Trading Support, resistance and trendlines : a beginner's question

Hi all,

I have a thought about a trading plan. It's not a "system" per say, it's just a way of reacting to the market. I'm a beginner in trading, I have only been trading for about 3 months on demo accounts, and I'm really not very keen on getting flamed, so if you don't have a constructive reply on your mind then please save yourself the effort of typing one.

When I started trading I relied heavily on technical indicators, and of course, as most of the new traders do, I was looking for that 'perfect' indicator or the best combination..etc.
Also I had a daily goal of 10-20 pips, so according to what I knew back then I had to trade on daily basis and maybe multiple times a day.


Just recently I've changed my thinking a bit. My current method depends on just "reading the charts". I keep watching my charts till I find a really good setup. What I mean by this is that I start plotting support and resistance lines and trend lines, then I wait for a pattern to form. In addition to this I have a 12ema and 20-sma bollinger bands on my charts
but I only return to them for confirmation (position of 12 ema relative to that of the 20 sma of the bollinger bands, and postion of candles with respect to the band lines).
When I find that good setup, I put my order, almost all my orders are pending/limit orders, so that I could react to the different possibilities, and of course I trail my stops (I start with a 50-70 pips target, 20-30 stop loss and 15 pips trailing stop).
one last thing is the amount of money I risk. My positions are leveraged such that 1 pip = 0.5% of what I have, I know a lot will say this is a crazy risk, but considering the risk-reward ratio, every 3 - 4 consecutive losses could be compensated by just 1 good trade. One could even remove the take profit and depend on the trailing stop alone which could sometimes make bigger profits.

2 days ago I started trying this method on a demo that I got down to 145$ from 5000$ 2 months ago, just to see what I can do with it. and I'm now up to 220$. I know this isn't a result to rely on, and I'm not asking for feedback on that result. I just want to discuss this plan with you, what pitfalls do you see there and what improvements could be done to it.

EDIT : Forgot to mention a word about my goals. I realized how crazy it's to look for 10-20 pips everyday, so I have changed this to "averaging" 10-20 pips/day which means that I need to be up 70 pips/week (on average) or about 280-300 pips/month. It may not appear as an ambitious goal, but considering the price of 1 pip I believe that's fairly enough for me.

Sorry for the long post.

MT.

1 pip = 0.5% means you're only looking after the brokers money temporarily. An unforeseen spike, a run of poor trades, a mistake, a poor fill...... A 200 pip loss should never hit your account hard, let alone kill you. You might think the unexpected won't happen to you or the normal rules only apply for other people, because you're a mild narcissist just like everyone else. But it will, and your confidence will be dented. Maybe it is something you have to go through yourself to understand. I over-leveraged once, just one time, and guess what happened? I will never do it again.

Sorry if this does not appear constructive, but if you do not get your head round this then it is completely irrelevant what strategy you are using.

Even so, I like the basic idea of what you are doing - identify areas of potential support and resistance and then study price action - but as to what these 'patterns' are and how reliable your methods of identifying support and resistance actually are, it is impossible to know whether you're onto a winner. This should be your next step (once you've sorted your money management out) - analyse just how effective the support and resistance is, research other methods of identifying them, look at the possibility of ditching the ones that don't work as well as others. Study different price action entry methods - maybe look at 15m abandoned baby formations, or a 1-2-3 (break of 2 entry) etc., and get some statistics down - how often does your support and resistance hold? How does refining the entry with you methods of price action improve your success% and keep you out of bad trades? Does the improved R:R of entering earlier on weaker signals outweigh the reduced success%?

Where is the best place to position stop losses? How do I want to manage my trades once they go into profit? Do I want to take some profits off the table early? Do I want to let some of the trade run for 'extended targets'?

When you can answer those questions with statistics backing them up, then you can formulate a solid trading plan from which to work from. Understand that this way of trading is tough, you have no crossing lines to get you in and tell you what to do. 99% of it is down to your ability and the competency of your decision making whilst in a trade. Practice and get that proof before you even think about throwing money at it.

Birdt, Thanks for your reply, and it IS contructive . I just asked for 'constructive' replies because I really hate those people who have no other job other than just degrading others in pointless posts. anyway, I will work on the answers to those questions but about money management, How about lowering the risk to 0.1%/pip ? this way the maximum risk per trade is 2-3% and the target is 5-7%, is this better ?

Another hypothetical question, Let's say that once in a while (maybe once every month or two) you find a really good entry signal that you're pretty sure the market would give you at least 10-20 pips before reversal if you take this trade, wouldn't you take it with a highly-leveraged position ?

MT.

I guess it depends on how important it is to you to to preserve your account - there is no reward without risk, that is the nature of enterprise. Maybe using 0.1% per pip you are not overly jeopardizing your account through the typical day to day ratio of losers if you keep things real tight. Personally I think that is still pretty extreme. It is the strings of losses and extraordinary events that have the potential to devastate you. Keeping it slow and steady takes the drama out of trading. Wild swings in your balance, the nail biting sleepless nights when you have an over-leveraged position on overnight, worrying about small strings of losses, taking profits out early, letting losers run - potentially an emotional roller-coaster that I do not want to take a ride on. How often do we hear trading gurus talking about emotions in trading? All the time. The greater the proportion of your account you are risking, the more these emotions are going to be apparent. This could cause you make bad decisions, perhaps meaning you can not even follow your trading plan.

Sure, the other side of the coin is attractive - you could be a billionaire by Friday close, but it is unlikely. Some people set aside some 'spare' capital (if there is such a thing, I've never had any), put it in a separate 'mad-money' account and trade it aggressively, using lax money management. That is fine, but not in your main account, unless you are prepared to lose it.

Every trade I consider I decide how much of my account I want to risk on it. How much am I prepared to lose for the chance to win? Obviously I want the R:R and success% to be greater than 1, so I expect to make a profit taking this sort of trade in the long run. Should a really great set-up appear, then of course I might be prepared to stake a bit more upon it, but still wouldn't go crazy. I have lost a lot of money before in minutes and it's not a pleasant feeling. You must also consider your emotional well-being in all of this - your account might be down 7%, which possibly isn't the end of the world, but can you handle losing that amount of money? The next time the set-up arrives are you going to be able to pull the trigger without hesitation as in the trading plan?

Question : Traders who take such low risks, how do they make those big profits ? I'm not arguing about the concept itself, it's just not that clear to me how do they do that.
Because for example a trader like Larry Williams, who turned a 10K account to 1.25M in one year, how did he do it without taking huge risks ? again, obviously I'm not at all trying to compare myself to such an experienced trader, but it seems to me that the more experienced the trader the more he stresses the "low risk" thing.

Larry Williams actually got his account above $2m during those trading championships, lost more than half and then built it back up to $1.4m, which tells a story about how wild it can get using that sort of money management. Larry Williams is a special case; an extraordinarily talented and intelligent trader, with an asbestos-like tolerance for risk. Is that sort of trading viable in the 'long-run' though? I don't know about that. Richard Dennis, the creator of the Turtle Method, again another exceptionally talented trader, has been been known to achieve returns of 500% profit per year, but has blown his account several times. To be able to acquire millions of dollars and then blow it all up, suffering the huge emotional pain that he must have done - and then still be motivated to do it again - not just once but several times, well that takes a special kind of person.

Birdt, an excellent series of posts, IMHO, many thanks for sharing.

David

I know one should not risk more than 2% of his equity per trade, but it 's just now that I believe this is what I'll stick to, thanks to most of the veterans here, plus I'll never go for higher that 1:5 leverage. my question is; what should a reasonable target be at such risk ? shouldn't it be something around 5% ? or maybe higher ? I have found a lot of resources about lowering the risk but almost none mentioned anything about where the target should go.

Again, Thanks Birdt for your reply and thanks a bunch to whoever takes the burden writing an informative post.

MT.

Mtarek, I expect that, to make Larry Williams-like returns with only small risk, one would need an accurate system that provides a decent edge, and trade small enough timeframes to allow frequent compounding.

Re your question on profit targets, sorry if this sounds evasive, but there's no hard-and-fast answer. IMHO win rate and R-value are inherently inversely proportional. In other words, the further you set your targets away from entry, the bigger your profitable trades will be, but the less frequently they will occur. And vice versa. There are plenty of folk who believe that letting profits run as long as possible in itself provides an edge. Then there are others (scalpers mainly) who tend to set wider stoplosses and take profits early (e.g. SL=20 pips away from entry, TP=5 pips away from entry).

Some more of my thoughts (for whatever they're worth, LOL) about exits here and here. There's also a very good (IMHO) post on exits by Dopey here. And one of many interesting threads on exits here.

David

believe me they're priceless . Thanks very much Hanover. The more I learn about forex the more I find much more stuff to be learned !
btw, is it true that a bad trader with sound money management rules will last longer (and maybe make little profit) than a good trader with bad MM ?

I don't think there's such an animal as a good trader with bad MM. It's understanding risk and knowing how to manage it that makes one a good trader. Granted a good trader can screw up their MM at times for any number of reasons, but at the end of the day he knows he must manage his money carefully if he wants to make money and he has the knowledge and means for doing so.