How to Improve the Quality of Your Trades

Stock trading is a marathon, not a race. Success in the market is measured by consistent medium to long term profitability. Big quick gains mean nothing if you cannot consistently repeat it. As such, consistency is one of the most critical metric that makes a trade strategy reliable and successful in the long run.

So that we are on the same page, it is important to note that being consistently profitable does NOT mean you always get big wins. NO. For most profitable traders, being consistently profitable means being able to land on small to medium gains consistently. In the long run, these consistent profits add up to a large portfolio return.

In this post we will discuss the importance of improving the quality of your trades and the basic steps needed to achieve this.

Quality > Quantity

Profitable traders ALWAYS FOCUS ON HIGH QUALITY TRADES. You do not need to trade often to be profitable. Instead, you need to be heavily process oriented in isolating good trades from the bad ones. To do this, you want to have a specific metric to qualify good quality picks.

The quality of a trade can be broken down to Technical and Fundamental attributes that can be organized to create a criteria list of a High Conviction Trade (see our previous post on High Conviction Trades here). Essentially, the quality of the trade improves when it checks more items in the criteria list.

Basic Checklist for Filtering Good Quality Trades

The general approach here is that a lot of research through technical and fundamental analysis will be needed to isolate better quality trades from the mediocre ones. When you do this regularly, you become process oriented in the way you analyze the market and filter your stock picks. As a result, you get more trades with good risk:reward ratios and you will dramatically increase your chances to end up with consistent profit.

Here is a general template that can be used to determine the quality of a trade:

1. Technical criteria

Technical attributes of a trade all point to Price Action. Refer to the following list for a basic template:

a. Bullish Reversal Patterns

Note: Bullish reversal patterns have a higher success rate when forming at multi year support level with above average volume on breakout

• Inverse Head and Shoulders

• Cup and Handle

• Double Bottom

• Bullish Divergence

• Diamond Bottom

b. Bullish Continuation Patterns

Note: Continuation patterns need to be forming within an existing general uptrend to be considered bullish

• Flag

• Pennant

• Ascending channel with low volume pullback to trendline support

• Ascending triangle

• Symmetrical triangle

c. Market Signals

Note: Market signals are specific combinations of indicators and candle patterns that give traders the buy/entry signal .

• Bullish Moving Average (MA) Crossovers (ex: golden cross, EMA9-MA20 momentum crossover)

• Bullish MACD Crossovers

• Morning Star

• Bullish Harami

• RSI bounce (30) (best paired with fundamentally strong stocks)

• Trendline Breakout with above average volume

2. FUNDAMENTAL criteria

Fundamental attributes of a trade all point to the underlying present or future financial condition of the company. Refer to the following list for a basic template:

Note: Fundamental criteria are very exhaustive and vary extensively depending on the time horizon you are looking at. The items below are phrased as questions to jumpstart the starting point of the fundamental research.

• What is the general economic climate?

• What is the market sentiment for each sector?

• Does the company have strong growth potential for next several years in terms of earnings?

• Is the Price to Earnings (P/E) Ratio of the company commensurate to its market price? (The P/E ratio can be calculated by dividing a company's market value per share by its earnings per share.)

• Is there a fundamental catalyst driving the growth? (new product, mergers and acquisitions, expansion and the like)

• What is the fundamental narrative? Speculative or not?

In a Nutshell

Improving the quality of your trades allows you to leverage on high potential winners and weed out mediocre picks. When you consistently focus on high probability setups that are validated by multiple technical and fundamental bullish parameters, you dramatically increase your success rate in the market. Remember that it quality trumps quantity in stock trading. Stay process oriented, patient and disciplined and the profit will naturally follow.

We hope you loved our posts! To learn more about trade and investment, access the Online Learning section of our website to enjoy our free Learning Module.