How to Be a Disciplined Stock Trader

This is a brief look at how to inculcate discipline when trading stocks.

Unlike in the forex or commodities market, trading profits in the stock market can only be gained when the value of the equity in which the trader has invested in appreciates in value. This puts a lot of responsibility on the shoulders of the stock trader or the manager of a stock-based investment club to make sure that trade calls are in order and that the stock is purchased at the right time to allow for appreciation and profitability.

The key to making money from stocks is to buy low, sell high. Put another way, finding and buying stocks that are presently undervalued, but have appreciative potential. It takes a lot of discipline to trade the stock market successfully. Many traders have been undone by not following the rules of stock trading, or by not knowing how to exert some discipline when trading stocks.

Trading discipline will root out many investment mistakes, and we shall now look at some ways a trader can bring some discipline into his stock trading. One of the easiest ways to lose money in the market is by being greedy. Warren Buffett, arguably the greatest stock investor of our time put it succinctly: “be fearful when the market is greedy, and be greedy when the market is fearful”. What exactly did he mean when he made these statements?

To understand the quote, let us explain what market greed is all about. Market greed is a situation where traders plunge into the market during a bull market to buy stocks for a quick profit run, especially when there are no justifiable fundamentals to support such a bullish momentum in the markets. At this point, what is driving the market is herd buying, a situation that arises because so many people want to profit from the bull that there is a demand surge, creating rising prices. Usually when prices have risen so high, professional investors “become fearful” of losing profits, and sell to the ready group of “greedy” herd buyers to take profits. Volumes begin to taper off as high prices begin to scare off more people from buying. The inevitable price collapse that follows causes many retail investors to lose money. Prices eventually hit rock bottom, and because many retail investors who are uninformed about how the market works would be “too fearful” to buy at this time, the smart money investors who recognize bargain opportunities when they present themselves, “get greedy” and buy into the opportunities cheaply, waiting for another round of bullishness to play out.

If you want to be a disciplined trader, you need to adopt the mindset of the smart money investors. They only buy into bargain opportunities. If prices have risen to a point where the effects of fundamentals have worn off, they exit the market. They know when to buy, when to take profits and when to take cover.

Smart money investors usually use some data from earnings reports such as the price-earnings ratio to make trade calls. It is a hallmark of market discipline to look at some of these figures as well in order to achieve the same results as the smart money investors.