How To Do Your Homework Like A Professional Trader


Mergers and takeovers, record-breaking product sales, surprising economic data – every day profitable trading opportunities appear in the financial markets. Traders and investors use various analysis techniques and strategies to spot them and make a profit.

So why are some traders consistently profitable while others lose money?

One of the most important factors is preparation, in other words, doing your homework.

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Pick A Strategy And Find Opportunities

There are thousands of different investment strategies used in the financial markets today. Some of these, like High-Frequency-Trading, focus on short-term gains earned within nanoseconds, while others are based on long-term price changes driven by macro-economic factors. Some traders like to trade on fundamental or technical data, while others enjoy trading on news.

As a trader, it is important to pick a strategy that suits your needs in terms of asset class, investment horizon, and risk tolerance.

The first step is to learn about the types of strategies that exist and to find one that matches your preferences. The second step is deciding on the types of securities to best execute the strategy with, such as equities, futures, or options. Once you’ve done that, it’s time to search for specific trading opportunities.

The internet provides a plethora of sources. Various sites feature real-time commentary, investment strategies, in-depth analyses, trading ideas, or option trading news.

Get Your Facts Straight

Especially when trading on news, it’s important to get your facts straight and make sure the story you’re trading on is accurate and complete.

When unexpected events happen, some media outlets only report them bit-by-bit, and, if you fail to check various sources, you may be missing an integral part of the story.

There have also been extreme cases, in which reporters fell for rumors or hoaxes that affected the markets. In April 2013, the S&P 500 dropped by almost 1% after a fake tweet alleged that an attack on the White House had happened.

Professional traders usually read several sources or only rely on highly credible ones before trading on news.

Check Whether The Information Is Already Priced In

News travels fast in the financial markets and may be accounted for in a security’s price within seconds or minutes. Other times, it can take several weeks for the stock price to adjust after a big event.

If you read the news in the morning, you may find that the pre-market price of the stock has already moved by several percentage points. Of course, you may still wish to trade if you expect the price to move even further after the market opens. Nonetheless, you should be aware of the price change the news has caused before you open a position, in order to be able to evaluate the amount of potential profit that can still be made.

Review The Security’s Chart

A quick look at the price graph of a stock gives the investor a ton of important information. Professional traders almost always analyze the chart before opening a position in the market.

It can be used to check if news has already been priced in and shows the trader where the stock is currently trading in relation to its price history. You’ll see where the highs and lows were, spot potential resistance levels, and get a good idea of how the stock recently performed.

chart 1

The chart above, for example, clearly shows that Twitter’s share price has been declining steadily, and the stock is currently trading close to its one-year low.

Check The Calendar

Before investing, it is greatly advised to check the calendar for future events related to the security, such as earnings releases or shareholders’ meetings, as well as macro-economic announcements, like central bank interest rates or unemployment statistics. Stock exchanges and various financial media publish economic calendars, e.g. Bloomberg.

Sophisticated traders are always aware of important upcoming events that may affect the price of their investment. Trading algorithms and quantitative strategies often automatically account for such events and announcements and deliberately skip these trading days.

Imagine the following scenario: Unaware that non-farm payrolls will be released the following morning, you take several long positions in the US equity market. The next day, the employment statistics end up below analysts’ expectations and the market drops by 2%. Even though you didn’t intend to trade on labor market data, you unintentionally incorporated that risk.

Know Your Limit

Position sizing is something you’re forced to decide on when you enter into your trade, but risk management is something that some traders only start to think about once their position has turned against them.

Professional and consistently profitable traders don’t just find great market entry points, but also plan their exit right from the start. If the level of risk is defined at the beginning, the decision on when to cut losses becomes automatic, instead of needing to be made in a moment of stress.

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There are many ways to manage risk. Stop-loss orders that are placed right after a buy or sell order are a popular and easy way to limit the downside of a trade. Sophisticated investors also research which price-level is appropriate and realistic for a stop-loss order and also allocate an overall stop-loss to their portfolio.

Trading remains risky, but can be highly profitable. If you do your homework well, you’ll limit your risk and will be able to invest more confidently.

[Image Courtesy of Flickr]


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