Rules of Stock Trading

The 22 Rules of Trading by Dennis Gartmans Nov. 2003

1. Never, under any circumstance add to a losing position.... ever! Nothing more need be said; to do otherwise will eventually and absolutely lead to ruin!

2. Trade like a mercenary guerrilla. We must fight on the winning side and be willing to change sides readily when one side has gained the upper hand.

3. Capital comes in two varieties: Mental and that which is in your pocket or account. Of the two types of capital, the mental is the more important and expensive of the two. Holding to losing positions costs measurable sums of actual capital, but it costs immeasurable sums of mental capital.

4. The objective is not to buy low and sell high, but to buy high and to sell higher. We can never know what price is "low." Nor can we know what price is "high." Always remember that sugar once fell from $1.25/lb to 2 cent/lb and seemed "cheap" many times along the way.

5. In bull markets we can only be long or neutral, and in bear markets we can only be short or neutral. That may seem self-evident; it is not, and it is a lesson learned too late by far too many.

6. "Markets can remain illogical longer than you or I can remain solvent," according to our good friend, Dr. A. Gary Shilling. Illogic often reigns and markets are enormously inefficient despite what the academics believe.

7. Sell markets that show the greatest weakness, and buy those that show the greatest strength. Metaphorically, when bearish, throw your rocks into the wettest paper sack, for they break most readily. In bull markets, we need to ride upon the strongest winds... they shall carry us higher than shall lesser ones.

8. Try to trade the first day of a gap, for gaps usually indicate violent new action. We have come to respect "gaps" in our nearly thirty years of watching markets; when they happen (especially in stocks) they are usually very important.

9. Trading runs in cycles: some good; most bad. Trade large and aggressively when trading well; trade small and modestly when trading poorly. In "good times," even errors are profitable; in "bad times" even the most well researched trades go awry. This is the nature of trading; accept it.

10. To trade successfully, think like a fundamentalist; trade like a technician. It is imperative that we understand the fundamentals driving a trade, but also that we understand the market's technicals. When we do, then, and only then, can we or should we, trade.

11. Respect "outside reversals" after extended bull or bear runs. Reversal days on the charts signal the final exhaustion of the bullish or bearish forces that drove the market previously. Respect them, and respect even more "weekly" and "monthly," reversals.

12. Keep your technical systems simple. Complicated systems breed confusion; simplicity breeds elegance.

13. Respect and embrace the very normal 50-62% retracements that take prices back to major trends. If a trade is missed, wait patiently for the market to retrace. Far more often than not, retracements happen... just as we are about to give up hope that they shall not.

14. An understanding of mass psychology is often more important than an understanding of economics. Markets are driven by human beings making human errors and also making super-human insights.

15. Establish initial positions on strength in bull markets and on weakness in bear markets. The first "addition" should also be added on strength as the market shows the trend to be working. Henceforth, subsequent additions are to be added on retracements.

16. Bear markets are more violent than are bull markets and so also are their retracements.

17. Be patient with winning trades; be enormously impatient with losing trades. Remember it is quite possible to make large sums trading/investing if we are "right" only 30% of the time, as long as our losses are small and our profits are large.

18. The market is the sum total of the wisdom ... and the ignorance...of all of those who deal in it; and we dare not argue with the market's wisdom. If we learn nothing more than this we've learned much indeed.

19. Do more of that which is working and less of that which is not: If a market is strong, buy more; if a market is weak, sell more. New highs are to be bought; new lows sold.

20. The hard trade is the right trade: If it is easy to sell, don't; and if it is easy to buy, don't. Do the trade that is hard to do and that which the crowd finds objectionable. Peter Steidelmeyer taught us this twenty five years ago and it holds truer now than then.

21. There is never one cockroach! This is the "winning" new rule submitted by our friend, Tom Powell.

22. All rules are meant to be broken: The trick is knowing when... and how infrequently this rule may be invoked!

Ten Cardinal Rules of Trading

Source: Studies in Stock Speculation Volume II, H. J. Wolf 1926.

1. Do not overtrade (he meant to limit use of margin).
2. Limit losses (2 or 3 point stop, by which I think he meant 2%-3%).
3. Follow the trend (he also meant – do not hedge).
4. Favor active issues.
5. Buy during weakness. (But only after reactions confirming the end of the weakness?)
6. Sell during strength. (Close out on unusual advances at first sign of hesitation; sell short only after evidence of distribution with lower support followed by lower top – in other words, sell short only after a confirmation of a change in trend to a decline.)
7. Distribute risk. (But not among too many different issues.)
8. Protect profits. (Never let a 3 point profit turn into a loss. I think today this means a 3% profit.)
9. Avoid uncertainty. (When in doubt, stay out. He also meant I think, to not trade when there was no clear trend.)
10. Discount fundamental outlook. (Never ignore fundamental conditions, favor trades where technicals and fundamentals cooperate...and bear in mind that fundamentals are trailing information that additionally may be intentionally too optimistic/pessimistic or accidently wrong.)

Trading Rules from "Studies in Tape Reading" by Rollo Tape - latter was actually Richard Wyckoff - published in 1910:

1. Best way to distinguish genuine from fake moves – watch out for abnormally large volumes within a small price and perhaps time radius. Indicates manipulation. Large volume is way of attracting others, disguising the intent of the manipulator.

I think Wyckoff is saying, watch for high volume with little price move?

2. Push up trailing stops as soon as possible. Do not lose once a trade is profitable.

3. Once in a trade look for exit signals.

Trading Rules – See sources at end:

- Do not follow advisory services, newsletters
- Do not blindly accept a broker's advice
- Do not listen to rumors.
- Do not listen to the news about investments and trading.
- Do not listen to hot tips.

- Ignore insiders, they are often absolutely the worst judges of their own stock.
- Ignore Wall Street sayings, no matter how ancient or revered.
- Trade only in highly liquid instruments.

- Make all decisions and plans before the market opens.
- Do not change decisions and plans after the market opens.
- Make plans for all contigencies, good and bad, pre-market.

- Pyramid up longs, pyramid down shorts, if trade proves right.
- Cut losses quickly. If a trade goes against me, get out.
- For more than 200 shares, get in, in stages, as the trend proves out.
- Let profits ride if there is no good reason to close out the position.

- Set a price stop and a time stop.

- Transfer half of winnings to cash, out of trading accounts, periodically.

- Never overtrade.
- Never completely and at once reverse a position.
- Run quickly or not at all at the first approach of danger.
- When doubtful, reduce the size of the trade.
- It is better to average up than to average down.
- Public opinion is not to be ignored.
- Quiet weak markets are good markets to sell.
- In forming opinions, the element of chance should be included.

Sources:

Darvis, Nicolas – “How I Made $2,000,000 in the Stock Market” 1986
Livermore, Jesse – “How to Trade in Stocks” orig. publ. ~60+ years ago
Wyckoff, Richard – “Stock Market Technique Number 2” 1934
Wolf, H. J. – “Studies in Speculation I” 1925
TWENTY-EIGHT VALUABLE RULES

In order to make a success trading in the commodity market, the trader must have definite rules and follow them. The rules given below are based upon my personal experience and anyone who follows them will make a success.

GANN 28 MOST OF FAMOUSET RULES

1. Amount of capital to use: Divide your capital into 10 equal parts and never risk more than one-tenth of your capital on any one trade.

2. Use stop loss orders. Always protect a trade when you make it with a stop loss order 1 to 3 cents, never more than 5 cents away, cotton 20 to 40, never more than 60 points away.

3. Never overtrade. This would be violating your capital rules.

4. Never let a profit run into a loss. After you once have a profit of 3 cents or more, raise your stop loss order so that you will have no loss of capital. For cotton when the profits are 60 points or more, place stop where there will be no loss.

5. Do not buck the trend. Never buy or sell if you are not sure of the trend according to your charts and rules.

6. When in doubt, get out, and don't get in when in doubt.

7. Trade only in active markets. Keep out of slow, dead ones.

8. Equal distribution of risk. Trade in 2 or 3 different commodities if possible. Avoid tying up all your capital in any one commodity.

9. Never limit your orders or fix a buying or selling price. Trade at the market.

10. Don't close your trades without a good reason. Follow up with a stop loss order to protect your profits.

11. Accumulate a surplus. After you have made a series of successful trades, put some money into a surplus account to be used only in emergency or in times of panic.

12. Never buy or sell just to get a scalping profit.

13. Never average a loss. This is one of the worst mistakes a trader can make.

14. Never get out of the market just because you have lost patience or get into the market because you are anxious from waiting.

15. Avoid taking small profits and big losses.

16. Never cancel a stop loss order after you have placed it at the time you make a trade.

17. Avoid getting in and out of the market too often.

18. Be just as willing to sell short as you are to buy. Let your object be to keep with the trend and make money.

19. Never buy just because the price of a commodity is low or sell short just because the price is high.

20 Be careful about pyramiding at the wrong time. Wait until the commodity is very active and has crossed Resistance Levels before buying more and until it has broken out of the zone of distribution before selling more.

21. Select the commodities that show strong uptrend to pyramid on the buying side and the ones that show definite downtrend to sell short.

22 Never hedge. If you are long of one commodity and it starts to go down, do not sell another commodity short to hedge it. Get out at the market; take your loss and wait for another opportunity.

23 Never change your position in the market without a good reason. When you make a trade, let it be for some good reason or according to some definite rule; then do not get out without a definite indication of a change in trend.

24. Avoid increasing your trading after a long period of success or a period of profitable trades.

25 Don't guess when the market is top. Let the market prove it is top ' Don't guess when the market is bottom. Let the market prove it is bottom. By following definite rules, you can do this.

26. Do not follow another man's advice unless you know that he knows more than you do.

27. Reduce trading after first loss; never increase.

28. Avoid getting in wrong and out wrong; getting in right and out wrong; this is making double mistakes.

Four Noble Truths of Trading

1. Trading is suffering (I'm sure most agree with this)
2. The cause of suffering is ignorance and desire (greed)
3. There is a way to end suffering
4. This way is the Eightfold Path

Eightfold Path of Trading

1. Right Entry:
Enter the market only when your indicators tell you to do so. Don't jump in blindly with the market jump so you can "get in on the ride": this is just one way market makers and large traders take away from the smaller traders. Also, don't get into the market just because you "always need to be in the market". There are times when there will be no way to effectively trade. Remember, "flat" is a position that carries no risk (but also no reward).

2. Right Exit:
Basically, let your profits run and cut your loses short. Don't hang on to a losing position, hoping it will get better and don't jump out of a winning position early because you're affraid it will turn bad soon. Always have an exit strategy and/or always use stops.

3. Right Action:
Don't wait for "the absolute best price" to enter or exit the market because you'll never get it. Also, don't chase a trend. If your indicators were looking good for two or three bars and you didn't get in (maybe you were waiting for that "best price?"), then its probably too late. There will be more trades in the future.

4. Right Mindfulness:
This is about being in the moment. Each trade should be emotionally isolated from previous trades (actual or potential). Don't fret about the money you lost on the previous trade, that one trade "you shoulda had", or how much money you made so far. There's plenty of time to evaluate your trades at the end of the day.

5. Right Speech:
Don't boast about your winning trades without mentioning the losers. Showing off and concentrating on your winning trades is only lying to others and yourself. Ignoring problems will make them get worse instead of going away.

6. Right Understanding:
Before going into the market, understand the nature of the market and why you're throwing your money into a particular security. Understand the long term trend, the market's mood on that day, and the technical and fundamentals of each investment vehicle.

7. Right Discipline:
Contrary to popular belief, making money from trading is not easy. In order to become a consistently profitable trader, you must consistently trade. Record, evaluate and improve upon the trades and you did in the past. Change and improve your strategy based upon these evaluations. However, there is a difference between letting your strategy evolve and changing it so radically that you destroy it.

And most importantly...

8. Right Livelihood:
Is active trading what you really want to do for a living? Ask yourself these questions: Why did I want to trade? Was it for excitement, the potential for great reward, or because I want "easy money" and "its a cool thing to do"? Is trading really right for me? Why do I get the willies every time I place an order? Why does the market seem more unpredictable than my boss?
Maybe active trading is not for you and you might be better off working at your "9 to 5" full time job while occasionally playing the market with swing trades.