Sunday, November 23, 2008

Using Stop Loss Orders to Determine When to Enter a Trade

by: Derek Frey

Many people enter into trades with little more than a desire for profit. In Forex we normally use between 50 – 400 to 1 leverage. Because of the large amount of leverage we are able to use, simply hoping for a profit is not enough. Traders need a solid plan before the pull they trigger. When planning any battle, successful generals begin at the retreat and work their way backwards. Traders should do the same. The first and most important decision is when to admit defeat and retreat. Survival to fight another day is more important that going down with the ship. This article proposes that traders take a different approach to figuring out when and where to place their next trade. The approach is simple. Just like the generals, start by figuring out when to get out. This may sound strange, but if you apply this idea to whatever other methods you are using to determine your entry signals, your bottom line should improve. The overall idea is simple, rather than first looking for a good entry point, look for a point where you would want to be stopped out. At this point you are probably saying “who ever wants to get stopped out?”

The answer is, not the majority. But let’s look at several statistics for a moment to get some perspective. Depending on who you believe, anywhere between 75-95% of all retail Forex traders blow out their account within one year. So it seems that the 5-25% of traders who are winning are doing something different then the majority who are losing. One of those main differences is not being bothered by getting stopped out. Many new traders complain that they hate trading with stops because they have been stopped out of a trade that almost immediately turned around and would have been a huge winner had they not run the stop. They take that to mean that they should not trade with stops. Trading without some kind of risk management is like playing Russian roulette by yourself, it may not be the next pull of the trigger that kills you, but pull it enough times and sooner or later it’s a sure thing. Trading without risk management is much the same. You may get away with it for a while, but the lesson you are learning will sooner or later prove deadly.

There are many forms of risk management, from the extremely complex, like cross hedging with options, to the very simple, such as using stops. The use of stop loss orders is one of the simplest and often most effective way to manage the risks of any given trade. The reason many traders have had a bad experience with using stops is not the fault of the stop itself, but rather the placement of the stop. Most traders get into a trade and then decide where to run a stop, if at all. They often have a fixed dollar amount that they are willing to risk per trade and they then place the stop loss order accordingly. All of this on the surface sounds like a good plan, but in practice it often leads to the scenario mentioned before, where the trade gets stopped out and then the market turns on a dime and goes the way the trader had originally anticipated, leaving them to mistakenly blame the stop. The individual points that led to the stop being placed are not bad in and of themselves, but put together this way, they often lead to the frustration mentioned above.

So let us look at these issues from another angle. Rather than getting into a trade and then deciding where to get out, let’s determine the exit point and let that dictate where we get in. To do this you will need a chart. Choose the chart’s time-frame based on how long you intend to hold the trade. If you only hold your trades for a few hours then a 15 or 60 minute chart should be fine. If you are more of a swing trader, then daily or even weekly charts would be best. Currencies tend to trend more than most other markets. However, they do not trend all the time. In fact the opposite is true. Most markets only trend about 30% of the time. The remaining 70% of the time they are trading within a range or chopping. Therefore, learning how to trade the chop is paramount if you want to be a trader for years to come. What follows is a simple yet effective way to trade the chop.

Trading the Chop

First, start by looking at long term support and resistance zones. Markets tend to have certain zones that they “bounce” off of time and time again before penetrating them. These zones are what you want to look for. Start with weekly or even monthly charts, no matter what time-frame you trade in. This will tell you in an instant whether the market is trending or choppy. Once you determine the underlying market condition, look for significant areas of support and resistance. Finally, move to a daily chart and then to a 60 minute chart. After going through these different time-frames you should be able to find a number of these zones. The best are those that coincide through all the time-frames. That will only happen if the market is at or near relative new highs or lows. When it does happen, though, it is time to sit up and pay attention. However, you do not need to wait for perfect conditions to use this method. You only need a support or resistance zone in whatever time-frame you are comfortable trading. Once you have identified these areas on a chart, you need to look closely and determine where that level would be broken and place your stops accordingly. A move through this level would signify that the market is breaking out from the previously established range. Once you find what the highest high is in the case of a resistance level, or lowest low in the case of a support level, you need to go a certain distance beyond that so you are not stopped out by a move of only one or two pips beyond these levels.

There are many ways to determine how much extra distance to give each market. One way that I have used is to simply look for the next closest Fibonacci number. This method is not scientific, but one that has served me well over the years. The Fibonacci sequence is one that was discovered by a mathematician all the way back in 13th century. The sequence is as follows: 0, 1, 1, 2, 3, 5, 8, 13, 21, 34, 55, 89, 144… For the purposes of using them for stops I normally only use 8, 13, 21, 34, 55, and 89. So if the last two digits of the highest high in a resistance zone had been 25, then you would use either 34 or 55 depending on which particular market it is in. The more volatile, or greater the average true range (ATR), the wider you should go.

Once you identify the zone you can then come up with your exact stop point.

Look at the daily chart of the USD/JPY and you can see that we have had significant resistance between roughly 121.50 and 122.25. Each time the market has reached this zone it has failed to follow through. There have been three attempts to break out from this zone, each one being lower than the last, forming a descending trend line. This is what you want to look for. Once you identify the zone you can then come up with your exact stop point. Simply find the recent highest high, in this case 121.66, and then find the next closest Fibonacci number (89) and you have your stop (121.89).

Determining your entry point

Now that you know where you are going to run your stop you can use that to determine your entry point. This is the point where you want determine how much actual money you are willing to risk on the trade. Most money managers will tell you to never invest more than 1% of your account on one trade. That rule really only works for traders using 50k or more. Most traders start with less and therefore are forced to break that rule. Starting with a $5,000 account and only risking 1% would mean that you can only risk $50 per trade, which in some cases is less than the bid/ask spread once you enter the trade, so it is obviously not realistic. But try to keep the amount you risk on any one trade as low as you can. Trading is a long-term endeavor. Do not fall into the trap of thinking that your next trade is “the big one” and you are sure it will work, and therefore put half or even all of your account into it. That is not money management, it is gambling. But let’s say you are comfortable risking $400 on a trade, or 40 pips on a 100k contract. Looking at a Daily chart of the USD/JPY, you can see that the most recent high was 121.66. Using the Fibonacci stop idea you would run your stop at 121.89 because 89 is the next closest Fibonacci number above 66. Now you have your stop well above a significant point of resistance. To calculate your entry point, simply subtract the 40 pips you are willing to risk from your stop point to arrive at 121.59 (121.89 – 40 = 121.59). The next day the market traded up to 121.63 so a limit order at 121.59 should have been filled. Once the order is filled, you can trail your stop with the market or move it to coincide with other support and resistance zones within the range. Your target would be somewhere near the bottom of the range. In this example your target would be a move to 119.50 or below.

So let’s review this method. First determine if the current market is trending or chopping. Then look to identify areas of support and or resistance. Next find the highest high in a recent resistance level or the lowest low in a support level. Determine the next closest Fibonacci number and you have your stop point. Then take the amount you are willing to risk per trade and either subtract it from your stop if it is a short trade or add it to your stop if it is a long trade. You now have both your stop and entry points, and you are only risking whatever amount you determined you were comfortable with. Your stop is placed at a level that signifies a change in the recent trend, and therefore is mush less random than most other stops. This method is not to be used exclusively, but it is one that can compliment whatever other indicators or patterns you are using to determine you next trade. This method should help you avoid getting stopped out at insignificant points that have you selling near highs and buying near lows within the established trading range.

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About The Author
Derek Frey has been trading since 1989 and is currently Head Trader and principle at Odom & Frey Futures & Options LLC. He also emphasizes the importance of educating traders, providing one-on-one advisory services, online learning materials, and mentoring. Derek’s range of strategies makes it possible to accommodate various types of traders. He is frequently a speaker at investment trade shows & seminars and is often quoted by Reuters, the Wall Street Journal Online, Bloomberg, and other financial news services. He is also a regular contributor to

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Tuesday, November 18, 2008

Is It Possible To Create An Impossible Business?

by: Jonathan Haryanto

Consultants, coaches, and other service professionals often start a business believing that all they need to do is charge a "reasonable" fee and sell "enough" of their time. Consultants hope to get an edge by claiming to be the fastest, best, or most experienced.

Tired superlatives in proposal include: Most, Superior, Best, Maximum, Optimal, Minimum, Fastest, Unsurpassed, Shortest, Unrivaled, Easiest, Highest, Least, Unique, clients routinely ignore such claims as unproven hype.

Nothing is intrinsically wrong with any of the preceding words, and we all use them in spoken and written communication (for example, "This is the fastest way to do that.") But in proposals, they are suspect, and you should use them sparingly, if at all. It's easy to think that any business can be successful if you work hard enough, but there are many situations where this just isn't so. But unless you do the math to prove or disprove your assumptions, you may be creating a business that can never succeed. Here's what can happen:

*Impossible Business #1 *Nancy was selling her services as an image consultant to individuals who wanted an updated or more professional look. She charged $75 per hour, which she thought was the most anyone would realistically pay to work with her. In most cases, she traveled to a client's home or went shopping with her client.

Including travel time and lunch meant that Nancy could only make two appointments in one day. The average appointment was two hours long. So the maximum amount Nancy could earn in one day turned out to be $300. But in order to earn that amount five days per week, Nancy would have to schedule ten different clients, all of whose schedules were able to adapt to whatever times she had available.

This was hopelessly unrealistic. Even if Nancy had been able to make the scheduling work, when would she have had the time to do the marketing required to land that many clients? It turned out that the maximum Nancy could really earn using this model was about $750 per week. After paying her taxes, she couldn't even cover her monthly living expenses

*Impossible Business #2 *Tom is a student who works as a software consultant for midsize company._ _ . He typically charged $80 per hour, and when he landed a contract, it often consisted of 25-100 billable hours.

Because Tom's earning capacity was so high and he disliked marketing, he spent a lot of money on marketing himself indirectly. He purchased display ads in industry journals and directories, mailed expensive brochures to large lists of prospects, paid to exhibit at trade shows, and hired a telemarketer to prospect for him. Tom also worked on contracts that came through agencies, who often took 25-35% of his earnings as their percentage.

Tom is earning as much as $90,000 per year, but he was losing about $15,000 per year in agency commissions, and spending $25,000 per year on marketing. In return for all his hard work, he was earning considerably less than he had at his last job.

*Making the Impossible Possible *New consultants, coaches, and other professionals almost always overestimate how much they can earn and underestimate the amount of time and money required to successfully market themselves. They also forget that they will have to cover not only their living costs and business expenses, but pay self-employment tax, buy their own health insurance, provide for their own retirement, and allow for unpaid vacation and sick time.

If Nancy or Tom had taken the time to sit down with a calculator before starting out in business, they would have quickly discovered that they were on the wrong track. But both of these businesses were able to be rescued.

Molly began selling her time by the day instead of by the hour. She offered her clients a full-day package that consisted of a wardrobe review and consultation in the morning and a shopping trip in the afternoon. By charging $400 per day and scheduling three clients per week, she could earn more than double than she did previously.

She also began offering a monthly one-day image workshop as a way of bringing in more income while giving prospective clients a chance to experience her work. The workshop became her main source of new clients, and marketing the workshop turned out to be easier than marketing her personal services.

Tom learned how to market himself less expensively through networking, speaking, and writing articles. Instead of buying booths at trade shows, he was showcased there as a presenter, and spent time networking with the other attendees. The same publications where he used to run ads now ran his articles. Rather than paying a telemarketer, he started picking up the lunch tab for people he thought could refer him some business.

As a result, his expenses for marketing and commissions dropped from $35,000 per year to $15,000. At the same time, his income rose to $125,000 per year, because as his visibility and reputation grew, his services were more in demand and he could command higher rates.

If earning a decent living as a self-employed professional sometimes seems impossible to you, start asking how it could be possible. What can you change about how you are marketing yourself, how much you are charging, and how you are packaging your services? While it could be that success will come if you just work a little harder, it's more likely that you first need to start working a little differently


About The Author
Jonathan Haryanto is owner of and writes on a variety of subjects. To learn more about this topic Jonathan recommends you visit:

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Sunday, November 9, 2008

Manage Debtors And Creditors To Improve Liquidity

by: Terry Cartwright

Sales turnover and net profits may follow a rollercoaster pattern familiar to most business but when the cash flow dries up the game is over. Urgent attention to the management of working capital can provide every business with the cash resources to exploit its potential

Most businesses will experience periods of lower sales and times when losses may be incurred as expenses exceed sales income. The situation is recoverable by producing higher sales and reducing costs and expenses. A business that runs out of cash resources is dead in the water.

Debtors and sales income management

The objective is to obtain payment from customers as fast as possible improving cash flow and minimising the risk of bad debts and not being paid at all.

Payment terms offered to customers should be clearly stated and fixed as standard accounting figures according to the amount of funding the business is prepared to offer its clients. Because that is exactly what credit terms to customers is, free cash funding in exchange for eventual sales income.

Consideration should be given to using a cash discount system to encourage sales invoices to be paid faster. In some businesses it would be appropriate to obtain up front deposits and scheduled payments. Review this practise to obtain a greater proportion of payments faster to improve liquidity.

New customers should be subjected to a strict credit check. All new customers where credit check details are not available should be invoiced by the accounting function on a pro forma basis. Any businesses who fail to meet the highest credit score required should remain on a pro forma invoice basis.

The credit control function needs consideration from the first step of issuing customers with a sales invoice, producing customer statements of the debt owed and a set procedure of credit control letters and telephone follow ups that actually achieve the end result of getting the cash in. An essential process in the credit control procedure would be to ensure the accountant or bookkeeper always issues sales invoices and customer statements promptly.

Incorporate into the terms of trade a set of rules to invoke interest payments for late payment and late payment debt recovery costs. In the UK the Late Payment of Commercial Debts (Interest) Act 1998 sets out the statutory rights of business to claim interest and costs.

Consider the possibility of factoring sales invoices due from debtors either by selling the sales invoices to a third party or raising cash on the value of those invoices pending payment. Factoring has the disadvantage of often not being cheap but does have the advantage of generating a regular stream of cash.

Bad debts have a double impact on any business and all possible steps should be taken to reduce the risk. A bad debt not only uses valuable resources in chasing the debt with the negative impact on cash flow and liquidity but also is a straight loss to the net profit and a strong indicator that the accounting function is failing the business.

Creditors and expenditure management

The objective is to extend the time allowed for payment of expenses the business incurs.

Consider the frequency of all payments made to suppliers. Small business have alternative payment terms available for the payment of taxes. In the UK value added tax can be paid quarterly or monthly, vat cash accounting can ease the tax liability due in critical periods and paye payments can be paid quarterly rather than monthly for smaller businesses.

Every opportunity should be considered to improve liquidity and that would include the frequency which employee salaries and wages are paid. A sensitive area since it involves the most important people to the business success but adopting a payment period to coincide with the receipt of cash from customers may in some circumstances balance liquidity.

General creditors are a major area to be addressed in terms of both the amount of credit received from suppliers and the time required to pay those creditor accounts. Larger orders on extended payments terms creates a risk area should the goods not be used but can greatly assist cash flow as the business is effectively borrowing free cash from its suppliers.

Stock levels are crucial to financial management of the creditor total. High stock levels use valuable working capital which is offset in part by the level of creditors. Higher levels of stock financed by free credit from creditors lowers the cash flow requirements on the other parts of the business.


About The Author
Terry Cartwright designs UK Accounting Software at on excel spreadsheets providing complete Bookkeeping solutions for small to medium sized businesses

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Thursday, September 4, 2008

Income Protection Cover Could Provide A Replacement Income

by: Simon Burgess

Those who have loan or credit card debts or a mortgage with repayments to make each month should give some thought as to how they would continue to make these payments if they were to lose their income. While you may turn to savings if an illness or accident prevented you from working for a short period of time, any savings you had would soon dwindle. If you were made redundant then it could take some time to find another job and struggling to meet your monthly commitments would only add pressure to already stressful circumstances. Income protection cover taken out with a specialist provider could give you a replacement income if you lost yours, along with peace of mind.

Payment protection insurance can be taken out for fixed monthly premiums, based on how old you are when applying for the cover and how much you need to cover each month. There is a limit to the amount of your income that you are able to cover and the provider will give details of this in the terms and conditions. By going with a specialist for the protection you can be sure that the policy will be a quality product. It will come with very few exclusions and cover is backdated to the first day you came out of work. Of course, the biggest advantage of getting a quote from an independent provider is the money you will save on the cost of cover. Standalone providers that only sell payment protection will not go for the huge profits that the high street lenders do.

There are exclusions to be found in income protection policies, as with all insurances, which could mean you would not be eligible to claim and so taking out the cover would be useless. While these exclusions can vary depending on the provider offering a policy, there are some that are standard in all policies. Those individuals who are retired, self-employed, suffer from an ongoing illness or do not work in a full-time position would have to give some very serious thought to the policy’s suitability before taking it out. For example, if you do suffer from a pre-existing illness but it has not bothered you during the past two years, protection cover might be suitable. And if you are self-employed and have to stop trading through no fault of your own then you might benefit from cover.

Income protection cover would generally begin to provide you with a tax-free replacement income after being unable to work for a specific amount of time. This is usually within a period of 30 to 90 days of being continually out of work, without having a break in between. Once the cover has started to provide you with security then it would continue to do so for the time stated in the policy’s small print – generally 12 to 24 months. This period usually gives plenty of time for recovery from illness or accident, or enough time to find another job and start earning an income again.

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