I am Samin and I made this site to document my stock trading and investing journey.
Before diving into any field, I like to educate myself at least to a point where I feel confident that my method will produce results.
I had the option to learn to trade stocks from books, blogs, and Youtube videos. However, since I like to take it at my pace and keep my study organized, books were the best choice for me.
What type of investor are you?
An investor is anyone who invests the money he has, hoping for a profit. A stock trader is also an investor because he invests his money in stocks hoping for a positive return. Thus, I use the term “investing” even though I am technically a stock trader.
However, a stock trader differs from an investor in technical terms because he has a short holding-period for the stocks he buys. While an investor invests for the long run expecting consistent returns and dividend payments, a stock trader’s main profit source is the short-term appreciation (increase) of stock prices.
The book to which I owe my trading strategy is Think, Trade, and Grow Rich. I particularly liked it for its simplicity. After I read the first few pages of the book, I knew that the momentum swing trading strategy is the best fit for my capital and risk appetite.
In direct words, a momentum swing trader buys a stock when it shows signs of rising and sells it when it shows signs of reversal.
As simple as it sounds, one should know that nobody can predict the upswing and the downticks every time. However, by looking at the charts and various indicators, one can increase his chances of being right more times than being wrong. Stock trading/investing is a game of probability, and the better you can interpret the price movement and indicator signals, the better are your odds of success.
If you are a beginner stock trader/investor, make your system mechanical
In other words, take the emotion out of your equation. Trading/Investing is more a game of psychology than a game of skills.
By the end of this article, you will have gotten a complete picture of my trading strategy. Let’s say you decide to use this strategy. Let us also assume that my strategy is right 70% of the time. Now, you go and use all your saved money to buy stocks in NEPSE.
Sadly, your first trade turns out to be a loser. You put another trade, which is again a loser. Frustrated, you buy another stock. And this one loses too.
That smartypants was a prick, you’ll say. He certainly fooled you with his nonsense strategy. It doesn’t even work.
But what if the three bad trades were in the 30% of the times that my strategy did not work? What if the next seven trades were destined to be winners, hence validating the 70% accuracy of the strategy? But this fact sounds too vague to you. Having lost a significant amount of money, you will leave investing altogether, only to never return.
In this case, is it the strategy that is wrong? Or is it your mindset who couldn’t handle three straight losses?
To avoid this, you should make your system completely mechanical. You should have a checklist, and you should buy a stock only if it fulfills almost every checklist you have (best if it fulfills all). Once you are confident in your strategy, follow it by all your heart and all your conscience.
Experienced traders can use their gut feeling to buy or sell even if the signals tell otherwise because they have, you guessed it, years of experience. However, for an amateur, or even experts who want to avoid failing big, making your strategy mechanical is the best way ahead.
My Strategy Revealed
After all this, you know by now that I like to keep my strategies mechanical. I like to have a list of criteria that I can put a tick mark on while analyzing a stock.
Without blabbering any further, this is my checklist that comprise my momentum swing trading strategy.
1) Trend and trendlines
6) Support and Resistance
If you are a beginner, I know that some of the words above sound like the terms of a formula that even Einstein would not understand.
But hang on for a bit more. Everything will be crystal-clear to you. In fact, you can profit without even knowing what all the terms mean. This is just like the saying – You can drive a car without necessarily knowing how the petrol engine works. It is always better if you know though. winks
I am now going to describe each of my indicator/strategy above and show you how I use it to make money in stocks.
Note: This article might end up being tediously long. If you cannot read it all at once, take a break and come back to it after you have learned a single section. Take days or even weeks to understand everything. Read the same section twice or thrice if you are unclear. Use this as a dictionary. You don’t read the entire dictionary at once. Take it at your own pace.
1) Trend and Trendlines
For my momentum swing trading strategy, the longest time-frame of importance is the yearly trend.
In momentum swing trading,
Long-term trend: Trend of the past one year
Intermediate-term trend: Trend of the past three months
Short-term trend: Trend of the last 30 days (a month)
My strategy requires a stock to be in the long-term uptrend, intermediate-term uptrend, and short-term downtrend (pullback).
This is logical. Long-term trend means that the company is sound in the time frame in which we are concerned. Intermediate-term uptrend means that the bulls are still strong. And finally, short-term downtrend means that the stock has come down as a correction to uptrending price. This is benefit to us because we can enter a sound stock just when the price is a bit cheaper than usual.
Remember, never forget the fundamental way to make money in stocks – Buy low, sell high.
First of all, I see the trend in the overall sector. This is because if a sector is performing well, at least 80% of the stocks in that sector are also performing well. Thus, if a sector is losing, at least 80% of the companies in the sector are also losing.
If the one-year candlestick chart of the sector is in a downtrend, I abandon the sector completely. I never look at the stocks of that sector. And if the sector trend is bullish in the last year or so, we have received our first green signal. You may begin to evaluate the stocks of that sector.
Now comes the individual stock screening. It is the same for individual stocks. If a stock is in a downtrend for the last year, get out of it. Abandon.
Proceed if it has shown bullish trend in the last 365 days (approximately). If the stock is in an intermediate downtrend, abandon. If the stock is in an intermediate uptrend (bullish since the last three months), proceed. Finally, if the short-term trend (since 30 days) seems to be a downtrend, you have received a green signal. Otherwise, keep watching the stock until you see a satisfying correction downwards so that you time your entry perfectly.
RSI stands for the Relative Strength Index. This is one of the easiest indicators to read but also one of the most important.
You do not need to know the mathematical formula of RSI to be able to use it. I might explain about it in another article if I get the mood.
For now, just understand that the RSI is measured in a scale of 0 to 100. Lower value of RSI means the stock is oversold and higher value means investors are optimistic and are overbuying.
If the RSI is from 0 to 30, the stock is severely oversold. This means that people want to sell this stock but very few are willing to buy. However, since the 0 to 30 range is extremely low, we can interpret that this is the lowest the stock can get. And what does a stock do after it is at its lowest? It goes up. Thus, the RSI range 0-30 is actually a buy signal.
Be careful: The stock can sometimes be trading at 0-30 RSI signal because of something seriously wrong with the company fundamentals. It might be on the verge of bankruptcy. This is why you should at least google the company if the RSI is between 0-30 and look for recent news about it just in case. Or simply look for the company profile in sharesansar.com and check the company news.
In contrast, the 30-50 range is a proceed-with-caution zone. Now, if you already bought the stock in the 0-30 RSI range and it now rises to 30-50 RSI range, good for you. But for others who haven’t bought yet, the 30-50 RSI range signals short-term weakness. It is better to wait and watch. However, you do not have to reject the stock right away. If other indicators and other parts of your strategy signals a bullish momentum, you may proceed with caution.
Now, if the same stock enters the 50-70 range, or if you see another stock in the 50-70 RSI range, you have good news. This range signals that the buyers are entering, which is a sign of short-term strength. Proceed to evaluate the stock.
The 70-100 RSI range signals extreme optimism. Be greedy when others are fearful, be fearful when others are greedy. When investors are overly optimistic about the stock, it has probably reached saturation. However, if you already have a position in the stock, the 70-100 RSI zone is not a straight sell signal. Stocks often stay in the 70-100 range while going through an elaborate bullish rise.
Candlesticks lie at the heart of technical analysis and momentum trading.
A candlestick chart is called so because, well, the charts represent the price move in the form of little candle-like figures. The adjacent candles form a pattern that signal whether the trend is going to continue or reverse in the opposite direction. Sometimes, even a single candle can form a pattern.
There are numerous candlestick patterns that signal a definite outcome in the upcoming trading sessions. I will list them in a while. But first, you have to understand how and why they work.
In simpler words, every stock shows certain behavior in the price range when a trend-change is about to happen. A bullish trend does not suddenly become bearish in a day. The stock market is a collective action of hundreds of investors, so every change has a certain inertia to it. This is why a change of trend takes time.
For example, in a bearish reversal of a bullish trend, the usual days show normal bullish activity. And then, in the next day, the trading volume decreases and so does the price range during the day. Logically, this means that investors are beginning to question whether the bullish trend will last. Now, if the price closes lower on another day and the volume rises, this means that the bears have entered. All this signals the end of the bullish trend and the start of a bearish one.
Phew! You with me?
It took me an entire paragraph with the right words to explain it. But a candlestick pattern explains in an easy way in visual form. You will understand even if you are an 8th grader.
Luckily for you, I have made individual articles on the most common candlestick patterns that I use. As interesting as their names are, interpreting them is even more rewarding.
There isn’t another tool in technical analysis and swing trading as useful as Volume.
Note that there is nothing hard to understand about volume. It is simply the total volume of shares that exchanged hands in the given timeframe. This timeframe is “daily” for a swing trader.
All your strategies and indicators have to be supported by volume. Your indicator or candlestick pattern might demand a surge in volume or a decline in it. If not supported by appropriate volume, your signal might end up being a false signal.
If you decide to learn technical analysis, you will learn about volume while learning candlesticks itself.
Now that you have come this far, let me tell you that nothing in technical analysis is overly scientific or mathematical.
Technical analysis is just a bunch of greedy guys coming together to find the best tools and make money in stocks.
MACD (Moving Average Convergence Divergence) is one such tool.
Let me show you how this is simple and logical:
Let us say you take the average price of each day in the last year. And you also take the average price of each day in the last month. Now, if the average of 30 days is higher than the average of a year, what does it mean?
It means that the price in general was higher in most days of the last month than in the last year. You get it?
Now, if the price suddenly rises aggressively tomorrow, which of the average will show the most change? The monthly average, right? This is because the yearly average has more data and is less influenced by the change of a single day.
Now, if we plot the averages in each day, it will form a line on the chart. The line of the monthly average will fluctuate faster with the change in trend. Thus, in a chart, the monthly average line will seem to be responding faster to price fluctuation than the yearly average. In this case, the monthly line is the fast line and the yearly line is the slow line.
The MACD uses this same simple principle to interpret any change in a trend.
The MACD is calculated by subtracting the 26-period Exponential Moving Average (EMA) from the 12-period EMA. Basically, the EMA is an average, but it puts more weightage to recent prices than the prices long ago. An EMA is considered more sensitive and accurate than the normal average, the simple moving average (SMA). The MACD is then plotted alongside the 9-day EMA line.
Let me translate that in English: The MACD uses one line obtained by subtracting the 26-day and 12-day EMA. This line is plotted alongside another line which is simply the 9-day EMA. The MACD line is the slow line and the 9-day EMA line is the fast line.
If both the lines are above 0, the stock is strongly bullish. Similarly, if the fast line crosses above the slow line, the stock is in a short-term uptrend and vice versa.
Update on October 25, 2021: Until now, I had been struggling to properly read the MACD. For instance, I was confused whether to consider a stock has entered the zone of bullish momentum if the fast line crosses higher than the slow line when both of them are below zero.
The book Think, Trade and Grow Rich had nothing mentioned about reading the MACD. On further research, it became clear that the fast line crossing the slow line is still a bullish signal, but basing your buy trade on it is riskier when the crossover happens below the zero line on the MACD chart. As one Investopedia article put it succintly:
“Traders who attempt to profit from bullish MACD crosses that occur when the indicator is below zero should be aware that they are attempting to profit from a change in momentum direction, while the moving averages are still suggesting that the security could experience a short-term sell-off. This bullish crossover can often correctly predict the reversal in the trend, but it is often considered riskier than if the MACD were above zero.”
For now, I have decided to only proceed to look for crossovers that happen above the zero line.
6) Support and Resistance
There are three tools that you should never miss: the stock trend, volume, and support and resistance. These three are the ABCDs of technical analysis.
A stock does not go up or down in one straight swing. The stock price is more irregular than the chart of a heartbeat, with similar highs and lows. The peaks and troughs are called pivot points because they are the points from where a stock reverses its trend.
In simpler words, the support is the price level below which a stock has had trouble penetrating in the past. Similarly, the resistance is the price level above which a stock has had trouble penetrating.
However, note that this does not mean the stock won’t go past it. In fact, if the stock penetrates this level, it rises until it makes another support or resistance. This is called a breakout. Breakout is when a stock takes a new course different than in the past, most probably forming new lows or highs.
If a stock is near its resistance level, it can either bounce back or breakout and make a new high. Thus, I will rather wait and watch. If the stock bounces back, the stock is still inside the support and resistance tunnel and the price will go down. Meanwhile, if the stock breaks the ceiling (resistance level), I know that it will only stop at a new high. Hence, I will buy the stock.
Support and resistance levels are not the same for every technical analyst. They are different because they are an estimate, and each estimate differs with the inspecting eye (the investor). The only way to know whether you are right is by seeing the stock activity in the upcoming days.
Now, where you should start
I listed and elaborate on all the tools I have been using as of now.
You knew that I use candlesticks but you don’t know how I interpret the candlestick patterns. In short, you know my strategy but not my process.
If you think momentum trading is also for you, I recommend you start with the book Think, Trade, and Grow Rich. This book is really helpful for beginners.
And after reading this, if you want to learn more about technical analysis besides just candlesticks and basic stuff, you should delve into Technical Analysis of Stock Trends by Robert D. Edwards, John Magee, and W.H.C. Bassetti. Read its most recent edition. I’m currently reading the 11th edition.
Technical Analysis of Stock Trends is a really long book. I don’t like long books either. However, I’ve found that you can skip to the topics you want to learn without reading everything else. See if doing that helps.
Before you go
I have listed all the tools that comprise my strategy. There is no use making your strategy complicated. Keep it simple, put the probability in your favor, and be consistent.
Nevertheless, I am always learning. If I feel like I have better tools, I will certainly add them to my strategy. Till then, let’s see whether the tools above can bring me some money.
I don’t think traders can follow rules for very long unless they reflect their own trading style. Eventually, a breaking point is reached and the trader has to quit or change or find a new set of rules he can follow. This seems to be part of the process of evolution and growth of a trader.Ed Seykota
Chronology of Updates to This Strategy:
October 25, 2021:
1) I have decided to only look for MACD crossovers (fast line crossing over slow line) when the fast line is above 0. This is because I learned that MACD crossovers that happen below the zero line are riskier to rely on and they have a higher chance of ending up being a false signal.
2) I have decided to remove the 52-week price range from my trading strategy. Basically, it said that stock prices that fell in the upper or lower quarter of the 52-week price range had a higher potential to grow. I felt like this is unnecessary, and much of what it signifies is already reflected by other parts of my strategy.
3) I have also decided to remove the Parabolic SAR from my list of indicators. Honestly, I have never used this as of now, and I just think it is one of those countless indicators that I don’t necessarily have to use.