The Trading ‘Secret’ to Making Real Money

Style counts. It can make all the difference.

High achievers typically have a certain style. You could say it’s their secret to success. A formula they use over and over to get a desired outcome.

It doesn’t matter if it’s leadership style or running style. The result is always the same. Good style is winning style.

Trading is no different. You have to have a viable approach. Sometimes it only takes a tweak here or there to take you to the next level.

In Quant Trader I frequently write about trading style. It’s a big decider in who wins. It really can make or break a trader.

Today’s essay continues this theme — but with a twist.

I’m going to show you what successful trading looks like. And I’ll be using a recent trade from my own portfolio as the case study.

But first, you may be wondering who I am. The short version is that I’m a quantitative trader. That’s a fancy way of saying I use a lot of maths to trade the markets.

I’ve been trading for a long time…about 25 years. It’s something I do well. I haven’t been an employee since 1999 — the year I left Bankers Trust.

The trading style I’m about to show you is a key part of my success. It made it possible for me to become financially independent at 29.

But enough about that.

Let’s get started.

Here’s our first chart.

This trade was in a company called Alumina [AU:AWC]. It’s interesting on a few levels.

AWC had been through a big decline 2011/12. This is something I like. You could say I’m a bargain hunter by nature.

But I won’t buy a stock that’s falling. I need to see signs of an uptrend before I take a position.

Have a look at this next chart.

I bought a stake in AWC at $1.03 on 6 December 2013. The price was starting to push higher after a period of trading sideways.

The trade got off to a good start. Within six weeks the stock was at $1.34. That’s a quick 31% gain.

So what do you do…cash in your chips or let it ride?

I let the position run.

Here’s the thing. Markets rarely move in a straight line. It’s often a case of two steps forward and one step back.

At some point the step back becomes a stumble. But you’ll only know this in hindsight.

Letting a position run involves taking a risk. It means you have to accept the possibility that an early gain vanishes. In some case it may even become a small loss.

There’s no way around this. You have to take this risk if you want to catch big trends. The +100% winners are the reward for accepting that risk.

AWC is a good example. The shares fell back to $1.13 over the next nine weeks. My 31% gain was now a 10% gain. I’d handed back two-thirds of the move.

So did I make the right decision?

Try and think what you would have done. This will help you understand your own style.

Holding was the correct call for my trading style. It was the right decision even if the trade was a washout. That’s the only way you can be a medium term trend follower.

I was ready to give back a respectable gain for the chance of a much bigger one. My stop loss on AWC was $1.07. Just above my entry point.

Why would I do this?

It’s simple. I know the bulk of my trading profits will come from the outliers. These are the stocks that run a very long way.

Capping my upside at 30% cuts the outliers short. They can never reach their potential. And I would never reach mine.

It turns out the correction in AWC was just an ordinary step backwards.

Here’s the final chart in the series.

AWC enjoyed a steady — although not uninterrupted — move higher.

I couldn’t have got this trend if I had sold out on the first hint of weakness.

This is easier said than done. I know that. Everything seems so basic in hindsight.

What makes it difficult in real time is the uncertainty. You simply don’t know if you’re watching good money disappear. But you have to take that chance to get big moves.

I find a systematic approach helps me manage these emotions. A system provides consistency…and that’s a key factor to success.

My eventual exit from this trade was at $1.65. I made 60% on my money in about 15 months. That’s a good solid profit.

But the true value here is what we can learn from the experience.

Profitable trading involves giving a stock room to move. You can’t protect every cent of profit…so don’t try. Let a winning position run. That’s the ‘secret’ to making real money.

Until next week,

Jason McIntosh,
Contributing Editor, Markets and Money

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Markets and Money offers an independent and critical perspective on the Australian and global investment markets. Slightly offbeat and far from institutional, Markets and Money delivers you straight-forward, humorous, and useful investment insights from a world wide network of analysts, contrarians, and successful investors.

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