Investing & Trading the Stock Market

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The Market

For optimal results, a consistent trader should dominate only a few markets, avoiding to fall in the trap of over diversifying. An index should always be part of the trading watchlist, along with two or three other selected markets if wanted. This selection should be made based on interests and style preference, since some of us may be pleased with technology topics but others will be more interested in pharma or energy. Each market will also have a specific price action “personality” that will be more suited to the trader’s style of trading. Note that when I say “market” I mean “stock”.


Long-term trends are always based on market fundamentals. Never buy LONG if fundamentals are bad. There is full correlation between earnings growth and market cap appreciation, for this reason it is essential to be aware of the market fundamentals before entering the market. Key areas to focus are: the business model, intrinsic value of the company, growth potential, earnings and revenue composition, risks associated with the company and the economic sector, current and historical cash situation of the company, debt level and composition. Listen to earnings calls and pay special attention to the Q&A section where the analysts ask relevant questions to the management. If over time they fail to deliver results, don’t hesitate and get out.

Fundamentals matter more than technicals, remember that if you are holding a stock for a trade, you become an investor for that period of time, so you better hold high quality pieces of companies, unless you are shorting, in that case get companies with bad earnings reports. This is what going with the flow actually means.

The Instrument

Stock traders have many financial instruments that they can use to invest and trade. Even some of them that were designed for portfolio hedging, can be used as a tool for leverage, if the trader handles the appropriate knowledge. The most popular instruments among stock traders are Stocks, ETFs, Future Contracts and Options.

It is important to note that irrespective of the instrument used, the chart that will be used to make strategies will always be the one of the underlaying asset, the only exception being when trading future contracts, in which we will use the futures chart itself. Also, for trading indices, it is recommended to use the futures charts since they trade for longer time than the ETFs and with higher volume. In order to have leverage without using a margin account, traders will often trade option contracts of the selected stock. Using futures and/or options contracts to trade is only recommended after deep understanding of the instrument.

The Timeframes

The most important timeframe is the daily chart. It is the only one that everybody is watching, from long-term investors to swing traders and even scalpers. For active daytraders it will be necessary to have at least two different timeframes at the same time, putting more emphasis on the highest. Swing traders are often comfortable with one timeframe at a time. Regardless of the type of trader, it is important to consult different timeframes to have a clear picture of the trend and patterns.

The Volume

After price action itself, volume is the most important indicator. Volume Average is an indicator that draws a moving average line of the traded volume on top of the volume bars and can be used in any timeframe. Price movements with volume below average aren’t as reliable to make decisions as movements with volume equal or higher than the average.

The volume weighted average price, known as VWAP indicator is the perfect combination of volume and price through the intraday session. Many high frequency traders, quants and discretionary technical traders use the VWAP indicator, as it shows information on trend and fair value of the security during the intraday session. The Anchored VWAP is the equivalent with the distinction that it anchors the VWAP calculations to a specific candle bar chosen by the trader and thus can be used as pleased even by swing traders.

Volatility & Trends

As traders take advantage of volatility of the markets, it is important to know the expected value of it. Each market behaves in its own unique way, for that reason there are many different ratios that can be supervised. The Standard Deviation measures the risk of fluctuation from the expected return.

The ATR (Average True Range) is used as indication of the expected movement range of a security. Its value represents how many points the instrument moves from high to low during a day. It is usually calculated as the average for the previous 14 days. This indicator is helpful at the moment of setting profit targets and reversion points while day trading or stop losses for swing trades and trend following strategies.

Bollinger Bands are useful as a graphical indicator because they show both volatility and trend. This indicator combines a 20-period moving average with 2 bands (upper and lower bands), at 2 standard deviations from the mean. A low standard deviation indicates that most of the data in a sample tend to cluster close to its mean, giving the trader a clear idea of the position where retracements can occur.

Moving Averages alone are also useful as it shows trend and average prices. The most relevant being the 200-period moving average. Some other relevant moving average periods, such as 10, 20 and 55, are very effective for very active trading styles, especially among day traders.

Supply and Demand Zones

Supply and demand zones are the cornerstone of many traders. These zones are created after a moment of price consolidation, followed by an explosive movement that is usually combined with increased volume.

A demand zone, also known as the accumulation zone, is created right before price makes a big explosive move up. In this area buyers are very active and aggressive. If price goes back to a demand zone, there is a high probability of a bounce.

A supply zone, also known as the distribution zone, is created right before price makes a big explosive move down. In this area sellers are very active and aggressive. If price goes back to a supply zone, there is a high probability of a rejection.

Key levels

Key levels are specific price points in which a strong market move is expected. This happens because many traders put their orders at the same price, usually at round numbers or multiple of 5 (this are called psychological levels). Scalpers are known to take advantage of very short price movements, usually by entering brief trades at these specific levels with high amounts of money scaling out very fast (from seconds to 3 minutes).

Trading Strategies & Setups

For day traders every trading session starts with a pre-market plan. First looking at important economic events for the day and week ahead, followed by taking a look at the indices and the VIX. The CBOE Volatility Index (VIX), also known as The Fear Index, is the most popular volatility indicator of the American Equities Market. A lower level of VIX means that there is low perception of risk in the market (or low fear) and a higher level of VIX means that there is high risk perception (or high fear) in the market. As a rule of thumb, any reading above 30 is considered very high or extreme fear, and any reading below 20 is considered low fear.

Before the market opens the trader should have a trading plan ready for a bullish scenario and another one for a bearish scenario. Some traders also prepare for a range scenario in which the prices stay bouncing in a flat channel during the session, leaving the daily candlestick at the end of the day as a doji.

Every trader will have one or various setups in their “trading playbook”. A setup is combination of conditions that the trader needs to verify true before entering and exiting a trade. Some use checklists to ensure proper execution and avoiding emotional trades. Here are a couple of profitable setups.

Supply and Demand Setup

1. Identify the trend (Up, down, or in range).

2. Identify and draw the supply and demand zones that can be approached during the session taking in consideration the current ATR.

3. Once the price approaches the zone, look for confirmation that the zone is still active.

4. Entry at the zone with help of VWAP bands, Bollinger bands and EMAS. Look for LONG entries at demand zones and SHORT at supply zones. In the case of very strong trends, the zones can be used as entry after a breakout in the retest of the zone. Breakouts should always be confirmed at timeframes of 5 min or higher and accompanied by strong volume to be reliable.

5. Stop Loss: Out of the zone with some extra points for room.

6. Take Profit: At next zone or key level. If prices are rallying through all time highs, ATR and Fibonacci extensions -27% and -61.80% can be super useful as Take Profit targets.

7. Risk Reward Ratio should never be less than 2.

Key level Scalp Setup

1. The price structure has to be extended on a rally or sell-off (touching Bollinger bands or the VWAP bands).

2. Identify and draw an important key level. This can be found at the start of supply and demand zones, at psychological levels or combination of both.

3. This is a contrarian trade, meaning that the entry will be to the opposite side of the trend. For an up trend, entry SHORT, and in the case of downtrend the entry will be LONG.

4. Entry: At key level with limit order and brackets for Stoploss and Take profit.

5. The amount of points for Take Profit will be vary in different markets. The idea is to take advantage of small movements that can be found at these levels regardless of the trend continuing or reverting completely. The Stop Loss will be set at half the amount of points of the take profit. These movements will usually last between 1–10 minutes. For the S&P 500 @ES Futures this strategy works with 10 points for Take Profit and 5 points for Stop Loss.

Risk Management

Proper Risk management can prevent account blow-ups, for that reason every profitable trader has a defined set of trading rules. Here are some ideas to follow:

  1. Have a pre-market routine and start at least 30 minutes before the market opens.

2. Select the best trading hours four your style of trading and only trade during those hours.

3. Set a specific maximum amount of trades per day. This will avoid over-trading those days when the emotions kick in.

4. Set a maximum percent of capital to risk on each trade. It should not be higher than 2%, but will depend on trader’s risk profile and account size.

5. Have a daily stoploss. It should be no more than your historical average daily gain. This will limit the daily losses so that it only takes one day to recover them.

6. Have a trading journal and write down every detail of the session.


This article expresses my own opinion. Nothing contained in this article should be construed as investment advice.