I’m in the market for a new winter coat. Nothing fancy – the sort of thing you can walk the dog in, that’ll keep me dry-ish, but won’t get me mistaken for the local scarecrow.
While trawling through online sales, Mrs Maven reckoned she’d found just the thing…
“But that’s less than 10% off.” I complained. It wasn’t the price that bothered (that seemed pretty reasonable). It was the fact that I wasn’t getting enough of a discount.
I wanted more potential up-side in my coat purchase. Not because I’m planning to re-sell it, but I wanted to feel that I was getting something more (hopefully better quality) for my money.
“I’ll wait until it’s more discounted.”
Mrs Maven rolled her eyes.
It looks like I’ll be wearing my tatty old anorak for a bit longer.
While I’ll fully admit that my coat-buying methods are dubious, I do think that this approach is valid when it comes to buying (or selling) into the markets.
In this case we WILL be wanting to offload our positions at a better price, so it’s important to consider what kind of upside any trade has.
This means ideally buying at the very lowest price we can get in at… or selling at the highest price we can achieve.
And to understand the potential upside of our positions, it’s a good idea to look at our charts in terms of supply and demand.
What drives prices?
Prices in any market – be it coats or Forex – will turn where demand and supply are out of balance. A successful trader can identify an imbalance – and this means recognising where the big institutions will be buying and selling, rather than just the little guys (and certainly not the novices).
It’s always worth considering who’s going to be on the flip-side of your trade. If you’re buying – someone is selling. And, likewise, if you’re selling, someone else is buying. We want to take trades alongside the pros, where a novice is on the other side.
Now, I want to show you a common novice mistake, which involves what looks like a great set-up but fails to take into account the effect this has had on potential upside.
Breakout trade set-up
Take a look at this set-up for a breakout to the downside…
The price breaks through support at point A. Those lovely big red candles show that it’s falling with considerably moment – this looks like a great opportunity…
However, if we’re taking our signal at A, realistically, we won’t be into this trade until somewhere around the little red arrow.
That’s a substantial part of our move already used up – and a substantial part of our trade’s upside already lost to the markets.
This is where the novice trader will jump in. Sure, there is some money still to be made here, but this has become a high-risk, low-reward trade.
We can do a lot better than this.
We do this by taking in the knowledge we’ve gained about the supply and demand balance at this breakout point…
Now we wait for our moment…
Sure enough, the market comes back to the line at B – now we can sell at a better price – bang on the supply/demand tipping point. This means we have a better upside, and lower risk.
‘But what if the price doesn’t retrace back to this level?’ I hear you ask…
Well, this gets to the sticking point that stops many traders from moving forward – a fear of missing out on trades.
But most of us are guilty of over-trading – it isn’t the number of trades we make, it’s the quality of those trades.
Fewer, better trades…
(I think I might make that my mantra for 2014!)