Profit From Prices

A book on stock market trading
By Jayesh Patel, CFA

Chapter 1

Trading: Some thoughts

Be Serious about stock trading

Most individuals usually research quite well for buying things like a camera, a TV or a mattress; however the same individual hardly does enough research when he is buying stocks. Before purchasing a camera or a mattress, an individual looks at competing brands/models, compares their features, reads reviews and finally looks for the best price. In short, he seeks ‘good deal’ in most of his purchases- a great item at the best possible price. However, stock purchases by most individuals are done without enough research. This is evident from the fact that most individuals purchase stocks at either the wrong price or at the wrong time. Quite often stock purchases are done emotionally without putting much effort to determine if they constitute a good deal. Sometimes thousand of dollars are committed to a stock position based just on a few minutes talk with a friend or based on a few lines in some article. Behind every stock purchase, one needs to determine: if it is a good deal- a good purchase at a good price; if the purchase is compatible with what he is looking for; if it meets his objectives; and if it is prudent with respect to his financial position, circumstances and liquidity needs.

Trading is a Business

Personally, I treat trading as if it is a business. Trading and any other business are both done for profit and they both require capital. Success in both of them depends on ability to sell at a price higher than what it is paid for. Business and trading both benefit from skills and experience and are affected by various external factors over which one has no or little control. One can fail in a business and similarly one can fail in trading too. Before starting any business, it helps to have a business plan outlining the initial and working capital required, strategies, contingencies and profit projections. In the same manner it is essential that a person have a trading plan before he enters trading. An ideal trading plan should include how much capital is spared for trading, what return/profit expectations are, what trade selection strategy would be used and how much trading volume would be required to attain trading goals. Once a person is in trading, like as for any other real business, he constantly needs to monitor his trading activities in the context of his trading plan and needs to make necessary changes in his trading behavior as well as in his trading plan. For a trader, it should be a constant endeavor to learn from his mistakes and from others’ experiences. (See the next chapter for more details.)

   

The Goal is to Make Money

The ultimate goal of trading should be to make money. Period. Individuals who are rational most of the time in their lives often make many irrational decisions in trading. Losing money in trading is not the only issue. Fooling oneself, knowingly or unknowingly, is a bigger issue. Most individuals prefer to look at/study their profit in profitable positions than to confront the losses in the losing positions. They keep talking to their friends about their best picks and hardly ever even mention their wrong picks. Instead of focusing on the overall portfolio return, they keep looking at individual profitable positions. They pay more attention to winners than to losers in the portfolio, and this makes them feel that they are doing better than what the reality is! Sometimes some people don’t seem to be in the game to make money, but to fulfill other needs- psychological needs and gambling needs. It is a sad truth that most people enjoy boasting about their winners so as to feel good and impress people! Sometimes some trades are done just for the excitement and for proving oneself to be smart! This is all nonsense. If a person is in trading, his goals must be just one- to make money along with keeping risk under control.

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