Tutorial

Contents

Basics of Trading

“Trading is the transfer of risk to the buyer in return for potential profit”

Trading is an extremely lucrative business. You would have probably read about successful traders or seen in Youtube of people sharing how its done. However before you dive into the world of trading, you need to understand that when you enter a trade position, you are effectively taking on risk, and with risk comes the potential for profit but also the possibility that you may lose money too.

Think of it like you are operating an insurance company. An insurer sells insurance policies and earns the premium (profit), but in the event of a claim the insurer incurs a payout (loss). So the insurer is purchasing risk in return for profits. As long as the total premiums is larger than the payout, the insurer will make money in the long run. And this is how trading should be perceived. Its impossible to win all the time. However as long as your profits outweigh the losses, and you can always finetune your strategy to increase your profits and reduce losses, then you will surely be successful in the long term.

However, if anyone thinks that they can open a broker account and start profiting straightaway, it will not happen. Trading is far from easy. All those ads on instant get-rich-quick schemes using just 1 hour daily to make thousands or millions is far from the truth. If trading is that easy, then why 95% of daytraders lose money? And why is this even surprising? Most of us won’t become doctors or lawyers even if we try hard at studying, so why should anyone think that they can become a successful trader without any effort? Nevertheless the beauty of trading is you don’t need to be an academic to achieve this. With the right strategy and hard work, its entirely possible to make a good living from daytrading. So what kind of attributes will make a great trader?

Attributes of a good trader

“Trading is 1% skill and 99% emotions”

Most people think that to be successful in trading, they just need to find the “perfect” strategy that can always beat the market. Do a search on Youtube and anyone can find tons of strategies, yet if it can be replicated so easily, then why do we not see more people quit their jobs and start full time trading? Don’t get me wrong, I’m not saying the strategies don’t work. What I’m saying is simply learning the strategy and replicating it will not bring success to most people. Because most people fail to realise the bigger obstacle, which is in themselves.

Our trading success will be tied mostly to our ability to manage our emotions in the trade. Emotions are our biggest enemy and why most people fail in trading. There are some good books on this topic so I will not delve into the psychological aspect of how our brain is wired. However nature has made our human brain wired to avoid pain. We don’t cut loss earlier enough (avoid pain of realized losses), we take profits quickly (avoid pain of losing profits), we fomo-ed in on trades quickly (avoid the pain of missing out). To be successful in trading, we need to train our brain to go contrary to our subconscious mind, and this can be trained by developing good habits. The 2 key habits to build up are discipline and patience. Discipline to stick to the trading plan and patience to wait for the plan to work out.

So often, most traders lose because they didn’t stick to their trading plan or trading without a proper plan. They see a weak setup and they feel like jumping into the trade due to FOMO. Some traders are itching to enter a trade especially if it’s a dry day of few opportunities, and they try to force a trade instead. They may get lucky and make some profits initially, but eventually luck will run out and when losses seep in, it will mess up the mind to chase back the losses leading to more losses. Not having the patience to wait for a setup to form is a common mistake. After entering a trade and not having the patience to let it work out, instead taking profit quickly, is another common trait. Its so important to understand yourself first before going into full-fledged trading.

Understand your style and personality

Every trader has their own style. Before you decide to learn from a trading guru, you first need to understand your trading style and situation. Then find a mentor with a similar style to learn from. This won’t come automatically, but once you start to try out different strategies that you learn from Youtube, reading books or some paid courses, and you start trying these out, you will get a sense of what works for you or not.

What will affect the style that will suit you most will depend mainly on several factors:

Capital – smaller capital means its easier to focus on cheaper small cap stocks.
Time – how much time you have to trade, and at which part of the US trading hours are you available.
Long or short bias – some traders are naturally long bias, and some are short bias.
Risk appetite – how much loss can you accept. Some strategies has high win rate but each loss is huge, whereas some has lower win rate but small losses relative to profits.

I will go deeper into each area next.

Small Cap vs Large Cap Stocks

Stocks are defined by their market value, basically calculated by the number of outstanding shares of the company multiply by the current price. This calculates the value of the company. Thus if a company has 1million shares outstanding and the price of the stock is $5, then the value or market cap of the stock is $5million. Stocks are classified by small cap or large cap (and many other ways such as mega cap, micro cap, etc). For simplicity of this article, I will just broadly classify these into small and large cap, and small cap stocks are loosely defined with $1billion market cap or lower.

I am a small cap daytrader. 99% of my trades are in small cap stocks. The reasons why daytrading small cap stocks work so well for me:-

Smaller capital is needed. The price of large cap stocks are usually much higher, sometimes $100 or more. Small cap stocks are mostly in the range of <$1 to $10. This means many people can make better returns on a smaller capital with small cap rather than large cap. All you need is at least $5k capital to get started (some start with lesser but I prefer $5k as that will allow some buffer for margin).
Small cap stocks are much more volatile. Its much more likely for small cap stocks to jump 20%, 50% or even more than 100% within a day. In contrast, large cap stocks generally jump 1-3% in the absence of big news catalyst. This small caps gives a lot potential profit on the table waiting to be grabbed (of cause potential losses is also potentially higher).
There are way more small cap stocks than large cap stocks listed in the US exchange. This means there are lots of possibilities to trade daily compared to large cap stocks.
Large cap stocks are very much dependent on external macro environment, for example interest rate changes, jobs report, state of economy, potential war, all will affect the prices of large cap stocks that will require a lot of reading up on the news. I prefer to look at chart price action to determine entry points rather than external macroenvironment factors.

As mentioned in the previous page, knowing your style is so important to decide which market cap stock to trade in. Base on my style as a daytrader, trading small caps suit me better due to larger volatility swings that suit my risk profile, and my preference for making quick profit just by purely reading chart price action using a smaller capital as opposed to having to understanding fundamentals for large cap stocks. Its important for you to understand both small caps and large caps before deciding what works for you.

For the rest of the articles, my focus will be mainly on small caps nuances and why it suit my trading style. Note that small caps experience much more volatility so it presents great risk of bigger losses, thus it may not be for everyone. Next, I will explain how the trading hours suit my lifestyle.

Trading Hours Opportunities

I only daytrade the US market because that’s where the most opportunities are in. Full US trading period starts from 4am EST pre-market, followed by regular session from 9:30am to 4pm, and after-hours market till 8pm before it closes for the day. This article is not simply about trading hours, but the opportunities each pocket of trading period present for small cap daytrading.

4am to 7am EST: 4am presents good opportunities for small cap daytrading. Volume is lower and bid-ask spread wider, giving rise to some nice opportunities. Also any overnight news may have an impact on the small cap stock causing it to move from 4am. Do note that not all brokers offer trading at this time so you need to check if your broker offers trading at this timing.

7am to 9:30am EST: There will be more swings from 7am as some brokers who do not offer 4am trading open from 7am, so its expected for traders to enter or exit their positions right at 7am especially if the ticker has made some huge moves earlier. Additionally, some companies may release news at 7am, 7:30am, 8am, 8:30am or 9am, which will cause the underlying ticker to move and these present opportunities as well.

9:30am to 4pm EST: This is the regular trading hours. The first 15mins to 1hour are usually the most volatile. There are strategies that look at stocks that moved in pre-market and trade these in regular hours. And there are stocks that only start moving from regular hours that will present new opportunities. Its important to watch 3pm as its near to market close, traders will start to unwind positions so it will see greater volatility. There are also instances of small cap tickers breaking out to new highs from 3pm, presenting opportunities but also caution as well.

4pm to 8pm EST: While most tickers volume simply fade off after 4pm, some volatile stocks will still move with sufficient volume during this period. Also any news release after 4pm will result in tickers moving more.

As you can see, there are ample opportunities to trade regardless of which timezone you live in, something that small caps present but not necessarily large caps. As I’m living in Singapore which is 12hours ahead of US eastern (or 13hours when daylight savings kicks in), The US pre-market works for me as it will be my evening and that will extend to the regular hours which will be night time for me. Thus I’m able to trade between 4am to 12pm EST which will give me more than sufficient opportunities.

To summarise, first identify the time period that you are able to trade in. Then look for a strategy that focus on the specific time period that I mentioned above, whether its pre-market, regular hours or after-hours. There will surely be a strategy for everyone. However don’t start paying courses for a strategy that works only at a time you are busy working or sleeping, then you would have just wasted your money paying for a strategy you cannot apply. I made this mistake myself subscribing for an alert service that runs throughout the market hours, but I have to skip the afternoon of market due to my timezone (as I need to sleep). The alert may open a position in the morning and close it in afternoon of trading hours, so its not workable for me. Thus I ended up paying for something that I can’t utilize.

Long or Short?

In trading terminology, going long (or bullish) means buying a stock with the intention of selling it for profit when the price goes up. In contrast, going short (or shorting/short-sell/bearish) means selling the stock first with the expectation that the price will drop more and buying it back at a lower price for profit. Generally a trader is more long or short bias. There are good strategies for both types of setup. Some traders do very well with both long and short strategies, but if you are starting out for the first time, its better to focus on only one of either long or short, because it may affect your reading of the chart pattern due to bias-tendency.

Going Long on small caps stocks: You may have seen small cap stocks jumping 50%, 100% and even more within a day, this will make any trader salivate on the huge profit potential. There are strategies to catch such setup, such as the breakout method, and if you manage to catch one, the gains are tremendous. Nevertheless many small cap stocks tend to pullback after their spike up, so the risk of losing more often than not is higher. Also if the stock is breaking all time, there is no resistance level to fall back on and determine how high the stock can go. Thus, chances of someone catching the full 100% profit gain is quite remote, but if caught well and with strict risk management of using stop-loss when the setup didn’t work out, this can be a relatively viable strategy in the right conditions or during a short squeeze.

Going Short on small caps stocks: One of the key reason why I like small cap stock trading is due to the fact that most small cap stocks that spike up tend to pullback by end of the day. When understanding this fact, this presents numerous opportunities for profit when catching the drop. And this can happen at all times throughout the day. Stocks can jump from $2 to $10 and pullback to $2 by end of day. The percentage of winners is relatively higher, but the risk of losing more than my capital is very real especially in a short squeeze, so being able to identify bullish verses bearish setup is critical, and again to have strict risk management to cut loss when the short squeeze happens as it can be devastating.

90% of my small cap daytrades are shorts, for the simple reason that most small cap pumpers tend to fade off by end of day. Once a clear pattern can be established (and patterns always repeat themselves), its entirely possible to short such tickers when they are on a downtrend from the highs bringing in good profits. Again, a reminder that this approach is purely for small caps, and majority of such trades are shorts (the same method won’t work on large cap stocks). As long as I follow the rules, I can generate good and consistent profits everyday.

Candlesticks and Chart Patterns

"Charts tell you a story"

I won’t go into basics of candlesticks, if you are not familiar with candlesticks, I suggest you do a study on this first in Google or Youtube (in which case I recommend you don’t start with daytrading so soon). Candlesticks and chart patterns are like a new language. Each candle and the subsequent candles tell a story. Its easy to learn candlesticks just like learning ABC and phonics. But to decipher what its trying to tell us is akin to studying literature. What this means is its easy to learn candlesticks, but much harder to understand and decipher what the candles are telling us. But once you can truly decipher it, it is very possible to get a good grasp of what may happen next. This is like being able to foretell the future, what the stock will do next whether it will go higher or lower. Now you can see why this is such a powerful tool. The person who succeeds in deciphering the code will be very successful in using it to your advantage to generate profit.

Before I continue, I like to emphasize that I keep my chart clean free of indicators. Contrary to what others may teach you, there is honestly no need for complicated indicators. No RSI, MACD, VWAP or Fibonacci indicators. I tend to think courses talk about complicated indicators to add an air of sophistication into the course so that students will feel like they are paying for value. After all if a strategy and setup is so simple, students who paid for courses may feel short-changed. It may surprise you to know then that its very possible to trade well without all these indicators. In fact I only have 4 lines on my chart: the high of day, the low of day, and pre-market high and previous day close. In terms of chart timeframe, I only use the 2min chart (although 1min chart is also fine, just individual preference) and make reference to daily chart.

More importantly is the fact that chart patterns always repeat themselves. You will find the uncanny similarity of how stocks seem to repeat again and again that it becomes predictable how it will move the next time to your profit. That doesn’t mean the next time a stock exhibits similar pattern, it will definitely perform the same way. But it means the probability of it doing so is higher. For example, if you know that 70% of stocks that breakout then to go higher, and if you go long whenever a stock breakout, you will know that statistics state you will win 7 times and lose 3 times, and with the right risk management (to cut loss on the 3 times you lose) you will surely be profitable. Remember, we cannot expect to win all the time, but if we always trade with an edge in our favour, we know that we will always profit overall in the long run.

Have you ever seen a stock play out on the chart, and you have totally no clue what it will do next, yet when the stock finally moves in a certain direction, you felt like you have missed such a great opportunity and regret not playing. The next time you face the same situation, even though you have no idea how it will move, you feel the urge to place a trade because of the missed opportunity previously, and so you just jump into the trade and make a loss instead. And this repeats itself making you lose confidence in your trading ability over time? Don’t fret, because there is a simple way to build up your ability to read the charts.

The simplest way to familiarize with chart patterns is to keep a journal. Watch the charts daily at the same time and save the screenshot of the charts that you traded in into an Excel spreadsheet. I cannot emphasize this more. Saving the screenshots of chart patterns you encountered is so important. And it must be your own trade, not something you took from another person or watched on YouTube. For example, when you are in school, is it possible to simply listen to the teacher and not take down any notes and yet ace the exams? I don’t think so, unless you are a genius (then you probably won’t even need to be reading this article). Most of us will need to refer to notes and revise a few times at least to finally understand the subject. Similarly, you will understand it better by doing up your own notes, as compared to photocopying the notes from your friend. By doing up your own notes, you force yourself to understand what you are writing in your notes and it will be ingrained in your memory.

The way to familiarize chart patterns is no different. There is no secret to it, its so simple in fact. All you need is the dedication to take down your own notes and diligently save your own screenshots of the stocks you traded every day. When you are trading live and the trade is playing it out in real time, this is like being in an exam. Time is of the essence, you may not have time to refer to your notes, thus the more familiar you are, the better your edge and stronger your conviction to ride the profits. Even if you are wrong and you made a loss on the trade, you can always compare back to your screenshots of similar charts you saved previously, and chances are you will spot some differences which may explain why you lost money this round. All these are experiences that you build and bit by bit, you will be able to recognize similar patterns. Once you start to recognize these, you will find that emotions that previously give you conflicting fears will now affect you lesser as you have the data to back up your play that what you are currently trading is correct.

It is important to not just save charts, but to categories them. A lot depends on your nature of strategy, but below are some suggestions to work on:-

News catalyst
Time of day: Pre-market, Market hours, After Hours
Breakout of the highs or lows
Volume
Float

There is no shortcut to trading. Those who truly put in hard work and effort will surely be rewarded. I have compiled thousands of chart patterns and I’m still adding to these everyday, and I am still discovering new potential setup from time to time as I make effort to study these, some of which may only occur few times each month.

Risk vs Reward

“Focus not on the profits, but on trading well, and the profits will come”

Everyone is attracted to trading by the lure of profits. Especially after hearing friends or watching videos on Youtube of people making a windfall from trading. However, nobody starts trading thinking about risk. That’s very normal. Risk management cannot be taught. It needs to be experienced. It takes a couple of huge losses before anyone will start to reflect on risk.

There is a very common risk-reward ratio of 1:2 that is preached by many gurus, that is for every $1 I’m risking, I must make sure my profit target is $2. While this may work for some, it doesn’t work for my daytrading. Here’s why. If the win rate of my strategy is 50%, a risk-reward of 1:2 will make sense, because over 100 trades, I know I will win 50% of the time (making $200) and lose 50% of the time (losing $100), for a net gain of $100. However if my win rate is only 20%, then a risk-reward of 1:2 don’t make sense anymore, as 20% of my wins earn me $40, but I’m losing $80 on the 80% of my trades that I lose. Thus in order to determine what is your risk-reward ratio, you first need to understand what is your win rate, and you can only know this by doing up your journal as I mentioned in the earlier segment. If a win rate is only 20% but the risk-reward is 1:10, that’s very good. Similarly, if my win rate is 80%, then I can accept risk-reward of 1:1 or even 1:½! So it doesn’t mean that you always need to adopt such a ratio. In fact I don’t really pay heed to such risk-reward ratio.

Rather than relying on a ratio, I prefer to adopt 2 ways to manage my risk and losses. First is by the reading of price action on a chart. Assuming I have entered a short entry at $4, and the stock shoots up to $5, so I’m at unrealized loss now. I need to try to read the chart, if its going to be more bullish and potentially go to $6, $7 or more, in which case I should cut loss immediately, or is it a case whereby I simply entered too soon, but buyer’s fatigue set up in at $5 and I can see signs of bearishness setting in, in which case I will be anticipating the stock to drop so I should hold on. Having a good read of the chart is much more important than setting a flat stop loss amount, because there are many other factors at play. Did I short too soon? Did I size in too much? The last thing I want is to cut loss on a short at the highs, only to see the stock plunge back down which means it would have worked out so well but I have already taken the loss. This has happened to me many times and the pain of seeing a realized loss turn into gains is so much more than the actual loss itself. Don’t let this happen to you.

And this leads me to my second point. There are other ways to mitigate risk than simply a risk-reward method. The first is always did I enter too soon for a short? Often this is a result of fomo, fear of missing out on profits. When shorting, its important to ensure there is sufficient “meat” for the stock to pullback, so don’t short too soon. When longing, if it has already surge up a lot and you are late to the party, then take a pause and assess the chart if it still has legs to go higher, never fomo into a trade, because the higher the price you bought into, the bigger the risk of loss if it pullback! There will always be the next opportunity. Other than timing of entry, the other aspect you can control is if the setup is still not certain but you don’t want to miss it, no harm putting in a smaller size trade to see how it plays out. At least if you are wrong, you can cut for small loss, and it also gives you buffer to average in later at a favourable price.

So in short, I never have a standard stop loss amount, a lot depends on the circumstances of the trade playing out. If I got myself into a situation of staring at huge losses, its always because I entered at a wrong time due to fomo, I didn’t allow sufficient meat to build up. Or I size in too much too soon and left myself with little buffer to average in later on. And if the setup is no longer looking the way you expect it to move, don’t be stubborn for too long, that is when you really need to bite the bullet and cut whatever loss it is. Don’t blow up your account is of paramount importance. As long as you still have capital, you can always earn it back. I have blown up my capital countless times and I have always made it back, gaining more knowledge in the process. On a final note, if you choose to short small cap stocks, be very mindful that there is a real possibility that your account will blow up in a short squeeze, and you may lose all your capital in your account plus even go into negative balance (especially due to trading halts). Be sure you are very much aware of the risk if you chose to short small caps, and only trade with money you can afford to lose!

Concluding Thoughts

You will realise by now, daytrading is not easy. Most people fail and most people quit within one year of trying. Even I didn’t start to see consistent profits until after 2 years. But follow the right steps and habits, never stop trying, do your homework and keep studying the charts. Just like once you learnt swimming or driving, its impossible to forget how to drive or swim again. Similarly for trading, once you learnt how to trade correctly, nothing is going to take this knowledge away from you and you can generate consistent profits year after year.

Today, if you want to increase your income from your day job, maybe you have to work more hours or take on another part-time gig. Or perhaps you have to fight for promotion in your job which means more stress or work travels. The beauty of trading is once you truly learnt how to trade and profit consistently, from earning $100/day, you can scale up your size to start earning $1k/day, $5k/day and even more. This means you can earn more from the same time spent, and in fact you can give yourself more offdays and more time in between days to do the things that you really enjoy.

Daytrading gives you more money and more time to the people who really strive for it. I hope reading this has truly inspired you to at least consider doing this as a sideline for 1-2 hours daily. While the contents written here are largely for the masses, as you go through this journey, the obstacles faced by each person will be different and may not be covered here. If you like to talk about it, or if you have any questions or comment, feel free to reach out to me in the Contact section. I will be happy to share my thoughts and experiences with you.