Tuesday, July 14, 2009

Rules of playing the stock market game


1. Don’t be in the market and lose capital when there is nothing going well and no good chart formations to buy or short sell. Learn the most important rule of this game

Pg 140 “secrets of profiting in Bull and Bear markets” read this page again and again before investing.

I’d rather miss out on a potential profit any day than buy a stock with poor reward/risk ratio. All you’ve lost when you miss a winner is a potential profit. Like buses, another one will come along. But what you’ve lost when you get broadsided by a losing situation is a portion of your very precious capita. Here a bit of mathematics comes into play. If you have 50000 invested and lose 20 percent, you are now reduced to a 40000 market stake. To get back to even you now need a 25 percent gain on your next trade. And if this trade is a loser, then the percentages move even further against you. So disciple and selectivity are operative works to always keep in mind. Remember, we can make really big money in the market even if we pass up 100 winners and buy only 10 stocks during the year, with 7 or 8 turning out to be winners.

1. do not buy during stage 4 and when the trend has moved far from the buy point.

2. You do not have to be in the market always. It is better to be out of the market when there is trouble in the market and there is indecisiveness.

3. Buy or sell only when you see a good formation of chart curve. Otherwise be wise and disciplined not to invest and lose money. This is the secret of the game. This also the advise Martin zwiets and of many other good managers.

Pg 136 “ do not put all your eggs in one basket”

Diversify in no more than or at least 5 to 6 stocks when you are investing 10 to 25 k.

1. Do not let your original capital deplete more than 5 %. That’s the primary goal without which other gains cannot happen. Stop loss the original capital by 5 % and run the gains.

2. Buy with your own money first and if the trend follows in the right direction buy with margin money. Do not buy with all the money and risk you capital and lose a lot of money when you are wrong.

3. Diversify atleast in 2 stocks below 10K capital…because from experience sometimes the only one stock you think will go up when buying and go down when shorting does not do it at that time. It is better to diversity the capital.

3. Cash out margin gains before pull back occurs.

4. Market trend and stage of curve is important.

5. Segment trend and stage of curve is important.

6. Relative strength of the stock in the market is important.( the leading stock in the segment show the trend faster than others. The others follow the best with a time lag. Always important to observe the best stock in the segment before buying or shorting)

7. Good earning companies are less speculative.

8. Follow IBD newspaper to relative strengths.

Buy points in a rally

1. Buy point 1: when the first time, which is the best, on high volume and 30 day MA break

2. Buy point 2: when the stock price comes back to the 30 day MA after the initial break

3. Buy point 3: Further in the rally when the stock price comes back to or close to 30 day MA

4. Do not buy when stock price is not within 5% near 30 day MA.

5. If far way from buy point 1 be careful and buy only when stock price with 5% of 30 day MA.

6. Definitely the stock will come down or close to 30 day MA

7. Do not hurry and loose money.

8. With a week the stock usually comes back to 30 day MA

9. Never buy at other higher points and far way from buy point 1 in a rally or you can loose money when curve changes to stage 3

Rules when playing with Margin money

  1. Margin is dangerous if one does not know how to handle it. Should not take a loss of more than 5 percent on margin money. Otherwise all your capital will be wiped out in no time.
  2. It’s even more dangerous when you put all your capital and margin money in one stock or basket and do not sell when the stock falls down. It is a perfect way to loose all your money quickly. Adhering to the rules when dealing with Margin money is very important otherwise you lose you money very quickly.
  3. When there is a loss of 5-6 % put a stop loss on the margin borrowed money. You can hold on your own money to up till the 30 day MA but not with margin money because it will wipe up all your capital. This has happened to me and I have no capital to invest now or get back my lost money.
  4. When you get a good profit cash out the margin money first and you can hold your own money for further risk.
  5. These are very important rule when playing with margin money.
  6. When dealing with very volatile stocks it is good to tighten the stop loss when dealing with margin money otherwise there is a danger of losing the capital money completely. When you get a profit of 20% or more cash it out.

Don’t be in the market and lose capital when there is nothing going well and no good chart formations to buy or short sell. Learn the most important rule of this game.

Don’t for shorting

  1. Don’t ever short a stock that is above its rising 30-week MA
  2. Don’t sell short because the P/E is too high
  3. Don’t sell short because the stock has run up too much
  4. Don’t sell short a sucker short that everyone else agrees must crash
  5. Don’t sell short a stock trades thinly
  6. Don’t sell short a Stage 2 stock
  7. Don’t sell short a stock in a strong group
  8. Don’t sell short without protecting yourself with a buy-stop order

Don’s for Buying

  1. Don’t buy when the overall market trend is bearish
  2. Don’t buy a stock in a negative group
  3. Don’t buy a stock below its 30 week MA
  4. Don’t buy a stock that has a declining 30-week MA(even if the stock is above the MA)
  5. No matter how bullish a stock is, don’t buy it too late in an advance, when it is far above the ideal entry point.
  6. Don’t buy a stock that has poor volume characteristics on the breakout. If you bought it because you had a buy-stop order in, sell it quickly.
  7. Don’t buy a stock showing poor relative strength
  8. Don’t buy a stock that has heavy nearby overhead resistance
  9. Don’t guess a bottom. What looks like a bargain can turn out to be a very expensive Stage 4 disaster. Instead, buy on breakouts above resistance.

Don’t for selling

  1. Don’t base your selling decision on tax considerations
  2. Don’t base your selling decision on how much the stock is yielding
  3. Don’t hold onto a stock because the price/earnings(P/E) ratio is low
  4. Don’t sell a stock simply because the P/E is too high
  5. Don’t average down in a negative situation.
  6. Don’t refuse to sell because the overall market trend is bullish
  7. Don’t wait for the next rally to sell
  8. Don’t hold onto a stock simply because it is a high quality

Quick reference guide for buying

  1. Check the major trend of the overall market
  2. Uncover the few groups that look best technically
  3. Make a list of those stocks in the favorable groups that have bullish patterns but are now in trading ranges. Write down the price that each would need to break out.
  4. Narrow down the list. Discard those that have overhead resistance nearby
  5. Narrow the list further by checking relative strength
  6. Put in your buy-stop orders for half of your position for those few stocks that meet our buying criteria. Use buy-stop orders on a good-till-canceled(GTC)basis
  7. If volume is favorable(at least twice the average volume) on the breakout and contracts on the decline, buy your other half position on a pullback toward the initial breakout
  8. If the volume pattern is negative (not high enough on breakout), sell the stock on the first rally. If it falls to rally and falls back below the breakout point, immediately dump it.
  9. Those few stocks that never pull back are demonstrating the strongest rocket propulsion

Rules for Holding

  1. There is a side way movement with high volume and the rally is far stretched out. That means the demand and supply is in equilibrium at this stage.
  2. Even if the volume is not high and the pull back have greater volume that the rise on the side ways it means people are selling
  3. Volume may not be high but there is sideway movement.
  4. If the 30- day MA is flattening out on the top of Stage 3
  5. Set Sell-stop above the 30-day MA in stage 3

You can make money only when you can wait. Patience, discipline and reducing the number of transactions and reading the trend is important.

  1. Cut losses and hold on gains.
  2. Never average on Losses either in shorting or going Long
  3. Stick with the trend with patience and perseverance

Ed Seykota’s advice

  1. In order of importance to me are

a) The long term trend

b) the current chart pattern

c) picking a good spot to buy or sell

2. Cut losses

3. Ride winners

4. Keep bets small

5. Follow the rules without question

6. Know when to break the rules , but mostly follow rules

7. Stock market behaves differently from itself in that easily identifiable patterns seldom exactly repeat.

Things that killed me during Bear market slide of 2008

  1. Things that killed me were….

A) buying on margin when market was going down

B) Not getting out of losses quickly and waiting to go down further

C) Not shorting on the general bear market when everything is going down

D) Or alternatively not waiting for 6 months for the market to recover as Buffet advised. All the good companies came back to the price that I bought them and I would have had some modest gains too.

E) When good companies are down its not a bad idea to buy and hold them but its good not to buy them during the phase 4 of down movement. Put a automated buy order at the resistance point. Or beginning of phase 2 .

F) Basically not following the trend

G) I am paying hefty price for the tuition fee to the market

H) All these factors contributed to heavy losses.

I) Sit on the shares in a bullish market trend …do not meddle with positions.

J) Once position is lost it is lost forever

K) I am learning

Technical analysis

  1. When a stock is stock is beginning to move into new high ground, volume should increase by at least 50 percent over the average daily volume in recent months. High volume at a key point is an extraordinarily valuable tip-off that a stock is ready to move.


  1. Increased volume with low P/E and good EPS is a good sign. Increased 2,3,4,5,6 fold is a good sign. Accompanied by normal volumes the day after and the week is a sign that people are holding the share.
  2. If you see an increased volume again 2,3,4,5, 6 fold after a new high that could mean that people are selling it off and that is not a good sign to enter a position.
  3. So volume increase for the couple of months should be investigated. Very important.

Conservative shorting

1. The general view is that you shouldn’t short a stock until it has already peaked and started down

2. that you shouldn’t go short until the stock is already reflecting problems that are evident for all to see.

3. The fundamentals are too week to support the high prices.

4. If there is a general overriding bear market to push down all the market stock prices.

5. Without the about mentioned rules shorting is a dangerous practice and easy way to loose money.

6. A stock should never be sold short because its price looks too high. The idea is not to sell short at the top, but at the right time. Short selling of individual stocks should only be considered after the general market shows signs of a top. The best chart pattern to short is one in which a stock breaks out on the upside of it third or fourth base and then fails. The stock should be breaking down toward the low end of its previous base pattern on increased volume. After the first serious price break below the base, there will usually be several pullback attempts. The prior base will now provide an area of overhead supply, as all investors who bought in that zone will be losing money, and a number of them will be eager to get out near breakeven. Therefore, pullbacks to failed price bases also provide good timing for short sales. ( basically it is an extension of rule NO:2 of conservative shorting).

Risk management

Long position

1. Get out of max 10-15 % loss depending on the volatility of the stock.

2. Use stop loss and take profits especially in short term technical trading. (Max 7%)

3. Use trail stops on already peaked stocks. Take the profits before the trend weakens and falls down.

Short position

1. If a short position goes against me, I will be out after first 6 or 7 percent loss. No second guessing.

2. Never average on Losses either in shorting or going Long

3. Never buy on margin on a downward moving market trend instead short the market for there are heavy bearish visible trends


  2. 5.30.09 I see a bullish trends. The big investors are back into the market now. Confidence is going up. Commodities are going up.

Bullish trend

  1. When the market is going up and if you are on a short position ….try to get out instead of averaging it out. This only increases your losses.
  2. When the market is going up buy on the increase and wait for a month at least.
  3. Can use stop loss tool if you are not happy with the uptrend to protect the gains.

Bearish Trend

1. Sell everything long and be short on high P/e companies.


  1. When the market is going up and if you are on a short position ….try to get out instead of averaging it out. This only increases your losses.
  2. When the market is going up buy on the increase.
  3. If shorting a fundamentally strong company one has to wait till atleast 3 successive up days and then short. Need to be very careful about such companies or could lead to a disaster. I found that this rule does not apply always and during bullish season…stock are on rise for a week continuously.
  4. Shorting a fundamentally weak and showing a same pattern of weakness such strict rule need not apply. Even here it depends on bullish season. Even though fundamentally weak companies rise during bullish environment. Not a good time to short during bullish season.
  5. It is good to hedge the portfolio with a long and a short equity. Going all the way short is risky.

Even here does not apply when it is bullish season. Better to be long on everything. And short during a bearish season. Bullish seasons are long and bearish seasons are short time.


1. Do not short on anything in Bullish environment. Everything is going up even the worst companies.

2. Never average on Losses either in shorting or going Long

3. Never buy on margin on a downward moving market trend instead short the market for there are heavy bearish visible trends

No comments: