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“You must be rigid in your rules and flexible in your expectations. Most traders are flexible in
their rules and rigid in their expectations."
-Mark Douglas, Trading in the Zone.

It’s one of my favorite quotes about trading, because it points out a huge mistake that’s made by
90% of traders.

In reality, however most traders have it backwards. They are flexible in their rules and rigid in the
expectations. When you dig down even further the darker reality is that most active investors
don’t even have a core set of rules to which guides their investment approach.

Since 1997, I’ve been a full time trader. In the late 1990s, I made a small fortune trading stocks.
After some huge early successes, I experienced a two-year trading slump.

This experience forced me to develop strict rules for to my trading. And by following those rules,
I’ve become more successful than ever before.

During this time, I’ve also started my own brokerage firm, launched a hedge fund, and personally
trained more than 1,000 professional traders. Along the way, I’ve discovered the biggest flaws
that separate a select group of talented traders from everyone else.

Many people I have worked with over the years say that you cannot follow rigid rules. That’s
because trading requires your expectations to be flexible. Obviously, it is true that trading
requires you to be flexible. However, all of the contemplated flexibility can be part of your plan
and your rules.

For example, you can decide ahead of time and define what a ‘change in market direction’ is and
then define how you react to that new information. You could react by selling all of your position,
selling half, or raising the stop.

It’s with this attitude I want to take some time to share with you some of my most valuable
trading rules. By following this exact set of rules, I’ve been profitably trading the stock market for
nearly 20 years. It’s this exact set of rules that I’ve taught professional traders at my brokerage
firm and shared with my coaching students who pay as much as $2,000 per day!

Now I want to share these five golden rules for profitable trading with you.

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Rule #1: Lose Small

It is so simple to understand, and yet it’s so painstakingly difficult to execute.

The fact is that large losses require a trader to make even bigger gains to catch up.

Let’s say you start off with $25,000 in your account. If you lose 50% of that money, you’re down
to $12,500. To get back up to $25,000, you need to make another $12,500. That’s a 100% gain, or
double your money.

Mathematics aside, there’s a second and far bigger factor at play. Big losses will frustrate you to
no end, as it’s much easier to move on from a 5% loss than a 50% loss.

Big losses also put you at risk of mismanaging your emotions. You could swing for the fences a
little too hard on the next trade, or you could become gun shy precisely when it’s time to embrace
risk.

Therefore, you must have a plan to prevent small losers from turning into major losers. The
simplest solution is to institute stop losses. For example, you could sell a stock when it loses 3% or
5%.

What I do in my personal trading account is to take a mental gut check. If a trade is going against
me, I sit back, take a deep breath, and think about whether I’d put it on again right then and
there. In the past, I’ve had a tendency to get stopped out of trades on the lows, so I find it best to
not rush to the exits too quickly while still maintaining a hard line in the sand.

Rule #2: Perma-Anything Is No Good

Permabulls always say everything is great and that everyone else is bearish.

Permabears always say everything is awful and that everyone else is too bullish.

They’re both easy to spot -- they paint melodramatic pictures of fortune or doom based on
incredibly simple reasoning, like a single valuation metric or economic statistic.

And with the advent of social media, there’s a whole new generation of charismatic Internet
finance celebutards with varying levels of expertise.

Like the permabulls and permabears, you don’t have to work hard to find the bad apples. The
giveaway is that they tend to drone on endlessly about their huge trading wins and perfect
economic forecasts. I’ve been around Wall Street people for over two decades and if someone is
trying to prove that they’re smart, rich, or successful, the odds are they’re not.

All these folks have a big thing in common: when you press them for details, they go silent. On the

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flip side, I’ve found that genuinely smart and successful people like to share research,
spreadsheets, and other information. They don’t have anything to hide because they’re not
insecure about what they do.

In the end being rooted solely on one side or the other will keep you more concerned with being
right than being rich. I try to remain 100% flexible, and I’m always on the lookout for a winning
trade. When the setup is right, I’ll pull the rigger and buy or sell.

Rule #3: You MUST Time the Market

The conventional wisdom is that it’s impossible to “time the market.”

But I’d say that you MUST time the market, if you want to get ahead.

Good investing isn’t about putting down the right chips. It about when you put those chips down.

Let me tell you a story.

I have a close friend who worked for a hedge fund that made a major bet that the housing bubble
would implode..

Smart money, right? Yes, they were smart. In fact, he showed me a 200+ page report full of
statistics, commissioned studies, and in-depth analysis of regional housing markets. This report
was so spot on that they predicted the 2008-2009 housing meltdown to perfection.

There was only one small problem...they did it too early. I read that report in early 2003 right
before the Housing Index (HGX) doubled. The fund got crushed and went out of business
years before their prediction came to fruition.

If you have an investment idea in your mind, ask yourself, “What makes now the right time to bet
on this?” That’s the toughest question you’ll ever come up against, and that’s why it’s one of the
most important.

Here’s a quick rule of thumb to live by: you can’t always fight the broader averages. If the S&P
500 is skyrocketing, even junky stocks can go up. Likewise, if the market’s in meltdown mode,
even the best of the best can get smashed.

Apple (AAPL) closed out 2007, the year it launched the iPhone trading just around $200 per
share and many smart traders accurately predicted that the iPhone would be a huge product.
They were right: iPhone sales grew from 1.4 million units in 2007 to 11.6 million in 2008.

But in 2008, Apple stock fell 57% to $85.35.

So, you could have been correct on the idea but completely wrong on the price. Understanding the

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who, what, where, and why of a story are important. But if you can’t answer WHEN, it’s going to
be nearly impossible to make money.

Rule #4: Fundamentals Alone Are Futile

Are you a fundamental investor? Do you focus on ratios like price-to-earnings and price-to-sales?
If you’re limiting your analysis to the company’s fundamentals and looking for values, you are
going to be in for a rocky road.

That’s because cheap stocks can be horrible investments. And expensive ones can be among the
best.

Remember Shake Shack (SHAK)? On its first day of trading, it was trading for 600 times
earnings, which was obviously crazy. Of course, just not at as crazy as when the stock doubled and
it went to 1,200 times earnings shortly thereafter.

There are countless other examples of expensive stocks that just keep on going up: Netflix
(NFLX), Amazon (AMZN), and Facebook (FB), and the list goes on and on.

A high-priced momentum stock can suddenly look cheap if earnings are strong and earnings
expectations rise. A P/E ratio, like every other valuation metric, is 100% meaningless in isolation.

If you were to ask 10 highly distinguished Wall Street research analysts to give their opinion on a
stock, I would bet that one third would may say buy, one third may say sell and the other third
may say hold. So who’s right? They’re all looking at the same fundamental metrics, yet they’ll
come to extremely different conclusions on the outlook.

What I have learned is that the market is never wrong. Rather than trying to “pick the right
analyst and hope for the best,” I have learned to follow the footprint of money.
The footprint of money is only seen through the lens of stock price movement. And that’s exactly
how stock charts help explain what’s next.

Rule #5: Think Like Bruce Lee

You may not know this, but Bruce Lee’s martial art could not have been as successful and
complete without the deep philosophical base he gave it.

Martial arts, by nature, are a reflective practice where the practitioner must not only examine the
issues of life or death but the nature of the self.

Let’s look at some interesting things Bruce said in his time and my interpretation for a trader.

“Water is so versatile it can be ice in the winter and steam in extreme heat.”

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My interpretation: Traders do well when you’re a bull in a bull market and a bear in a bear
market.

“Water can wear through a rock if it is a strong river.”

My interpretation: You can win in the markets if you keep trading the right method over and over
again.

“Water takes the form of whatever you put into water.”

My interpretation: Traders should trade for the market conditions that they find themselves in.

If Bruce Lee were to ever be a trader, I also believe this would be some of his advice accordingly
about the markets and trading:

If you let the market show you the way you will win.

Do not trade your opinions about what the market will do next. Instead always ask the right
questions:

 What is the chart saying? Where is support and resistance?

 Is the market trending or range bound? At what price level will I know that it has
changed?
 Where is all the capital flowing? What keeps going up day after day?
 If I make a trade, at what price level will I know I was wrong?
 Can I quickly admit I am wrong about a trade and move on to the next one?

Lastly, and perhaps most important of all – Did you know that Bruce Lee believed that the more a
person smiles, the higher their moral worth.

So keep smiling…it’s only trading.

Start Trading Like a Pro!

In the coming days, you’ll be receiving your complimentary membership to Chart Trader.

With this free e-letter, I’ll share everything I’ve learned from 20 years of trading stocks.

I’ll show you my favorite technical indicators and explain how to pick the perfect trade. Plus, I’ll
be sending you some special training videos to help you become a better trader.

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