From my trading life

I want to share some episodes from my time as a financial advisor, to supplement what I have written in this course and to show you something real after so much theory.

Episode 1: STMicroelectronics (2008)

It was 2008, a dark period for the stock markets. I told my clients to sell STMicroelectronics, a stock listed not only on Wall Street but also on Euronext (Paris) and on the Milan stock exchange. Behind this advice there was, of course, a whole series of considerations that had triggered the sell signal. The entry price was €8.30, the stop-loss would have been triggered by a daily close above €8.60, and the target price was €7.50.

Immediately after we opened the trade, STM fell. After a short time, once it had touched 8.21, the price reversed and began a sideways phase in the 8.40/45 area, lasting roughly three hours. Around this time, one of my clients contacted me to ask: “Should we close STM?” I answered that, since neither the target nor the stop had been reached, and since the initial conditions had not changed, there was no reason to close the trade.

The fact is that, after a handful of minutes, the client wrote back to say that he did not trust the stock and had closed the trade at 8.42. In his eyes, the stock would keep rising and would end up at a much higher level, with a far more significant loss. The moral of this story is that, in little more than one more hour of trading, STM went back down, closing at 8.36, the same level as the opening price. Three days later, the stock reached its target price.

You are probably thinking: “With hindsight, everything is easier… but what if STM had continued to rise?” In that case, the stop-loss would have been triggered, and that would have been that. Losses are part of trading. The most important lesson of this episode is that staying anchored to our plan is crucial. We open a trade because certain considerations give us the signal to do so.

What you have just read is a classic example of why we should always trade (and manage our positions) based on what we see, not on what we think. I am not fond of automated trading systems, not because they are not valid ways of earning money in the financial markets, but because I think the human mind is, in some respects, better than a machine.

Trading systems, however, have the virtue of never being influenced by emotions or opinions: they execute the operations as planned, without any hesitation. In the case above, a computer would not have asked itself whether to close the trade early. It would have followed its “algorithm” until the end. This is how a trader’s mind has to work as well.

Episode 2: EUR/JPY (2008)

The next episode also happened in 2008 and concerns Forex, more specifically the currency pair EUR/JPY.

A client wrote to ask my opinion about a short position on EUR/JPY. The entry level of the strategy was 144.700, a few pips below the low of the previous day. I endorsed the trade because I really liked the idea of investing in the Japanese yen, a safe-haven currency (together with the Swiss franc) at a difficult time for the financial markets, when world stock markets were also in trouble.

When he asked where to place the stop-loss, I indicated a level about 2% away from the entry (147.700). If the currency pair reached it, it would probably have gone on to a higher price. (Back then, stop hunting was not as extreme as it is now.)

After a few hours, my client wrote to say that the price had hit the stop-loss. I was surprised. At first, I thought that an anomaly had occurred on my platform, because it showed a daily high that was far from the stop I had indicated.

I asked my client for an explanation. He replied that he had not placed the stop-loss where I had indicated, because a loss at that level would have completely wiped out his trading account.

When I say that you have to establish everything before opening a position, I mean absolutely every aspect, starting from the maximum loss you are willing to accept and, as a consequence, the position size you are going to open, based on the stop-loss. This is the only way to trade properly and to survive losses.

It is also important because it keeps you from throwing away good gains. If my client had not been so greedy and had opened a position of the right size, he would not have closed his trade with a loss, but with a strong gain. EUR/JPY collapsed from the entry level the following week, by more than 8% (low at 132.240). The pair never came near the stop-loss level I had indicated.

A stop-loss that is too close to the entry is flawed because, in most cases, it will be hit. Obviously, this always depends on your trading strategy, but if the loss is substantial for your trading account (as it was for my client), then something in your trading is not working properly (you now know this, having reached the end of this course).

Episode 3: Mediolanum (2011)

The next episode dates back to 2011, my last year as a financial advisor. A client wrote to me: “David, you are wrong about Mediolanum (an Italian bank). You should not open a short position, you should buy shares. The CEO has just been interviewed and, as he explained, the price will rise to €5.00 in the next few weeks (the share price was just under €4.00). I have bought 5,000 shares, and if you are cunning, you will do the same.”

I have never been cunning, but fortunately I am pretty wise. I continued to follow my analysis and sold Mediolanum, confirming my advice to my clients that they should keep selling, with a target of €3.40 and later €3.00 and €2.60. The stop-loss was €4.20.

To keep it short, after a few days of sideways movement in the €3.90/4.10 area, Mediolanum collapsed, reaching all three target prices and even touching a low of €2.00. I never heard from that client again.

Think with your own head

Those who speak or write often do so to gain an advantage. Back in 1929, in October, Irving Fisher, an economist at Yale, said that stock prices had reached “what looks like a permanently high plateau.” A few weeks later, the market crashed. In more recent times, in January 2015, Goldman Sachs forecast that EUR/USD would reach parity by the end of 2016, which meant a much weaker euro. Did any of you follow forecasts like these? Personally, when I read that one, I did the opposite: I decided that the time had come to convert my trading account from US dollars to euros. By the end of 2016, EUR/USD was nowhere near parity.

Read all the newspapers and web pages you want, watch and listen to all the broadcasts you like, but in the end always think with your own head, not with those of others. Always follow your analysis and your plan. And then, if you allow me a small joke: if you really wish to close a trade at a loss, you do not need the advice of the experts on TV, you can manage it very well on your own.

The trading journal

These examples also show another important aspect: keeping a journal. I have always kept one, and it has been beneficial to me. Retracing your steps and analysing your mistakes will help you grow and become a better trader.

The stop-loss: a closing anecdote

I close with an anecdote. Several years ago, there was a trader on Wall Street who, with a can of Coca-Cola, had built a kind of radio. He said that through it he communicated with some unspecified inhabitants of space, who told him which shares to buy. When a trade went badly, he blamed interference, caused by waves in space that led him to misunderstand the indications.

You might not believe it, but this person was able to earn money every month. How? He always used the stop-loss. The stop-loss is a parachute that always makes you land on your feet, a life preserver that keeps you from sinking to the bottom.

I see the stop-loss as car insurance: it is necessary to avoid bigger trouble. I do not think anyone is happy to pay for car insurance. However, when a crash occurs, everybody blesses the policy they took out. The same is true of the stop-loss. When it is hit, everyone curses the markets as manipulators. But when they see what their loss could have been without it, they are glad they put that insurance policy, the “stop-loss”, on the platform.

This anecdote shows that, more than a good strategy, in trading it is fundamental to have discipline and respect for the rules. You have to take care of every small aspect, always following through on what you planned, without exception.

A final word

There is no secret to becoming a successful trader: it is all down to hard work and discipline. Put what you have read into practice, and track your improvements, both in terms of results and in the quality of your life.

I would like to point out that, since 2011, I no longer work as a financial advisor, and I no longer teach courses either. Please do not ask me for them. I am not rich, but I do not need money either: what I earn from trading is more than enough. I prefer to live a life I love, with the people I love, which is part of my life plan.