Edward Arthur Seykota is a commodities trader who pioneered Systems trading by using early punched card computers to test ideas on trading the markets. He famously said:
” Systems don’t need to be changed. The trick is for a trader to develop a system with which he is compatible.”
Below are the points he has stressed on to make consistent profits.
1: Do not stress about whipsaws – one good trend pays for them all.
A whipsaw is when you enter a stock, but get stopped out quickly. In a period of whipsaws, this may happen many times. This can be frustrating to a trader or investor, and it may cause them to change their system. But the fact is that one good trend will pay for all of these whipsaws, and if you change your system you lose the benefit of that!
2: When you Catch a Trend, ride it to the end.
Your system must be able to jump on a trending stock (for instance, up if you are going long), but then also be able to ride that trend to the end. Many novice traders will jump out of stocks before they are finished trending because they are scared the market has gone too far. Let your system tell you when the trend is ending, and only exit once it does.
3: When you show a loss, give the loss a toss.
Every single successful money manager ever interviewed has said something along the lines of: “Cut your losses short”. Get rid of your losses. Keep your winners. And once you have your system don’t second guess it! Being stopped out is part of the process.
4: We know if our risk is right when we make a lot of money, but can still sleep at night.
Risk is the amount of risk per trade (the price between your entry and your stop loss), and how much your total risk is (regarding how many positions you have open at one time).
Both of these should be in your trading plan (I use 1 – 2% per trade, and up to 15 open positions, but everyone will be different). Basically the idea is that it is not so little that you don’t make any money, but not so large that you can’t sleep at night.
5: When price breaks through, or there is a shock news announcement – DO NOTHING. Your stops are already set.
Stop losses: If you aren’t setting them, get out of the game until you learn to set them with your buy order. They can be either metal stops (where you know you will get out) or stops set with your broker. They are the most important rule in trading bar none.
Once you are setting stop losses – stick to them! Don’t let the news, your broker, a friend, an analyst, or a newsletter scare your out of a trade when your rules say otherwise.
6: When you get a drawdown (or series of losses), stick to your plan and pull the trigger on your entry signals.
A drawdown will happen to you at some point in your life if you trade for any decent length of time. This is where you might encounter a long string of losses or a losing period. If you are averaging 60% wins in your trading, you can still mathematically expect to have a series of 12 losses in one period of your career.
What Ed is saying here is: Don’t change your plan just because you are having a drawdown. If you have tested your system and it works, stick to it and keep pulling the trigger according to your rules. Otherwise you will miss that one good trend that pays for all or most of the drawdown (There is one caveat here – sometimes your trading plan does need to be modified as market conditions have changed. Obviously it should be tested thoroughly if you do).
A Final Word
So there you have it – stick to these rules when devising your system for trading and you will be well on your way to success. It may seem simple, but all the best trading systems are. And remember – money is nothing if you aren’t happy, so find or create a system that works for you!
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