Our cognitive, social, and personality strengths are gateways to our emotional well-being and life satisfaction. When we exercise our strengths, we're most likely to find our work and relationships to be fulfilling. Unfulfilling situations, very often, are those that frustrate our deepest values and competencies. Many people pursue trading careers when, in fact, those careers are not well suited to their strengths. They look for the right trading styles and setups and seek to make changes in their psyches when what they need is work that is aligned with the best of who they are. If you're not succeeding at trading despite your best efforts, looking at alternatives is not an admission of failure. It could be the first step toward your success. If these are some of your strengths, trading may well not be your best career option: * People skills and interests * Spiritual values and interests * Creative skills and interests, especially of an aesthetic nature * Mechanical skills and interests * Helping skills and interests Many people need a reasonable degree of career and financial security to function at their best. Trading rarely offers these. Many people also perform best in highly social, intellectual, or creative environments. Many trading settings do not maximize these factors. Sometimes, what looks like self-sabotaging behavior in trading is simply people acting on unfulfilled needs. The trader who needs variety and creativity breaks trading rules. It is his or her strengths--not their weaknesses--that cause them to lose discipline. Your trading problems may be caused by the best of who you are, not the worst. No one really talks about that.
When you experience a drawdown in your profitability, the most important thing you can do is accurately diagnose what is going on. There are three possibilities: 1) Nothing is going on - The drawdown is normal and expectable for you and your trading approach. Unless you have an insanely high Sharpe ratio historically (steady gains, modest losses), you can count on sequences of losing trades and losing days, weeks, and months. You don't want to overreact to every losing period and continually change what you're doing; otherwise, you'd never build expertise in any particular trading modality. 2) Market have changed - This is clearest when you identify shifts in market trends, volatility, and correlation over the period of your drawdown. If your drawdown correlates with such a period of market change, some adaptation is in order. Not all trading problems are psychological in origin.
3) You are trading poorly - A dominant theme is the importance of knowing your best practices. If you know what you do well when you are making money, you're most likely to be able to identify when you deviate from those strengths. Poor trading can result from distraction, fatigue, frustration, and/or patterns of negative self-talk. Until you address those factors, putting capital at risk undermines your trading business.
Markets continually challenge us, and that is what prods us to continually change. Drawdowns are the market's way of telling us that we need to focus on our trading and not on screens. Some of the greatest and most constructive changes in people's trading have been inspired by the most painful losses.
Market Wizard Linda Raschke’s Technical Trading Rules
Buy the first pullback after a new high. Sell the first rally after a new low.
Afternoon strength or weakness should have follow through the next day.
The best trading reversals occur in the morning, not the afternoon.
The larger the market gaps, the greater the odds of continuation and a trend.
The way the market trades around the previous day’s high or low is a good indicator of the market’s technical strength or weakness.
The previous day’s high and low are two very important “pivot” points, for this was the definitive point where buyers or sellers came in the day before. Look for the market to either test and reverse off these points, or push through and show signs of continuation.
The last hour often tells the truth about how strong a trend truly is. “Smart” money shows their hand in the last hour, continuing to mark positions in their favor. As long as a market is having consecutive strong closes, look for up-trend to continue. The up trend is most likely to end when there is a morning rally first, followed by a weak close.
High volume on the close implies continuation the next morning in the direction of the last half-hour. In a strongly trending market, look for resumption of the trend in the last hour.
The first hour’s range establishes the framework for the rest of the trading day.
A greater percentage of the day’s range occurs in the first hour then was the case in the past, and thus it has become increasingly important to trade aggressively if there are early signs of a strong trend for the day.
There are four basic principles of price behavior which have held up over time. Confidence that a type of price action is a true principle is what allows a trader to develop a systematic approach. The following four principles can be modeled and quantified and hold true for all time frames, all markets. The majority of patterns or systems that have a demonstrable edge are based on one of these four enduring principles of price behavior. Charles Dow was one of the first to touch on them in his writings.Principle One: A Trend Has a Higher Probability of Continuation than Reversal Principle Two: Momentum Precedes Price Principle Three: Trends End in a Climax Principle Four: The Market Alternates between Range Expansion and Range Contraction!
In the world of money, which is a world shaped by human behavior, nobody has the foggiest notion of what will happen in the future. Mark that word – Nobody! Thus the successful trader does not base moves on what supposedly will happen but reacts instead to what does happen.
One place that stars out 100% equal opportunity are the markets.
The stock, currency, future, option, and commodity markets do not care about your race or gender. It does not ask you to feel out a resume to see if you are qualified or educated enough to make money trading. It is one of the few professions where you can enter and play along with the professionals with no prior schooling or experience needed.
You can not go walk on to Cricket ground and hit a sixer in a game or go try your hand at surgery on a whim because you think it is something you would like to learn how to do. In the markets you can take the other side of a trade with Paul Tudor Jones or sell a stock to William J, O’Neil even if you never know they were on the other side. Trading is a profession where you can place a trade and have a 50/50 chance of being right even if you have no idea what you are doing. You have the equal opportunity to make or lose money regardless of race, religious creed, or gender. Well at least you do at first.
However, even though in the short term markets are equal opportunity, in the long term the markets start to discriminate against those with no patience, they enter bad trades, and those that do not manage risk, the markets take much more from them when they lose than those who do manage their risk. The markets systematically take money from traders that trade a system or method that does not work. The markets over the long term discriminate between those that can trade and those who can’t. Good traders are on the winning side more and bad traders are on the losing side more. Good traders manage risk, trade a robust system, and have confidence in what they are doing. Bad traders are gamblers, making big bets, trading on emotions instead of systems, and are not consistent in their method.
Even with the easy entry into the markets new traders must respect the profession, they must study. To be successful new traders must put in the time with charts, books, questions, trading, and perseverance. Even though it is easy to jump in and trade it is not as easy to pull money out and keep it. You will only get out of trading what you put into it.
Expected win versus loss percentage. Your winning percentage performance is the first step to profitability.
Average win size. The higher your winning percentage, the smaller your wins can be. The smaller your winning percentage, the bigger you wins must be to make you profitable.
Risk versus reward ratio. Risking little for a high probability chance to make a lot should be your focus.
Historical performance of entry signals. You must have an understanding of how your entry signals did in your time frame in the past.
Exiting trades to maximize gains. The use of trailing stops and overbought/oversold oscillators for targets help with maximizing profits.
Proper position sizing. This keeps losses from being over 1% of total trading capital. Not having big losses is a big step to profitability.
Limiting total risk exposure at any one time to 3% of total trading capital. Eliminating big drawdowns and the risk of ruin is the first thing a trader must do.
The frequency of your trade entries is important. Will there be enough trades to make your system work when you really start trading? Will there be too many signals that lead to lowering your win rate, or over trading and excessive commissions?
Consider market volume. Does the volume in the markets you want to trade keep the bid/ask spreads tight to avoid large slippage? This is especially true for option markets, over-the-counter markets, or for trading systems that are not scalable.
Hope for the best, but plan for the worst. What are your expectations for maximum drawdowns in your trading capital? Can you handle it emotionally and mentally?
It’s easy for investors to get caught up in what they think is right or should happen. But that’s not how traders become successful.
We all have ego. Everyone likes to be right, likes to be seen as intelligent, and likes to be a winner. We all hate to lose, and we hate to be wrong; traders, as a group, tend to be more competitive than the average person. These personality traits are part of what allows a trader to face the market every day—a person without exceptional self-confidence would not be able to operate in the market environment.
Like so many things, ego is both a strength and a weakness for traders. When it goes awry, things go badly wrong. Excessive ego can lead traders to the point where they are fighting the market, or where they hold a position at a significant loss because they are convinced the market is wrong. It is not possible to make consistent money fighting the market, so ego must be subjugated to the realities of the marketplace.
One of the big problems is that, for many traders, the need to be right is at least as strong as the drive to make money—many traders find that the pain of being wrong is greater than the pain of losing money. You often have minutes or seconds to evaluate a market and make a snap decision. You know you are making a decision without all the important information, so it would be logical if it were easy to let go of that decision once it was made.
So often, this is not the case because we become invested in the outcome once risk is involved. Avoiding emotional attachment to trading decisions is a key skill of competent trading, and being able to immediately and unemotionally exit a losing trade is a hallmark of a master trader. Being wrong is an inescapable part of trading, and, until you reconcile this fact with your innate need to be right, your success will be limited.
Who has not seen the beach girl who is throwing back her wet hair, corn flowers or shells that all have the perfect Fibonacci spiral assigned to it? People then try to tell you that Fibonaccis are a ‘natural’ occurrence and that their presence signals something special. The truth is, for every Fibonacci spiral that you randomly find somewhere, there will be tens of thousands of things where a Fibonacci sequence cannot be seen.
And especially, when it comes to trading, Fibonaccis are not a superior way of predicting and analyzing price behavior, but it is more like a self-fulfilling prophecy when you see it ‘work’. When you can use it in combination with other concepts, you will be able to benefit from it and no doubt, Fibonaccis can be a great addition to your trading arsenal as you will see shortly.
No right or wrong
Often, traders who have no prior experience with Fibonaccis are worried that they are ‘doing it wrong’ and don’t use the Fibonacci tool correctly. I can assure you, there is no right or wrong and you will also see that many traders use Fibonaccis in a slightly different way. When it comes to using Fibonaccis, there are only a handful of things you have to be aware of. But after playing around with Fibonaccis for a short while, you will become comfortable very quickly.
Step 1 – Find an ‘A to B’ move
To use the Fibonacci retracements, you have to identify an ‘A to B’ move where you can use the Fibonacci retracement tool. What do we mean with ‘A to B’?
A = the origin of a new price move. These are usually swing highs and lows, or tops and bottoms.
B = Where the move pauses and reverses.
The following 4 screenshots show typical A to B moves
Now let’s apply the Fibonacci retracement tool to the A to B moves. Just pick the Fibonacci tool from your platform, select point ‘A’, drag it to ‘B’ and release it.
Connecting A to B moves with the Fibonacci retracement tool
Step 2 – Find the retracement point C
After you have identified an A to B move and plotted your Fibonacci tool on your charts, you should be able to find point C.
C = the point where the retracement ends and price reverses into the original direction.
As you can see, the first 3 screenshots show the typical ABC move of a Fibonacci retracement. Point C is very obvious on all three charts and price bounced off the Fibonacci levels accurately.
Finding the C-Fibonacci retracement level
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The fourth screenshot shows a scenario where price did not go back to the B-Fibonacci level, but breaks the prior A-Fibonacci. It’s important to understand that not all price moves will stop at a Fibonacci level. But, as you can see on the fourth screenshot, the Fibonacci tool can be used to identify support and resistance areas as well as we will explore in more detail shortly; the last screenshot shows nicely how price reacts to several different Fibonacci levels during the retracement.
Tip #1: Trial and error
Especially for beginners, the following exercise will help you build a strong foundation when it comes to drawing Fibonacci levels: Just grab the Fibonacci retracement tool and try to put it on different spots, while observing how price reacts to it. Usually, the more ‘snaps’ (price bouncing off a level) you see, the more important the Fibonacci retracement is.
Tip #2: Don’t force a Fibonacci
Not every time you’ll be able to use a Fibonacci retracement to make sense of a price move. If you can’t make the Fibonacci levels snap, don’t try to force it. The best and most helpful Fibonacci retracements are those where you don’t have to look long.
Using Fibonacci
#1 Retracements as re-entries
The most common use for Fibonacci levels is the regular retracement strategy. After identifying the ‘A to B’ move, you pay attention to the retracement level C.
The screenshots below show a sudden bullish move in a larger uptrend. Often, traders miss such sudden outbursts and then try to find re-entries during pullbacks. The Fibonacci tool is ideal to identify swing-points during pullbacks as the sequence indicates. With the Fibonacci retracement tool, a trader would have been able to find 2 Fibonacci re-entries on the pullbacks.
Using Fibonacci retracements as re-entries in a trade – click to enlarge
#2 Support and resistance
Another possibility to use Fibonaccis is to find an AB-Fibonacci move on a higher timeframe and then go down to your regular timeframe and watch the retracement levels as support and resistance guidelines.
The first screenshot below shows the Daily timeframe of the current EUR/USD chart. As you can see, there was a regular ‘A to B’ move. The screenshot in the bottom shows the same Fibonacci retracement but on the lower, 4 hour timeframe. As you can see, throughout the whole time, price reacted fairly accurately to the Fibonacci levels.
Daily timeframe with an ‘A to B’ Fibonacci move – click to enlarge
Fibonacci levels acting as support and resistance on a lower timeframe – click to enlarge
#3 Fibonacci levels for Take Profits – Fibonacci Extensions
Finally, you can also use Fibonaccis for your take profit orders. Especially the Fibonacci extensions are ideal to determine take profit levels in a trend. The most commonly used Fibonacci extension levels are 138.2 and 161.8.
Most trading platforms allow you to add custom levels. Usually, the parameters to add the Fibonacci extensions are:
-0.618 for the 161.8 Fibonacci extension
-0.382 for the 138.2 Fibonacci extension
The rules for take profit orders are very individual, but most traders use it as follows:
A 50, 61.8 or 78.6 retracement will often go to the 161 Fibonacci extension after breaking through the 0%-level. A 38.2 retracement will often come to a halt at the 138 Fibonacci extension. The screenshots below show the Fibonacci moves from the beginning and this time we applied the extensions to the price moves. As you can see, the extensions provided great places for take profit orders.
A 78.6 retracement goes to the 161 Fibonacci extension – click to enlarge
A 50 retracement goes to the 168 Fibonacci retracement – click to enlarge
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Conclusion: Fibonaccis are multifunctional
The article demonstrated how to use Fibonaccis efficiently in your trading. However, don’t make the mistake of idealizing FIbonaccis and believing that they are superior over other tools and methods. Nevertheless, Fibonacci is a great tool to have and can be used very effectively as another confirmation method. Whether you are a trend following or a support and resistance trader, or just looking for ideas how to place your take profit orders, Fibonaccis are a great addition to your arsenal.
