10 Common Misconceptions about Trend Trading - dummies

10 Common Misconceptions about Trend Trading

By Barry Burns

One of the primary reasons traders fail is that their minds are filled with misconceptions about the reality of trading. Those misconceptions make trading seem easier than it is. Ten of those misconceptions are dispelled here.

  • If you back test successfully, it will work in the future.

    One of the popular approaches to creating a trading system is to begin with a certain idea, translate that into a charting concept that’s mathematically measurable, and then back test it.

    Back testing is usually done with a computer program designed for that purpose. You enter the parameters of your rules into the program and choose a period of time to apply those rules to the charts. The program automatically applies those rules and provides you with a report that shows how much money that system would have made or lost during that period.

    A more respected approach is to take a system, after it’s successful in back testing, and conduct out-of-sample testing — that is, taking a trading system that traded profitably on the chosen historical data and then choosing a completely different time period of historical data and running the system on it.

    The idea is that if it worked on both historical time periods, it’s probably not just curve-fitting and is robust enough to be successful in the future. The Securities and Exchange Commission (SEC) requires funds to tell investors that “a fund’s past performance does not necessarily predict future results.”

  • The market is out to get you.

    Some traders feel that someone in authority with big money must be taking the other side of their trade intentionally, singling them out to turn almost all their trades into losers. The trader is simply doing everything wrong. Trading is unnatural, and therefore people are constantly doing the wrong thing by their very nature.

    People are generally contrarian. So when the market is moving up, trader after trader shorts the market, always trading against the trend (but you know better than that, right?).

  • Trading is easy — just follow the trend.

    Being successful at trading isn’t as simple as following the direction (trend) of the market. The trend of the market is indeed critical.

    Determining the trend of the market at any given moment is easy. Will the market continue to move in the direction of the trend after you buy in?

    To evaluate that, you also need to know the momentum of the market (how strong the trend is), how early you’re getting into the trend (has everyone already bought in, or are there still a lot of market participants with their money on the sidelines who could join the trend?), whether it’s the right time to enter (cycles), whether you’re bouncing off a support level, and what the energy of momentum is on the higher scale.

    Beyond all of that, trading still isn’t easy even if you have a successful trading methodology, because the hardest part of trading is your self-discipline.

  • The professionals know a secret that you don’t have access to.

    The trading world definitely holds a lot of secrets. High-frequency traders aren’t going to give up their edge, and those who have successful computer trading models aren’t likely to give them to you. However, there’s no key secret that isn’t accessible to you that keeps you from being profitable.

    The biggest “secret” of successful trading is that it’s more about self-management than managing the market. That’s not a secret in the sense that the knowledge isn’t available. It’s a secret only in the sense that most people refuse to believe it.

  • You’d be successful if you just had that one special indicator.

    It’s often said that trading doesn’t have a “Holy Grail.” Trading is about developing a trading methodology that has enough variables that, when combined, provide a high-probability scenario that favors your profitability over a large sample of data.

    No one single thing will make you money, especially not an indicator. Indicators do what they promise: They indicate. They can’t tell the future. They’re derivatives of price, volume, and/or other factors they measure, all put together in a mathematical format. That’s it. There’s nothing magical about them.

  • Commission prices aren’t important.

    Like any business, trading has expenses. The more you can lower your expenses, the more net profit you can make. Some things are worth spending money on because they make you money. If you’re a day trader, for example, you want a fast computer and a fast Internet connection. Those are expenses that will make you money.

    Full-service brokers generally charge more for commissions. If you want a full-service broker for the extra services they provide, then you may want to go that way.

  • It’s best to follow the advice of the professionals.

    The only professionals that tend to be helpful are the ones you pay to provide private mentoring. They will provide you with something of value, even if you don’t end up using their methodology.

  • You have a gut feeling for where the market is headed.

    You don’t have a special intuitive connection with the market. No one does. At times, you may make money for a while and start to believe you’re special. That’s not an unusual experience, but it’s inevitably followed by a series of staggering losses.

  • You’ll be successful if you trade exactly like your mentor.

    Just because some people are successful traders doesn’t mean that you’ll be successful if you follow their method. The first issue is that you may not have the same type of psychological disposition they do regarding discipline, keeping a cool head, and not getting overly emotional. The other issue is that their methodology may not suit your personality.

  • You’d be profitable if you could find a trading method that worked.

    Many people have successful trading methods, and they don’t even know it. It may be because the method doesn’t fit their personality. It may be because they’re undisciplined and unfocused. It may be because they make too many mistakes, and they don’t bother to record them on their trade log and correct them.