position sizing is done. If you are a swing trader please allocate only a small portion of your cash in large big swing trading else a huge portion of your trading money may get wiped out in one bad trade.

How Experienced Positional Swing Traders Calculate Support & Resistance Levels Of A Stock?

Experienced positional swing traders do calculate both fundamental analysis and technical analysis to arrive at the support and resistance level of a stock or Indices before taking a trade. These may include larger time frame charts including the 15-minute, 60-minute, daily and weekly charts. This is done because positional swing traders need more holding time to capture the price move of 5% or more.

Highly experienced positional swing traders look for multi-day chart patterns like moving average crossovers, cup-and-handle patterns, head and shoulders patterns, flags, triangles, key reversal candlesticks, such as hammers for reversal bottoms and shooting stars for reversal price tops. These help them to make a strong game plan. They are willing to give the stock space to move to capture the profits therefore their stop loses are big like 8-10% of the move, however profit taking also increases to 10-12%. As a big move cannot come in a day or two, these positions are held overnight to any day until expiry if the trade was taken in options or futures. But if the trade was taken in stock cash then they may hold for months.

What Is The Problem Of Derivatives Swing Traders?

Derivatives swing traders, short or long have a huge problem – it is the stop loss. Swing options and futures traders face a huge problem in taking a stop loss. Supposing their stop loss is 5% but the next day the stock gaps down 10%, they are forced to take a stop loss at 10%. This one loss takes them down by 2 profitable trades. This is the reason my emphasis is on hedging. If they hedged their positions properly it would have saved them from this huge loss and restricted it to may be 2% or less which is half of a profitable trade. Next trade if profitable they are in profit even after taking loss in the earlier trade.

With Intraday day traders too the story is the same. It is not uncommon for a stock to suddenly fall down 5%, then the day traders take a loss. If this was properly hedged, the losses would have been significantly reduced. It is also seen that position size of day traders is much more than positional traders as Intraday traders leverage their positions heavily by getting that extra Intraday trading margin. Positional traders do not get a such big leverage, so are forced to reduce position sizing.

Taking extra leverage is greed which sucks Intraday traders into betting big and losing big.

Are you a swing trader? If yes what problems you are facing?

Learn the difference between MARKET And LIMIT Orders and try to execute the one which can help you make more profits from the stock markets.

New stock trades do not understand the difference between MARKET And LIMIT Orders and by mistake press the Market Order button to order a trade in their system which gets executed immediately.

If you are trading in very liquid stocks then there is not much difference between Market And Limit Orders as the difference between ask and bid price will not be much.

However experienced traders know that if a stock, option or future is not very liquid there is a big gap between ask and bid price. Traders who press market orders get the worst prices, because they have to accept whatever rates the best seller or the best buyer is offering them. Hitting Market order is accepting the market price not bargaining the price as we do when we go to the super markets to buy clothes or vegetables.

Experienced traders look at the Ask Price and Bid Price before keeping a Limit Order.

In short Ask Price is the price a seller, (trader or a dealer) of a stock or an option is willing to accept to sell that stock or option. Best Ask is lowest price a seller is willing to sell stock at that particular time of trading.

In short Bid Price is the best price a buyer, (trader or a dealer) is willing to buy that stock or an option at that particular time. Best price is the highest price buyer is bidding or willing to buy the stock.

So why not hit Market Order and get the best price available? Here comes the bargain called the Limit Order.

Let say a less liquid stock (a stock where at that time there are less traders), LTP (Last Trading Price) is 10, and currently the Ask Price is 10.30 and the Bid Price is 9.90. In simple words, for this stock currently in the market there are only a few buyers and sellers, and the best selling price someone has quoted is 10.30 among the buyers the best buyer is willing to buy at 9.90 only. If this continues and no one is willing to drop or increase the price, the trade will not take place. They both are hoping that the seller decrease the price and the buyer increases it.

Here a novice trader come in and wants to sell the stock looking at LTP at 10 and hits the sell button at “Market Order”. To his excitement the order gets completed but to his surprise he was able to sell it at 9.90 not 10 as he thought of looking at the LTP.

LTP now changes to 9.90 as the last trade took at 9.90. He then calls the broker why it happened? The broker sees his trade and tells him since he hit the Market Order he will get the best buyer’s prices only, not the LTP or the best seller’s price as Market order instantly made his order get executed at the prevailing rate whatever is being offered. He then immediately asks what needed to be done to get a better price.

The broker answers he should have hit the LIMIT Order, not the MARKET Order. The trader feels dejected but what can be done now the order was completed. He then studies what is the difference between LIMIT Order and MARKET Order.

Difference Between Market And Limit Orders

He then finds out MARKET Order will get executed immediately at whatever prices prevailing at the markets, whereas,
LIMIT Order will get executed at the rate at which the buyer or seller want the trade to get executed at.

Looking at the above example.

An experienced trader wants to buy the stock. Experienced traders do not bother to see the LTP. Since he wants to buy he will first see the BID then the ASK price.

Ask Price is 10.30 and the Bid Price is 9.90.

He tries to lure the sellers, so keeps the LIMIT Order to buy the stock at 9.95. 0.05 points better than the best buyer. Now the trading system for this stock in all stock trader’s platform in India will change the BID Price to 9.95. LTP remains same as no trade has taken place.

Suddenly another seller comes in and keeps the LIMIT Order to sell at 10.20. Now all traders will see:
LTP 10, Ask 10.20, Bid 9.95.

The 9.95 buyer lures more and increases or modifies the Buy LIMIT Order to 10.01.
Now all traders will see:
LTP 10, Ask 10.20, Bid 10.01.

Seeing this one more seller gets lured into selling and reduces the Sell LIMIT Order to 10.10.
Now all traders will see:
LTP 10, Ask 10.10, Bid 10.01.

A trader increases BID to 10.05. One seller gets lured seeing the price at 10.05 and hits MARKET Order and the order gets executed immediately.
Now all traders will see:
LTP 10.05, Ask changes to the next best Ask Price, Bid changes to the next best Bid Price.

With this article hope it is now clear what is the difference between Market Orders and Limit Orders.

In the conservative options course we take benefit of limit orders, we do not hit market orders and get better rates and to get more profits. This keeps happening for life.

If you want to know about my options course please contact me.

Recommended Reading:

Ask, Bid prices and Spreads in stock markets

Learn what the is difference between Intraday and positional options trading.

Traders start with buying options due to the lure of limited loss and unlimited profits, forgetting that this is only possible if they are good traders. Fact is “limited loss and unlimited profits” is only on paper. I have not met, known or heard in media a single trader who bought a call for 10 and sold if for even 100, forget about unlimited profits.

Even Warren Buffett profits are limited every year. His Compound annual growth rate (CAGR) is just over 22%, but on a multi-million, sorry, multi-billion corpus. Still he went on to become the best stock market investors the world has ever produced.

This is where traders get confused by reading or being told by brokers that buying options is limited loss and unlimited profits. They do not try to know the facts if anyone ever has done it. Only after they start losing money they realize that the phrase, “limited loss and unlimited profits” is only on paper not in the real, stock trading world.

In any case somewhere down the line a buyer has to close the trade some day or the other. Let us assume an option buyer bought an option for 10 and sold it at 100. In this case as well where is the unlimited profit? Fact is once the profit was booked, the trader only made a limited profit of 90 points that is all.

So there is nothing as unlimited profits in any business in the world please get your mindset right before buying an option.
Once they start losing money buying options they start selling options. Then for a small time they see success and get very happy selling the options going worthless on expiry day. At least they are making limited profits. Then one day after three or four months a storm comes and all the profits they made in last 3-4 months plus some capital too is lost.

Traders then get confused. What to do, buy or sell? They are losing money by both buying and selling.

The problem is traders who lose money do not know hedging methods or are not willing to hedge because of greed that if I win I need all the money I made, forgetting that if they, lose they will lose all they made and that day is not far away.

If you study how the HNI (High Net Worth Investors) trade you will see that they always hedge their trades. They have millions of dollars at risk. One bad trade can wipe out millions of dollars. To avoid that they properly hedge their positions. On top of that they are never into Intraday or day trading. The most popular trading method of a novice trader, equity, options or futures.

Day or Intraday trading is a sure shot way of losing time and money. How many Intraday traders have become millionaires? NONE. Why? Because Intraday trading is the worst form of trading even for experienced traders. They know this therefore do not trade Intraday at all.

For example today if an option has been bought for 50, it may close at 40 and the Intraday day trader will take the loss. But the positional trader can carry that position for next 30 days or more until expiry. There can be a chance that that option may go to 70-75 someday before expiry and the positional trader can close the position for profits.

Another benefit of positional trading is it can be hedged, whereas Intraday trading does not need a hedge as it is monitored closely. Positional traders can trade and leave their trades do their job in the background while they continue their job. They can check their trades anytime they want and take their profits out.

This is benefit of positional trading. Grow your income while trading the stock markets and get your salary from your job or make money from your business too.

You can do the hedging options course to learn positional options and futures trading with proper hedging to take the fear out of losing too much money in stock markets.

Hedging works as insurance to protect your capital. When required hedging do their job perfectly to limit your losses. But hedging needs to be done properly. For that knowledge is required, which you can get by doing the conservative options and futures course.

In this article learn what is short selling of stocks, options and futures and how much margin is blocked.

A lot of traders fear short selling of options, however for some reason they do not fear short selling stocks and futures. This is a very strange traders mindset. In this post learn why you should not fear short selling options if you know how to limit losses by hedging.

What is short selling?

Short selling of any stock or index is done by experienced traders when they feel a particular stock or index may go down.

Short selling is mainly done on derivatives – options and futures. Short selling on stock can be done only on intraday day trading. Short selling a stock which is not there in your trading account and not closing it the same day may incur heavy losses as it goes into auction the very next day and a penalty is levied on the trader. Therefore it is highly recommended to save yourself from a penalty do not short sell a stock which is not there in your trading account or which you never bought. However in day trading it can be done.

How to Short Stock in Day Trading on Intraday Basis?

In your trading account select the option of MIS (Margin Intraday Square-off). This feature is given by every broker in India. It is made for intraday day trading. You have to buy back the shares sold before market closes, else in any case the risk management system will start to square-off all trades that are MIS and have not been closed by the trader. This starts 10 or 15 minutes before the markets closes for trading for all open trades in MIS. This is automatically done by most brokers in India.

How Much Margin is Blocked in Shorting a Stock in Intra-day Trading?

In India most traders block just 10% of total traded value of shares. For example someone wants to short 100 shares of XYZ Ltd. currently trading at Rs.150, total margin required is: 1000*150 = Rs. 150,000.00. However for MIS trading brokers will block only 10% of Rs. 150,000.00 = Rs. 15,000.00. (Rupees Fifteen thousand instead of One lakh fifty thousand.)

Why Only 10% is Blocked in Shorting a Stock in Intraday Day Trading?

The reason is pretty simple. What are the chances of a stock going up or down more than 10% in few hours? Very low.

Assuming in 3 hours stock goes up 5%. There will be a loss because the stock was sold not bought.

Calculation of the loss:

5% + 150,000.00 = 157,500.00
Stock went up by 157500 – 150,000 = Rs. 7500.00

Therefore total loss is Rs. 7500 + Brokerage + Taxes. 15,000 was blocked, so out of that Rs. 7500 + taxes are taken out as a loss and the rest released for next day trading.

Please note that same method of margin block is done when a trader buys a stock for trading Intraday day trading.

Short Selling of Options

There are two types of options – Call Option and Put Option.

Traders sell or short Call Option if they feel that the stock or index will go down (not go up as they have sold the Call Option not bought it).

Traders sell or short Put Option if they feel that the stock or index will go up (not go down as they have sold the Put Option not bought it).

Risk of short selling Call Option:

Risk of short selling Call Option is unlimited as the stock can go to any level after the option is sold. Profit of short selling Call Option is limited to the amount credited when the option was sold.

For example if the option was sold at 100 and the lot size is 75, the trader who shorted this option will be given (100*75) = Rs. 7,500.00, but this money will be blocked until the trader closes the trade. Profit or loss will depend on the close or the buy value of the option.

For example if the option was sold at 100 and was bought back at 50, lot size was 75 here is the profit:
(100-50) * 75 = Rs. 3750.00. This money is given permanently to the trader who shorted the option.

Calculating the loss of short selling Call Option:

If the option was sold at 100 and the lot size is 75, the trader who shorted this option will be given (100*75) = Rs. 7,500.00, but this money will be blocked until the trader closes the trade. Profit or loss will depend on the close or the buy value of the option.

If this option was sold at 100 and was bought back at 150, lot size was 75 here is the loss:
(100-150) * 75 = Rs. -3750.00. This money is taken away as a loss permanently from the margin blocked from the trader’s account who shorted the option.

If the option was sold at 100 and was bought back at 250, lot size was 75 here is the loss:
(100-250) * 75 = Rs. -11,250.00. This money is taken away as a loss permanently from the margin blocked from the trader’s account who shorted the option.

If the option was sold at 100 and was bought back at 550, lot size was 75 here is the loss:
(100-550) * 75 = Rs. -33,750.00. This money is taken away as a loss permanently from the margin blocked from the trader’s account who shorted the option.

As you can see a stock can go high to unlimited level so on paper shorting a call option has unlimited loss. However the trader who has shorted the call option can buy it back at any time before expiry to limit the loss. Therefore unlimited loss is only on paper not in reality.

There are ways to hedge the option sold which is well explained in my course. A hedged short option has even more limited losses on paper as well.

Risk of short selling Put Option:

Risk of short selling Put Option is very high not unlimited as written in many books and websites as the stock can go down to maximum 0. It cannot go to -1 or -2. Therefore risk of short selling Put Option is very high but not unlimited unlike short selling of a call option.

Profit of short selling Put Option is limited to the amount credited when the option was sold.

For example if the option was sold at 80 and the lot size is 75, the trader who shorted this option will be given 80*75 = Rs. 6,000.00, but this money will be blocked until the trader closes the trade. Profit or loss will depend on the close or the buy value of the option.

For example if the option was sold at 80 and was bought back at 10, lot size was 75 here is the profit:
(80-10) * 75 = Rs. 5250.00. This money is given permanently to the trader who shorted the option.

Calculating the loss of short selling Put Option:

If a put option was sold at 80 and was bought back at 90, lot size was 75 here is the loss:
(80-90) * 75 = Rs. -750.00. This money is taken away as a loss permanently from the margin blocked from the trader’s account who shorted the option.

If the option was sold at 80 and was bought back at 180, lot size was 75 here is the loss:
(80-180) * 75 = Rs. -7500.00. This money is taken away as a loss permanently from the margin blocked from the trader’s account who shorted the option.

Now calculating the maximum loss of short selling a put option:

Let say a stock ABC Ltd was trading at 200 when the option priced 80 was sold. Assuming the impossible that suddenly the stock fell to ZERO (0). This is maximum loss a seller of the put option has if the option sold was not hedged.

Assuming the option sold was ATM (At The Money) option. On expiry day if the stock which was trading at 200 closed at 0, and option sold was 80 will become 200. This is because of the intrinsic value of the option on expiry day is the difference of the price of the stock on the expiry day and the price of the stock when option was sold.

This option will become ITM (In The Money) and will be priced at 200.

Here is the maximum loss of the put option sold at 80 when the stock was trading at 200 and the option was At The Money (ATM):
(80-200) * 75 = Rs. -9,000.00

It is clear now why a seller of a put option is a huge risk, not unlimited risk while selling a put option.

It is highly recommended that a seller of options or futures must learn good hedging methods to avoid big losses and limit their loss to a large extend. If the losses are limited you can become a seller whenever you want and a buyer whenever you want.

So do not fear selling options and futures if you know how to hedge them. Do not sell naked not hedged options and futures.

My course will teach you the right methods to hedge your sold options or futures.

What is Margin Blocked on Options and Futures:

Since the risk is more in selling or options and buying and selling futures the margin blocked is more in shorting derivatives.

For positional trades you need to chose the option NRML (Normal). If this is chosen you can carry forward the option or future sold as long as expiry. You can close before expiry too. Since the position can be carried forward margin blocked is more and is decided by the exchange and differs from broker to broker and stock to stock.

For Intra-day trading of options and futures you need to chose MIS (Margin Intraday Square-off) option. Since this is squared off the same day risk is less so the margin blocked is also less. If the trader does not closes the position before end of trading day the system closes it automatically before trading closes.

MIS margin for Equity & Index futures is 40% of NRML margin.

MIS margin for Commodity futures is 50% of NRML margin.

MIS margin for Currency futures is 50% of NRML margin.

For any questions on selling options or futures ask in the comments section below.

Read to know why you should not try to time the stock markets as it can be very dangerous.

In this article we will know why investors and traders fail to time the stock markets and end up making losses. Therefore it is highly recommended that traders should not try to time the markets and learn non-directional trading.

Read this article to know why emotional investing and trading must be avoided. This is one of the most important reason why traders try to time the markets and fail.

Historically Investor Behavior is bad and influenced by fear and greed

There are systems to track every investments made by an individual in the stock markets and also total money invested and withdrawn.

When the stock markets were on a huge bull run from 2003 to 2007 too many investors and traders joined the stock markets to make money fast. I too was one of them. The lure of making money fast is nothing but greed which got many investors in the stock markets with a lot of money. This is poor money management.

See the graph how the Indian stock markets were in big bull run from 2003 to 2008. Then from 7-Jan-2008, everything started to collapse:

NIFTY 50 2003-2016 – Jan-2008 was the month when huge collapse of Indian stock markets started

This happened for almost one year till 1-Dec-2008.

NIFTY 50 Dec-2008 from where the bull run started

Nifty 50 index went from 6279.10 to 2682.90. This is a fall of 42.75% in 11 months. This is pretty scary.

What happened from 2003 to 2008?

A lot of people must have received calls from their brokers to invest more money as this or that stock is giving huge returns. Many investors must be hearing that their friends, relatives, colleagues or associates made a lot of money from the stock markets or were in huge profits. This lured them to stock investing or derivative trading. I was into all of them and lost huge.

Lesson in Investing:

Avoid what your broker is telling or what your friends are telling and avoid tips providers. Just do your own research before investing in any stock. Educate yourself on investing and trading. This is only way you can make money in any business. Do not forget that stock investing and trading is also a business.

The above is happening still now, it is unfortunate but how can we stop people from being greedy and invest more than they should. Proper financial management is more important than investing in stock markets. Before investing your money in stock markets you should know the maximum amount of risk you can take or your financial condition is allowing you to.

That said, everyone should invest in stock markets with proper knowledge. Those who invest with knowledge are ones who make money. The speculators lose out.

It is well documented that maximum investments in stock markets and mutual funds came during the 2003 to 2008, and huge withdrawals started from mid 2008 when markets had already fallen more than 20%.

This is a clear indication that investors do not have patience to keep investing money slowly at different times and take out money gradually when the stocks are giving them profits. There is absolutely no patience. As soon as they invest in a stock they start looking at its rate form the very next day. When they initially invested it was planned for long term, then what is the point of looking at it rates from the next day onward?

Some exit the next day itself whether in profit or in loss.

IMPORTANT NOTE: It takes T+2 (Trade day + 2 trading days), time for the stock to come into your demat account if bought. Please do not sell before the stock is not there in your demat account. If you do there will be an auction and you may have to pay a penalty. This penalty differs from stock to stock and time to time.

Bad Investment Plan

At least 80% of investors invest 100% of the money they want to invest at one time and take it out whether in profit or loss at one time. This is not a good way to invest in stock markets.

Good Investment Plan

If you have chosen to buy a stock you must buy it systematically for the next six months at least, keeping the money invested the same. Note that if the stock prices falls down, you can buy more with the same amount and if it has gone high you buy less. This will average out the price and it is much better than timing the stock markets.

Media Intervention

Those who were investors or traders during 2007-2008 must be remembering that during September – October 2007 period media was talking a lot about the bull run of the stock markets since last 3-4 years, and other speculations that this will continue.
As you can see usually media talks about the stock markets bull run only when it has already reached its peak. Before mid-2007 the stock markets bull run was not there much in media, but from 2007 mid onward they kept reporting about it, luring investors to invest in stock markets at the bull run peak. This is emotional investing.

Fear starts if the stock markets starts to fall swiftly, and everybody runs to take out whatever is left, and take huge losses.

Conclusion:

• It is very difficult for an average investor or trader to time the markets. Therefore it is recommended that do not try to time the markets and expect huge returns. Invest into a stock slowly and spread it over six months at least.
• With Option and Futures traders the story is the same. Both Option & Futures buyers and sellers try to time the markets and lose heavily.
• Avoid naked buying or selling of derivatives you will burn your fingers. You must learn to hedge your trades.
• It is better you learn non-directional methods of trading with proper hedging where you need not time the markets or bother about the direction and still make money.

In the article why emotional investing and trading must be avoided we discussed why emotional trading is bad for traders and must be avoided.

This article helps to understand how to avoid emotional investing and trading in stock markets. Advice in this article will help you to understand how to keep emotional trading and investing under check and control.

Bad Financial Portfolio Risk Management

Most stock traders get into stock investing and trading more for the “greed part” and “make money fast part”, and in haste forget their finances and investment capacity. A lot of them take a personal loan for no reason except to trade the stock markets. This is a huge mistake.

You can read how I manage my finances using the 25-25-25-25 Financial Portfolio Risk Management Rule, and do not let the rules of my financial management break at any cost even if I am absolutely sure a particular stock will make a return of 20% in one year.

In Short My Financial Portfolio Risk Management Rules Are:

• 25% of what I save are invested in fixed return instruments guaranteed by Government of India like Bank Fixed Deposits, PPF, NSC etc.
• 25% of what I save are invested in top rated diversified equity mutual funds via monthly SIPs (Systematic Investments Plan).
• 25% of what I save are invested in good large and mid-cap stocks for the long term – 10 years or more via the monthly SIPs (Systematic Investments Plan).
• 25% of what I save are invested in my derivatives trading account.

Sometimes the stock which I wanted to invest in but could not because I am not willing to break my financial portfolio risk management rules, makes more than what I expected, but I still do not regret my decision. The reason is pretty simple, one bad greedy investment may take my financial returns back by two years. This I want to avoid at any cost. By keeping my financial management rules in check I can sleep peacefully, knowing very well even if one part does not perform well, the other parts will do and my total finances will grow positively at the end of financial year.

Assuming I let greed take over and break my fixed deposits and invest in a stock for one year and after one year I see that the stock is down by 20%, I will rue my decision. Instead if making 8% returns by fixed deposits in that money, I would have lost 20%. Taking the fixed deposit returns into account my total loss will be 28%. To avoid these kinds of mistakes I never break rules of my finance management.

The story can be different too. Assuming I break my fixed deposit and invest in a stock. After one year the stock gives a return of 25%. I get greedy and break another rule of finance management. I break another part and invest all the money in another stock and boom after one year that stock is down by 30%. Overall after 2 years the investments that could have made around 10% are still down by 5%.

Hope now it is clear why proper risk money management is very important before keeping money for trading or investing.

NOTE: It is not mandatory to follow my risk management procedures because your income and needs my differ from mine. Therefore think hard and plan your risk management before you start investing. You can change your risk management plan anytime you want but it should be logical not emotional. If you need my help to make your financial risk management portfolio rules you can contact me.

Read to know reasons why emotional trading of greed and fear must be avoided to avoid losses.

Stock traders biggest enemies are greed and fear. I have written a lot on why you must avoid greed while trading and why greed is not good for stock trading. Greedy traders never make money.

Even if you trade in fear you will not make money trading, as trading is a business where risk is involved. Those who fear taking risk never start a business and end up doing a job to earn money.

Both greed and fear are emotions which can hamper in trading profits. Therefore any kind of emotional trading must be avoided.

Stock trading and investment is a proof that many investors start buying stocks at their top and start selling at the bottom.

Buying stocks at their top is Greed.

Selling stocks at their bottom is Fear.

Why investors buy when stocks have reached at their top? Because of the greed that it will go up more and they can make money fast.

Why investors sell when stocks have reached at their bottom? Because of the fear that it will go down more and they can lose more money fast.

Once the trade is over after a few days both of the above traders get frustrated and rue (bitterly regret) their decision.

Buy when everyone is selling and sell when everyone is buying is an very old saying but it is rarely practiced by investors. This is being practiced very well by a well known and the richest investor in the world – Warren Buffet. Read this – Warren Buffetts boring brilliant wisdom and smart billionaires buy when everyone else is selling.

Impact of Media in Investing

A lot of investors who are glued to television screens and listening to business channels get caught in the media hype and start emotional trading as per the news.

For example if experts predict a company’s stock will go up because of great quarterly results, they immediately buy their stock option or its shares in cash with a strong feeling that they will make a great amount of money. It is a different story what happens after that. If the quarterly results are not as per the market expectations, the stock plunges, investors and traders lose. If the results are as per the market expectations the stock does not move much because traders cannot decide whether to buy or sell, again the emotional investors lose money. Only if the company quarterly results beats the market expectations by a very big margin, it’s stock goes up, but does not fly high making a very small profit for the investor and traders.

Option traders have more troubles at hand. Once the news on the stock is out, its implied volatility falls and Option prices drops. This can be dangerous as time has also passed as well as volatility dropped means most of the option premium gets eroded making either a very small profit for the option trader or a small loss in-spite of their trade assumption being correct.

Investors can hold for some time more, but emotional traders do not have patience. Seeing a small profit they exit, or exit at a small loss.

Both of the above type of emotional traders gain nothing out of their trading over the long term.

99% of day traders or intraday traders are emotional traders and take their trades based on emotions rather than for a reason or calculations. No doubt the world is yet to see a very wealthy day or Intraday trader who has generated a lot of wealth by day trading only.

These are the reasons why stock traders must avoid both greed and fear of trading. If you are an emotional trader or investor please avoid these kind of trading.

Lot of new traders get confused on difference between shorting a Call Option and buying a Put. Almost all new traders buy a Put when they feel a stock will fall down instead of shorting a Call.

Note that in technical terms the objective of both trade is the same – to make money when a stock falls. The trader can either buy a Put or sell a Call, if correct both makes money, however there are some differences.

Here is the difference between shorting a call and buying a put:

On paper shorting a Call has unlimited risk and limited profit and buying a Put has limited loss but unlimited profits.

For example:

Today 11-Jan-2017, at 11.09 am, INDUSIND BANK LIMITED stock is up by 4.54%. It is quite obvious that lot of traders will be trading this stock in Equity, Options and Futures. Depending on their view they may buy or sell.

The current price of INDUSIND BANK LIMITED stock in NSE is Rs. 1212.50. It is quite obvious that option traders will be most active in its At The Money (ATM) Options. Proof is here, both are in the top most active option strikes in NSE website:

Most Active Calls as on 11-Jan-2017, 11.09 am India time:

Most Active Calls as on 11-Jan-2017, 11.09 am India time

Most Active Puts as on 11-Jan-2017, 11.09 am India time:

Most Active Puts as on 11-Jan-2017, 11.09 am India time

From the above here we get the ATM option premiums:

INDUSINDBK Strike 1,200 Call Option expiring on 25-JAN-2017 LTP (Last Trading price): 30.95
INDUSINDBK Strike 1,200 Put Option expiring on 25-JAN-2017 LTP (Last Trading price): 15.55

Lot size of INDUSINDBK is 600.

Trader A feels INDUSIND BANK LIMITED stock will fall as it has already risen almost 5%. He sells or shorts INDUSINDBK Strike 1,200 ONE Call Option expiring on 25-JAN-2017 at: 30.95. His maximum profit if on the expiry day 25-JAN-2017, INDUSIND BANK LIMITED stock cash price closes at Rs.1200 or below.

30.95*600 = Rs. 18,570.00

However on paper a short seller of an option loss in unlimited. Here is the calculation:

Assuming on expiry day INDUSIND BANK LIMITED stock closes at 1250. Loss of Trader A:

(1200-1250) * 600 = Rs.-30,000.00

Assuming on expiry day INDUSIND BANK LIMITED stock closes at 1300. Loss of Trader A:

(1200-1300) * 600 = Rs. -60,000.00

It is clear the more INDUSIND BANK LIMITED stock goes up from 1200 on expiry day, the more losses Trader A will have to take.

How to limit the loss?

1. Hedge the call option sold. You can learn proper hedging strategies here.
2. Trade with a plan and exit when stop loss is hit. Most traders do this but hedging is much better way to limit losses than trading naked options especially if the trade is a positional trade.

Explaining Option Buy – On paper buying an Option has Limited risk but Unlimited Profits.

Trader B had the same view that Indusind Bank shares my fall therefore he chose to buy its ATM (At The Money) one lot Put at 15.55. They both did the trade at the same time and got the rate prevailing at that time.

Lot size of INDUSIND BANK is 600. Total money invested by Trader B is 15.55*600 = Rs. 9330.00

Trader B maximum profit is on paper is unlimited and the loss is limited to the amount he paid to buy the Put i.e. Rs. 9330.00. If on the expiry day if Indusind Bank stock closes anywhere above 1220 then this put will expire worthless and Trader B will lose 100% of the amount he paid to buy the put.

Warning: This is where most traders go wrong. Predicting direction is a very though job for any trader. At the time of initiating the trade all traders feel that their view is right and they dream of making a lot of money within a few minutes, but they end up losing their money when the trade goes wrong. Stock markets can humble even highly educated and well experienced traders, but you have to learn something from your losses. Trading losses are your biggest stock market teachers. It is unfortunate that even after huge losses traders only buy Options looking to make that gold run one day, which never comes ever. After a few years of trading some option traders become bankrupts and leave trading forever. This is why you must trade with a plan, if not you will keep losing money forever.

On paper buying a put option has huge potential for profits but limited loss. Loss we have calculated earlier. Trader B maximum loss in this trade will be Rs. 9330.00.

Now let’s look at profits in the same situations almost exactly opposite of the above.

Assuming on expiry day INDUSIND BANK LIMITED stock closes at 1150. Profit of Trader B:
(1200-1150) * 600 = Rs.30,000.00

Assuming on expiry day INDUSIND BANK LIMITED stock closes at 1100. Profit of Trader B:
(1200-1100) * 600 = Rs. 60,000.00

Assuming on expiry day INDUSIND BANK LIMITED stock closes at 1100. Profit of Trader B:
(1200-1100) * 600 = Rs. 60,000.00

Assuming on expiry day INDUSIND BANK LIMITED stock closes at 1000. Profit of Trader B:
(1200-1000) * 600 = Rs. 120,000.00

A stock rarely closes at ZERO, but just to calculate maximum profit of buying a put, assuming that INDUSIND BANK LIMITED stock closes at 0 on expiry day. Profits of Trader B:
(1200-0) * 600 = Rs. 720,000.00 (Maximum Profit)

Hope it is clear the more INDUSIND BANK LIMITED stock closes down from 1200 on expiry day, the more profits Trader B will make.

Short Selling and Buying Puts can be used for hedging as well:

A lot of traders use short selling of calls to hedge their stocks against a fall. This is known as covered call strategy. Basically if a trader owns a stock and he feels that the stock may fall they can sell a call option to get some money if the stock falls. You can click here to read the covered call strategy.

Some traders do a slightly different trade. Instead of selling a call, they buy a put to protect the losses if the stock they hold they feel is going to fall. To protect their profits they buy (mostly ATM) put option. Some buy OTM puts. This is known as the married put strategy. You can click here to read about the married put strategy.

Another difference between shorting a call and buying a put is the margin requirement. Since on paper shorting an option is unlimited loss brokers block a lot of margin when a trader shorts an option to keep the money to give back to market makers in case the trade losses money. In case the losses nears the blocked margin, either the trader is asked to deposit more money in their account or the trade is squared off as a risk management procedure. With most brokers this process is automated, they do not call the trader instead just close the trade as soon as 95% of blocked margin is the loss.

However since the option buyer maximum loss is the money they paid to buy the options no more money is blocked than the money required to buy the option. However with buying options risk is the limited time. Every derivative has an expiry date, therefore an option buyer has to be correct before the expiry date to make a profit else they lose all the money paid to buy the option and its given to the seller of that option.

What Should Traders Do?

Learn what to trade when the stock markets are stable and not much move is expected in future.

Since last few days stock markets Nifty is stable and not moving much.

Here is what may happen to world markets:

• Stock markets waiting for news for, in which business sectors Donald Trump will focus more. It is obvious investments will start in those sectors. Please keep a watch on Trump policies and news.
• Dollar getting stronger is a worry for Asian markets, but since US markets are on a roll Asian markets are not falling much. But for sure it will rise depending on what Trump says after taking over.

  Do not forget that like any country America also needs business to survive, so I do not think Trump can do anything to give a negative impact on doing business with USA. He himself is a business man, for sure he will try something good.

• Demonetization effect has still not gone away. News is already in that in December quarter India’s internet companies were not able to perform well. But for certain this will have a temporary effect till end January. Things will improve from February 2017 onward.

All of the above suggest one thing – stock markets in India will be stable. They may either fall down a bit or go up a bit, but it will be a slow move in a stable way. A swift fall or rise will only come after Trump business policies get clear. This will be known only after Trump resumes office on 20th January 2017.

There is a high chance he will definitely give good singles as far as doing business with US is concerned. Once this is known investors will come in and markets will move up.

What you can do during times when stock markets are down but stable?

1. Keep buying stocks of good companies for the long term.

2. If you are an Option trader keep trading non-directional strategies as finding direction in these stable conditions is very hard. Directional traders’ life is going to be very difficult for the next few days or months. My course offers well researched properly hedged non-directional strategies.

3. If you are a naked future trader, this is not the correct time to trade naked futures. You are playing with fire. Even if you want to trade please trade with proper hedging. There is a strategy in my course which teaches to hedge futures with options in the correct way.

Speculative trading is one of the worst ways to trade the stock markets and stable times is even more dangerous. If you are just an equity trader, please hold the stocks and sell them when they are in good profit.

If you have any questions on stable stock market conditions please write in the comments section below.