Posts Tagged ‘trading’

Trading from the news

Wednesday, July 22nd, 2009

Making trading decisions based on live news is a popular way of trading. It is also one of the most difficult trading methods.

As a beginner trying to trade on live news will in most cases lose you money. There several factors why it is hard to win from breaking news:

1. Professional traders will have already placed their trades and moved the market as much as can be expected before you even finish reading or hearing the story.

2. It is hard to predict which way the market will move from news. Good news does not necessarily equal up and bad news does not necessarily equal down. A lot of price reaction to news is based on how the news compares to the expectation. In other words traders will have already ‘priced in’ the expected news before it is even released.

3. Around times of expected news (results updates, financial reports, etc) the market can become so volatile that you are very likely to lose by getting stopped out rather than winning anything.

If you want to be able to trade from the news you will need plenty of practice and a very good knowledge of how news affects prices.

Live news feeds can easily be obtained for free by opening a live or even a demo account from most brokers. Watch the news and how prices are affected. If you think you can correctly predict the price movements then you may be able to give news trading a go. If not then you should perhaps look to trade using a different method such as company fundamentals or technical analysis.

How much money could I lose trading CFDs?

Friday, July 17th, 2009

Before placing any contracts for difference (CFD) trades you should ask yourself the question of “How much money could I lose?”. If you are to trade responsibly you should always be focusing on what you could lose, not what you could win. If you are focusing on how much you could win then you are either at high risk of losing a lot of money, or you could even be a gambler rather than a trader.

There are several different ways of looking at how much money you could lose.

Lose as much as you put in

A small number of CFD providers will cap your losses at the amount of money you have in your account (or offer a lower risk account which guarantees this). If you have an account with a company who does this then your worst case loss is obviously whatever money you put into your account.

Even if your CFD provider doesn’t cap your losses then you may be able to fix your maximum risk by using a guaranteed stop. Unfortunately there is usually an extra charge for these, often in the form of a larger spread.

Lose your entire position size – going long

Most CFD account providers have agreements that say you must cover all your loses – which can be larger than your account balance. They will usually close out your trade before your account balance hits ‘0’ but in a very fast moving market you might be closed out with a negative balance.

If you are betting long then your theoretical maximum loss will be your total position size. If you bought £10,000 of Vodaphone shares using CFDs then you may have only needed to put down a £100 deposit (if we assume a 1% deposit requirement) but your loses could far exceed that £100. Your maximum loss would occur in a situation where the share price went down to 0. If you’d used CFDs to buy £10,000 of shares and the price suddenly plummeted to 0 then you could owe £10,000 if your trade wasn’t automatically closed out.

Could this happen in real life? Certainly share prices can go down to 0 – recent cases of large companies collapsing include Enron and Lehman Brothers.

If you were going long on indicies, such as the FTSE 100 then your theoretical loss would be the loss that would be incurred if the index went down to 0. As I write this the FTSE100 is at 4365. If I bought at £1 a point then my theoretical risk is £4365.

Unlike shares which can go down to 0 a share index is very unlikely to. It the FTSE 100 ever dropped to 0 then that would probably mean that the UK had been nuked to oblivion. In which case you may well be dead and your CFD broker wouldn’t exist either! Very unlikely but it is always worth bearing in mind just how much money you are playing with.

Could the value collapse so fast that you would end up owing far more than your account balance? You can end up owing your CFD provider more than you balance if you have a very large and highly leveraged position, and things move fast. In this case it may simply not be possible to liquidate your position fast enough to prevent your loses.

Losing a fortune – going short

The amount you can lose is often defined in terms of prices going down. Of course with CFDs we can bet on prices going up and down. How much could you lose by going short?

In theory you could lose an infinite amount of money!

I’m not saying it is likely – just theoretically possible. Lets imagine that you think UselessPowerPLC is going down. It is at 5p per share and you think it will fall further. You sell £10,000 worth – this is 200,000 shares. It is a small share and you need a 10% deposit. In other words you have to put down a £1000 deposit. They make an unexpected announcement – they have perfected fusion power, using patented technology, and can now produce almost unlimited amounts of power extremely cheaply. The company will make billions! The share price rockets to £20 and moves so fast that your CFD provider can’t close your position out in time. Suddenly you owe your CFD provider £3,990,000 (200,000 * (£20 – £0.05)). Yes – nearly £4 million. Crikey. Stretching the bounds of believability perhaps, but it makes a point about how risky the CFD game could be. Especially if you make stupid bets!

Is any of this really likely to affect me?

How fast could prices move? Very fast. Look at the stock market crash page on Wikipedia. How would your account have coped during one of those days?

My doom-munging scenarios wouldn’t normally happen of course. You CFD provider knows that trying to claw back debts from customers is much harder, and more expensive than simply deducting the money from their account. This is why they have automated systems in place to try to automatically close your positions before you get into this predicament. If you do find yourself in this predicament then you should look at the way you are trading – it probably means you did something very stupid, i.e. holding positions that were far too large and highly leveraged.

Although the unlikely is by definition ‘unlikely’, is always worth thinking beyond your usual risk scenarios. Don’t forget that a factor of the current credit crunch was that banks rejected the sudden default of hundreds of thousands of mortgages as being such an unlikely thing to happen that it wasn’t worth taking seriously. Ooops! Fortunately the banks had the government to bail them out. If you mess up then the banks certainly won’t be bailing you out.

The simple moral – consider the usual risks, and then consider beyond the usual risks. If you are still happy then you can play the CFD game. If you aren’t happy then maybe you should put you money in the bank.

Top Trader 2009 Competition

Monday, June 29th, 2009

RBS marketindex is launching a competition to find the best CFD trader. You trade using a demo account and each week there will be prizes for whoever increases their account by the most. Registration is open from the 29th June and the competition starts on July 6th.

Prizes are £5000 cash, a Dell laptop and an iPhone 3GS 16GB.

As this is a competition the strategy you adopt for trading should be different to how you would normally trade. In the real world slow and steady is the best way to make way money from trading. This strategy won’t however win you any prizes in a competition like this!

If you want to win you will need to place high risk/high reward bets. Yes there is a good chance that you will blow your account, but as it is only a demo account it doesn’t matter. You have to make at least 20 trades in the four weeks of the competition to qualify for the prizes.

If you want to experiment with a new trading platform without risking your real money then this could be a good opportunity to do it. And unlike a standard demo account there is a very small chance that you might win something at the end.

If you enter then good luck, and let me know how you got on.

You can find the full details here.

Footnote: RBS marketindex is run by ABN Amro. This is the Dutch bank that RBS (in a consortium with a few other institutions) took over in 2007 in a deal worth 70 billion Euros. At the time RBS was lead by Fred Goodwin, and the deal is widely regarded as one of the main factors that brought RBS down.

Trader, investor, gambler – which one are you?

Monday, June 29th, 2009

If you have any sort of involvement in shares, commodities, currency, or derivatives of these, then you will probably fit into one or more of the ‘investor’, ‘gambler’ or ‘trader’ categories. What is the difference between them and where do you fit into these categorisations?

Investor

An investor is someone who buys something in the belief that the value will rise over time. Unlike gambling and trading where bets can be on movements in either direction, an investor will always be betting on the price rising. In the case of buying shares in a company the investor is helping the company out by buying part of the company and hoping to benefit from the company’s success. This is in the form of both the rise in the share price and in the receiving of dividends.

In the case of investing in commodities the investor is buying in the belief that the value will increase in the long term.

Investors will buy the product whole – so if the shares cost £4000 they will pay £4000.

Investing is therefore buying something ‘real’ (i.e. not a derivative), in the belief that in a period of many months to many years the value will rise.

Trader

A trader has a much wider scope in what they do than an investor. They buy or sell (go long or short) in order to profit from the change in value. The trader will have an opinion on the direction that the price will move and will then place a trade based on their opinion.

The trader isn’t restricted to buying or selling shares or commodities. They can also trade in derivatives of these, and in a whole host of other financial products such as foreign exchange (forex), futures and even on thing such as interest rates.

The trader can do business on multiple timeframes. They may be willing to wait many months or years, but they can also have much shorter timeframes. Even down to minutes or seconds.

Unlike the investor who buys shares, the trader isn’t trading for the benefit of the company, the trader does what he/she does purely for his/her benefit.

Whereas the investor will generally pay in full the trader can use leverage to take advantage of movements of much greater value than the trader has. E.g. for share prices a trader may well be borrowing 20 to 50 times the value of the money that is being paid upfront. For foreign currency trading the amount being borrowed can be as high as 1:100 or 1:200.

Gambler

The gambler could be adopting any kind of tactics. The gambler could be buying or selling shares, derivatives or in fact anything he/she can think of.

What sets the gambler apart is the lack of real justification for the decisions that are made. Unlike the trader and investor who should be maintaining a cool head, the gambler is likely to get a big adrenaline rush out of each bet. The gambler is also likely to find it hard to control risk, and find it hard to control how many bets are being placed. Even when confronted with mounting loses, the gambler will still continue.

Which one are you?

Which of these characters best describes you? I hope you are either an investor or a trader. Unfortunately if you are a gambler you may still believe you are one of the other two. In this case I hope you discover the truth before it is too late.

Avoid getting screwed by your CFD / Forex trading broker

Thursday, June 18th, 2009

If you read trading forums such as trade2win and babybips then every so often you’ll come across someone who is asking for advice as it appears that they have been well and truly ripped off by their broker. I’m sure most brokers are honest but here are a few things you can to avoid the risk of bad things happening to you.

When you start generating a profit make sure they’ll let you withdraw the money

There are stories of people who have spent a lot of time building up their trading account, only to find that they have a lot of trouble getting the money back out. In the worst cases there are reports of people who can’t get their broker to give them any of their own money.

You could get into problems if:

  1. You have closed the bank account which was originally registered with them. For fraud prevention purposes they may make you jump through hoops to get a new account registered. Of course you’ll never have any problems paying money to your broker from whatever means you want. Similarly you could run into problems if they pay the money to your credit / debit card and it has expired.
  2. They tell you they have problems verifying your identity and require more details. This could severely delay your cash withdrawal as you’ll have to post/fax off whatever documents they request.
  3. They simply ignore your request. Sometimes it seems that requests to withdrawer your own money isn’t a very high priority for them.
  4. Your broker tells you that you have broken a rule in their terms and conditions. Have you read yours? They could easily say that because you haven’t obeyed whatever obscure rule they are suspending / terminating your account and won’t give you any of your money back.

The lesson to learn here is that as soon as you have made some money test their account withdrawal procedure. Take some of the money out and have it paid back to you. And then regularly transfer money out – if you are good at trading you should in effect be ‘paying yourself a salary from your trading account’.

Not only does making regular money withdrawals prevent you from running into this particular problem it also prevents you from accidentally losing your account with a highly risky trade gone bad or from some other trading mistake.

Don’t let your account get too big

This is related to the above advice. If your account gets too big then you will start getting noticed by your broker. This can cause all kinds of problems for you as they may start referring your trades to the dealer or be less willing to pay your money back to you. Best to stay ‘under the radar’ and withdraw money regularly. Of course this is only a problem with you are able to win regularly enough to get a big account balance 🙂

Keeping your account small also has a few more advantages.

  1. If a trade goes badly wrong (e.g. you bet the wrong way, the price massively moved and you didn’t have a stop!) your broker is likely to automatically close the trade for you when the balance gets within their minimum liquidity limit. If you had a huge pile of cash in there then your cash would just get eaten up until it is all gone.
  2. Keeping a small account means you are less likely to be tempted to get into overly risky trades.

Don’t build up huge positions

If you keep on putting more and more money into a winning position then you may run into problems when you try to close it. I’ve heard of people being ‘referred to dealer’ at the critical moment, which of course could lose them a whole load of profit as you either have to wait for the dealer to accept the trade or call them up. In the wrong conditions this could even turn a winning trade into a losing one.

In one horror story that I read the guy claimed to have built up a position of £1000 per point! That’s an insane thing to do with a retail broker and is bound to get you noticed when most other people are betting in the single or double digit range per point. If you are able to play around with that kind of money then you should probably be getting a professional trading account.

As with the previous tip you are best off staying away from their watch lists by keeping your positions small.

Conclusions

Regularly take profits out of your account. It is much safer in your personal bank account than in your trading broker’s account. It is much harder for your high street bank to refuse to give you back your own money than it is for a broker. You certainly don’t want to be with any broker who makes a fuss / takes too long / or just generally makes it difficult for you to withdraw your trading profits.

Don’t make yourself stand out from the crowd! It is best to be one of the masses rather than getting ‘special attention’ from your broker. Withdraw your money regularly to keep your account at a reasonable level and keep the size of your trades within the standard range that the broker would expect.

My first trading mistakes

Monday, June 15th, 2009

I first opened a CFD trading account about three months ago. In that time I’ve already made quite a few mistakes but hopefully I’ve learnt from them. Here are some of them.

Not checking the spread before entering a trade

If for example the index is moving in a range of say 10-20 points and you want to do a short term bet then opening a trade with a spread of 10 is going to make it almost impossible for you to come out with a profit.

Similarly if the index is trending then a large spread will still make it much harder for you to make a profit – any profit will be smaller because of the spread and any loss will be magnified.

Lesson: Make sure the spread is appropriate for the type of trade you are going into before you enter.

Forgetting about pending orders

Having pending orders which you have forgotten about can be very expensive as trades can then be opened without you even being aware of it. You could get lucky and it could go your way but more likely you’ll lose.

Lesson: If your platform supports it have the pending order blotter on screen at all times. Check for any pending orders before you leave your screen and before you close the trading platform down.

Not fully understanding your trading platform

I’ve had one situation that worried me. I somehow got into a trade that I wasn’t expecting (see forgetting about pending orders above), and I couldn’t work out how to close it down. It was a Forex trade and as the trading ticket wasn’t on screen I couldn’t work out whether I needed to buy or sell! It took me a few minutes to figure it out. No major loss was made and it could have been a lot worse.

Lesson: Read the manual before you start!

Not setting the default trading sizes correctly

For a particular stock the default trade size was 10,000. I wanted to trade much smaller so I set the market buy/sell size to 100. However I forgot to change the default trade size for the stop order as well. I entered the trade by selling 100 shares. I set a stop – which I didn’t properly check! The stop was hit and it bought 10,000 shares! Ooops!

Closed it quickly and of course it turned a small profit into a much larger loss.

Lesson: Make sure that you exit a trade and set your stops correctly! Especially if you will be away from your trading screen for any length of time. And check your stops when you have created them to make sure they are correct.