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Trading Primer: The Great Performance Race of 2012

The Scene
Its the first trading day of the year and you roll out of bed more than a little groggy and wipe your eyes.  You search blindly for your glasses while knocking everything off your nightstand in an effort to grab your Iphone/Remote/Laptop to check the futures.  You are stunned to see the DOW Futures up +180, and turning up the volume on CNBC you're informed with unmasked glee that the next mega bull market has begun.

An utter feeling of dread begins in your stomach as your discipline from 2011 dictated you didn't hold directional exposure over the Holiday's.

You say a few choice words as your pulse quickens and you leap out of bed.  The  TV volume's turned up real loud now as you half brush your teeth trying to find out if there is global market moving news event or if something else is going on.  The commentators are calling it the January effect, the media guests are predicting a 1,000 point move before the "Sell in May and go away" event and the retailers are saying Santa was just "late" this year. The bears have been put into instant hibernation, and the US Premarket hasen't even begun.

No time for breakfast, you hit the door running, mind racing on what you should do.  The only thing you know for sure is that it's 2012, the Great Performance Race has just begun, and you're already behind the 8 ball.

The Trade
You throw your coat in the general direction of a chair, fire up your trading platform and buy every high beta stock that you can in the premarket. You take chunks of GOOG, AAPL, PCLN, ISRG, AMZN & NFLX with a long kicker of /ES (E-Mini S&P futures) for good measure.  Now sufficiently long the market, you finally take a breath, lean back in the chair and breathe.  You grab a cup of coffee and let out a sigh of relief.  It's ok, you're not going to miss out on the upside.  No harm, no foul - the market is still your mistress.

As always your heart races with the opening bell.  The pleasure is immeasurable as you watch your YTD P&L surge into the green on the very first day.  You're kicked back, already dreaming about having your best year ever.  It feels so good you never want to forget this day.  You take a little snippet of your chart and hang it on your trading wall. It will come in handy for bragging rights when you nailed the first move of the year from the beginning.

After the first hour you're still feeling good.  The commentators are still calling for new highs and you're feeling pretty confident as you've been taught to be long or buy the market that has not made a new low in the first hour.

Rules are you push the auto buy button +100 again and again.  You know it's irrational exuberance but who cares?  The market is going up, you are long it and all is good.  About time the market finally figured out who da man really was.  Three hours without breakfast and you are starving so you run down to the corner store to grab a snack....

The Outcome

The Postmortem
Where did this trade go wrong?  Why did this trader lose money on this huge trading day?

This trader forced his trades.  He traded when there was no real reason to trade.  He traded on gut feel without a clear cut signal of confirmation that the gap up would hold.  He traded without a defined stop and without a defined profit target.  He wound up being the gunslinger shot in the foot by his own gun.

Different people have different views of what constitutes a forced trade.  I know I am forcing a trade if it is not at my preferred entry point and it is making me crazy to sit and watch it. 

I know it is a forced trade if I let the price get away from me but I still buy it.

I know it is a forced trade if I feel the need to trade something, anything, on a big up day when I'm not as invested as I'd like to be but can't find anything that fits my normal criteria.

I know it is a forced trade if I consider adding to a losing position to be "less wrong".

I know it is a forced trade if I talk myself into a position just because I don't want to feel like I missed the move - which coincidentally almost always marks the top.

The Fix
The way I've overcome this scenario is to simply take a very, very small position on big gap open days. If price then pulls back or better yet hits my preferred entry, I analyze the chart and if it still looks good I add.  If it continues to run up without letting me in, I look to put very tight stops on 3/4 of my position at resistance.  With a retrace I would re-load the position again.  With a sustained uptrend/ breakout at former resistance I would add, and trade using the new average cost as my basis with hard stops right under the former resistance for the entire size of the "add" and a trailing stop on the original position.

Options/Futures/Stocks - they all trade the same.  If you always buy and sell in stages you don't feel as if you have missed the entire move, AND you won't feel like you are taking a big risk and chasing price if you are wrong.