Trading Lessons From A Hedge Fund Trader: Avoid These 3 Mistakes For A Profitable Trading Strategy

Do you ever wonder how Hedge Funds or the trading desks at major financial institutions make the big money? 
Many people believe that the big money is made on inside information, the juicy secrets that yield high returns or long visits to jail. The big money is generated by creating, optimizing and deploying in-house trading strategies and taking advantage of your order flow.

I spent 8 years trading and managing the trading floor for a Billion Dollar Hedge Fund specializing in Futures (the leveraged perceived as risky financial products) trading. I can tell you that your Profit and Loss (P&L) is dictated as much by learning what to avoid (the huge list of things what NOT to do) and creating, managing and optimizing your stable of Trading Strategies.  

Always remember there are infinitely more ways to lose money than there are ways to generate profits and that it doesn't take any effort to lose money.

I use the word 'stable' of trading strategies because having 1 strategy is not enough, you'll need a 'team' of trading strategies that work under different market and liquidity conditions. 

It's similar to holding a LONG Equities portfolio from 2007-2009 and a Short Equities portfolio from 2009-2013, both were viable options but NOT the best option if you wanted to make money. The best solution (in hind sight) was to apply shorting strategies in Equities from 2007-2009 and long strategies from 2009-2013. 

What do we do with our portfolios for late 2013? I can tell you that the Long run from 2009-2013 is losing steam and that you are better off going to a Neutral Biased Equities position.

How do you do that? 

Find the Stocks that had huge run ups that are displaying weakening technical and fundamental positions and short them and offset them (Hedge them) against a basket of long stocks that are still technically and fundamentally strong. Take a look at our market analysis blog page for our analysis onOLN, HTZ, FB, HD,ABX, JNJ, SPY and you'll see our Long and Short picks.

The average investor and trader always asks me 'How to I create a Trading Strategy'. The answer is very simple yet complex.

Before we get into the details of creating a trading strategy, it is beneficial for you to understand what NOT to do. The WHAT NOT TO DO will save you more money in the long run than all the profits you'll generate from a profitable trading strategy. 

The list of things you should never do:

1. Don't spend any money purchasing anyone's trading system or strategy

It will be a waste of time and money. Guaranteed! and I'm not a fan of guaranteeing anything. 
You're better off reading Reminiscences of a Stock Operator, the best book hands down on investing and trading, and finding a mentor who will teach you how to play the money making game. 
That is truly all you really need and don't complicate the process by reading over 100 books, learn from someone who knows how to do it.

Trading strategies and systems are a dime a dozen and the value comes from understanding what market conditions are ideal for that strategy to generate profits. So the level of your profits relies on your ability to read the general market and to deploy the correct strategy for that market. That implies that you understand how to read the technical footprint of the current market and if you had that ability then you'll surely have the ability to create your own stable of trading strategies.

2. Being biased as a Buy and Hold Only Investor 

If your goal is to minimize risk and to profit under any market environment then you are not putting yourself in the best position to succeed by only being Long stocks. 
Historically, stock spend the majority of the time going up but you've witnessed the power of a bear market, the fast declining market that was evident in the stock market from 2007-2009. 

Did your Long Stocks portfolio make money in 2008? If you suffered huge losses like the average investor then you need to take a closer look as to how to design your portfolio. You have to be aware of the bear market signs and those signs first appear in a weakening technical position. 

3. Learn how to blend Fundamental, Technical and Quantitative analysis into your trading strategy

The Big money uses fundamental analysis and learning what those guys look for can greatly improve your chances to make money. 
Traders and the dreaded High Frequency Trading groups mostly utilize Technical and Quantitative analysis. These guys are better at timing the markets. Learning how to take advantage of each camps strengths and weaknesses will give you the edge needed to make money in the markets. But that's complicated subject and we will address that under a different article.

The team at BehindWallStreet.com is creating a series on Lessons learned Trading For a Hedge Fund and these short articles will show you how we made and lost money, how to minimize risk, how to create trading algorithms, how to start a career at a Hedge Fund, how to build a trading system, pretty much all the things you need to know in order to survive in the harsh world of trading and investing.


By Joel Laceda - September 9, 2013 BehindWallStreet.com