Trading Rule #3 - Entering the Trade

Most new traders assume that the key to a successful trading strategy is knowing when to buy a specific stock.  In reality, entries are not that important.  Money management/positioning sizing, exits, and consistently executing your trading strategy are all more important to your trading success than how you enter the trade. A famous trend following trader, Tom Basso, conducted a study where he developed a trading strategy that randomly picked stocks through a coin flip.  He found that if you used proper money management/position sizing techniques, took all the signals generated by the system, and exited once the trend ends, this random entry system was profitable.  

Although the entry is not the most important part of your trading strategy, you must have a clear trigger that allows you to enter the trade without second guessing the decision.  If you are using a breakout system, the trigger could be close above the breakout level on a higher than average volume.  If you are trading a breakout retracement strategy, the trigger might be two up days after a six-day retracement. Each day you would review your watchlist of stock charts to see if any stocks met these criteria; and if they did, you would place a buy stop order at or above the high of the close with presumption that the trend would continue on the next trading day. Your buy stop would be hit, and you would be in the trade. You should enter all your trades using end-of-day limit orders.  There should be no trading intraday.  Since you have backtested your strategy, you should not question the signal once it is generated; you must take the trade.  Just remember that each individual trade is insignificant, and a losing trade brings you closer to the next winning trade.  Each trade is just the first trade of the next thousand trades of your trading career. 

In the next lesson we will develop Trading Rule #4 - Stop Loss Exit.

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