Chapter 22
Tools of the Trade
In This Chapter
• Begin with the basics
• Technology for traders
• Connecting to the market
• Information resources
Active trading is mentally, emotionally, and physically demanding as a full-time endeavor. If you have dreams of lazy days in your pajamas, sipping coffee, and playing the stock market, you should wake up to the reality that active trading is hard work. At least it is if you want to make money.
Because the business is so intense, it is important that you prepare every aspect of it for maximum efficiency and comfort. This means a comfortable, but efficient office, top-of-the-line technology, access to the best news and information resources, and the time to put all of this together. When you begin trading full-time, you should know all aspects of your technology and trading account, so making those work are not a distraction from your main job, which is finding profitable trades. Every step you take that isn’t directly related to finding and executing profitable trades is wasted. The tools of your business are there to help you avoid any wasted steps.

Your Domain

Most active traders work out of their homes in a spare room they set up for an office. This arrangement usually works fine if you take the time and spend the money (if necessary) to make sure it is outfitted for your active trading business.
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Trading Tip
Your friends may be jealous of your work-at-home lifestyle, but if you are to be successful, you will probably work harder at active trading than any other job you have ever had.
If you have a choice, pick a room that is not too cramped, but isn’t huge either. It should be large enough to hold all of your equipment and supporting resources, but not so big that you have to get out of your chair to reach important items.
It is best if you don’t share the room with anyone else or any other function—not the laundry room, for example. It is understandable that not every residence has extra rooms that are not used for anything else, but do your best to claim the space as your exclusive domain. This is especially important if you have young children in the house. Don’t even think about being an active trader and caretaker of young children at the same time. Do one or the other, but if you try to do both at the same time, you will not do a good job of either and raising young children is too important not to give your full attention. You should also be careful that you do not try to take a home-office deduction on your taxes if you use the room for other purposes. A dedicated room for trading may let you claim a home-office deduction, but check with your tax adviser because the tax code is constantly changing.
A good compromise is to set certain times aside during the day when you close your trades and spend uninterrupted time with the children. This only works if there is another adult in the residence whose primary job is looking after the children. You might consider a special, age-appropriate sign for your office door that tells the children you are busy.
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Margin Call
Finding a good balance between work and your home life is more difficult when work is at home. You may find it difficult to leave work, but set regular hours just as you would in a regular job to keep life in balance.

The Furnishings

You will need plenty of desk space for reading material, computer keyboards, and other tools. You can go as fancy or plain as you wish and can afford; however, there is no need to spend thousands on expensive tables in the beginning of your trading career. Simple folding tables from any office supply will do. After you’re making six-figure profits you can move up to oak tables.
One furnishing you should not scrimp on is your chair. Plan to spend 10-plus hours a day sitting in this chair, so buy a good one. It should provide good back support, be adjustable in height and tension on the back. Consider the covering for wear and how comfortable it will feel after sitting in it for hours. Your back will feel better after a long day if you have a supportive chair.
Other standard office items such as a file cabinet (for records, receipts, and such), bookshelves, and so on can be bought strictly for utility value when you are starting out. However, make sure your work area has adequate lighting that doesn’t cast a glare on your computer monitors or work surface. This may mean desk lamps or other additional lighting to illuminate your work area. If your office has an exterior window, be careful how it is oriented to your work. A bright exterior light can sometimes obscure monitors or other work areas. On the other hand, natural light will keep your sense of connection to the outside world. It is easy to become consumed in trading to the exclusion of all else.
Market Place
When you are starting your business, focus on spending money on those items that will contribute to your profits and buy everything else as inexpensively as possible. Before you buy an item for your office, ask yourself, “How will this help me make profitable trades?”

Technology

Technology has made active trading possible from your home. Hoping a three-year-old computer will not crash is a bad idea, so you’ll want to upgrade if your system is more than one year old—your old system can serve as a backup. This is the main tool of your business, so don’t cut corners when upgrading.
As you are deciding how to equip your computer, consider the software and services you will be using. You’ll want a significant over-capacity to accommodate multiple programs running at the same time. The most important areas of upgrading are in internal memory (RAM), the hard drive, and the video card.
A good rule of thumb: if your most intensive program requires 2 gigabytes (GB) of RAM, equip your computer with 4GB. The hard drive should be the largest you can buy with a desktop and the video card should be the top one offered for the computer. You will need this processing power to crunch numbers and, if you use charting software, to quickly draw charts for fast-moving markets.
If this sounds like overkill, it probably is, but it is better to have too much processing power rather than too little. Besides, you have no way of knowing what services or features you might want to subscribe to after trading for six months that will require extra processing power.

Screen Test

One of the most important decisions you’ll make in buying your computer will be in selecting monitors. Notice the plural—“monitors.” You will need and want more than one monitor. Stick with flat-panel LCD screens for your monitors. They take up less room and are easier on the eyes. For active traders, bigger is better in monitor size, so go with at least 21-inch screens.
On one screen, you will have your direct access broker account screens open and ready to trade. Most advanced trading platforms have multiple windows you’ll want open, such as Level II screen, Time and Sales Screen, an Order Screen, and your account screen.
On the other monitor, you might have charting screens (either your broker’s or a separate charting service), news wires with alerts on, and other information sources, such as respected chat rooms.
Your job will be to monitor these screens while identifying potentially profitable trades. You won’t be able to juggle this much information the first time you try, which is why it is important to do enough paper trading to get familiar with the technology and information, before you actually begin trading for real. These dry runs will help you acquaint yourself with the software, but also with the hardware. When you are trading real money, you don’t want to get stymied by a software or hardware problem.
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Trading Tip
Before you begin your active trading career, get a good physical checkup, including an eye exam. Tell the eye doctor what you will be doing and, if you need glasses, get a special pair just for watching monitors. Don’t be concerned about fashion in your office at the expense of eyestrain.

Doubling Up

Do yourself a big favor and have a duplicate of just about everything ready to swap out or replace a broken component: that means a spare keyboard, mouse, and, yes, even another computer. If you had a computer before you upgraded and it is fairly new, you can use it as a backup. Have it set up with the essential software you need to carry on trading if your main computer goes down. You may not want to load every piece of software, but enough so you can connect with your broker and either continue trading or close your short-term positions.
You can use the backup computer for e-mail and other non-trading activities, leaving the main computer dedicated to your trading business. Many of the newer laptops are capable of serving this capacity and let you take your trading business on the road.

Power Play

Most computer users know about power strips and surge protectors. Active traders need to take their office one step further and install an emergency power backup supply. These systems, which are available in most office supply stores and online, provide a period of backup electricity should power go out to your house.
Your computer and any high-speed Internet modems should be connected to this backup. You can buy systems that will provide various amounts of backup time. The more equipment you have attached to the system, the less time it will provide. You need this protection to close out any positions you have open in a power failure. Since you never know how long power will be off, the safe action is to close your short-term positions. Longer positions with appropriate stops can be left open.
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Margin Call
If you have several highly margined trades opened, count on a disaster striking at some point in your trading career. If you are prepared with a backup strategy, you may be able to get out of your positions without major losses. With no backup plan, you leave yourself open to two disasters.

Using Your Connections

Short-term trading (scalping, momentum, and some forms of swing trading) require lightning-fast execution. This requires a high-speed Internet connection. You must have a DSL or cable Internet connection to transfer data at the speeds necessary to keep pace with the markets. In many markets, cable connections are faster than DSL and that should be your primary connection.
However, knowing that bad things can happen, you should also have a DSL connection to your backup computer. If your cable connection goes down, you can switch your main computer to the DSL connection or jump on the backup computer to keep working.
If you live in an area where neither cable nor DSL service is available, consider a commercial satellite Internet connection. Satellite Internet connections are not as reliable as cable or DSL because of atmospheric conditions, but rapid improvements are being made. If all you can get is a satellite connection, be very careful about the types of active trading you do until you are comfortable with the performance and reliability of your service.

Fail Safe

As a last resort, when a major disaster strikes, be sure you have a cell phone that works and written instructions (including your account number and other necessary information) handy. If you can’t connect to the Internet by your primary or backup systems, you’ll have a way to call your broker. Having all the phone numbers and account numbers in writing will save time when you need to make that call in a hurry.
Market Place
If your system goes down or the power is lost for an extended time and you can’t get to your account, call your broker and close all your orders no matter what. This way you are out of the market until you can see what’s going on when you are reconnected.

Two Trading Accounts

In the spirit of doubling up on everything, you should also consider having two different trading accounts. There are several reasons for this redundancy that relate back to protecting your positions in the event of a disaster on either end of the trading equation.
We have discussed the ways you can protect yourself from a disaster at your office due to equipment failure, loss of power, and other problems. But what happens if your direct access broker goes down with its own problem in the middle of the day?
Although it is unlikely—modern brokerages have multiple backup systems and emergency power supplies—the unthinkable can and does happen. If you have a large position open and your direct access provider crashes, you could be in big trouble.
A second brokerage account won’t let you reverse a position opened by another broker, but you can take an offsetting trade to limit your risk until your primary broker comes back online. For example, if you were long in a stock when your broker became unavailable, you could check the price via your backup brokerage account and short the position to offset any loss if the stock dropped. If the stock fell, you could cover your short and short the stock again further up. You could also buy an in-the-money put option. There are other steps you could take to protect an open position, but you would be at risk if you had to set up a new account and wait for all the paperwork and money to clear before your could use it.
Having a second trading account, especially one with low commission, may also be useful for placing some swing and position trades that don’t require intra-day pricing. Depending on the fee structure, it may be cheaper to do the trades on that account. Conversely, you could do your long-term investing on that account and keep those transactions separate from your active trading strategies. There may be some tax benefits in this separation, so check with your tax adviser.
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Trading Tip
Your second brokerage account should be accessible by your computer or cell phone in the event you need to connect that way. With the proliferation of “smart phones,” that is a viable way to connect to your account.

Shopping for Your Trading Account

Here are some of the larger online brokerage accounts that also have special arrangements for active traders. They would make good second accounts after a direct access provider for most active traders. Some traders who will only do swing and position trading could use one of these as a primary account. (Note: The website addresses for the sites mentioned in this section are listed in Appendix A.)

Schwab

Schwab is the granddaddy of discount brokerages and is carrying this tradition to its online offering. It offers its own research and clients can work with an investment adviser or Schwab will manage their account for them. It offers a section for active traders.

E*Trade

E*Trade gets high marks for its range of offerings including banking and mutual funds. The company has absorbed several other brokerage firms and is now a significant player in the online stock-trading market. Like its competitors, it offers active traders lower rates on their trades.

Fidelity

Fidelity shows up at the top or near the top of almost every ranking of online stock-trading brokers. They are not the least expensive, but top most lists in customer satisfaction. Fidelity is known for its research and investors can talk to advisers face-to-face at one of the many Fidelity investment centers.

Muriel Siebert

Muriel Siebert may not have the marketing muscle of other online stock-trading sites, but it is a solid brokerage house worth your look. The company receives high marks for customer service and research. The fee structure is straightforward and easy to understand.

Scottrade

Scottrade’s claim to fame is superior customer satisfaction as noted in J.D Power and Associates’s survey of online brokers. Commissions are on the low side and transactions are processed quickly.

TD Ameritrade

TD Ameritrade is another brokerage that is the result of mergers The company has a good education section and is known for customer service.

TradeKing

TradeKing is an online stock trading site to check out for low-cost trading. This is their thing, and SmartMoney.com, Barron’s, and Kiplinger all agree. If you are looking for the low prices on trades, this is a good place to start.
Market Place
Low commissions are very important, but so is ease of use and customer service if you have a problem. Most of these brokers will let you try a demo before you open an account.

Vanguard

Vanguard made a name for itself as the low-cost leader in mutual funds. Vanguard is a solid company that excels in providing value to their customers and in consolidating investments in a brokerage account.

Wells Fargo

The financial services powerhouse Wells Fargo has an online stock trading site that fits its image of offering comprehensive services. You are offered five different levels of accounts depending on whether you want a strictly independent trading account or a version of their managed accounts.

Information, Resources, and Training

Your computer may be your main physical tool, but it is your knowledge, training, and access to research that will make you a successful trader. No one should consider starting active trading without solid preparation in the form of training, research, and practice.
Fortunately, you can do most of your preliminary training and preparation before you quit your “day job” and plunge into active trading on a full-time basis. The Internet offers a large selection of training courses and resources, many free of charge or for nominal fees. Even if you are an experienced investor, it will be helpful to explore the resources dedicated to trading since this is a different discipline.
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Trading Tip
There are many good online courses, but, as you might suspect, there are also a number of snake-oil peddlers who promise unlimited wealth with 30 minutes a day of work. Trading scams are a real problem, but remember, the only secret to success is hard work and education.

Free Information Sources

The Internet offers a treasure trove of free information on trading and investing. While some of the information on investing works for active traders, much of it does not. For example, the major exchanges, Nasdaq and the New York Stock Exchange, have educational material on their sites. However, most of the information is geared to investors rather than traders. Both websites are worth a visit for their free information even if most of it targets investors.
While the major exchanges are noted markets for stocks and bonds, other exchanges are markets for derivatives and commodities. These securities are not investments, but are traded for the most part. Options, futures contracts on commodities and indexes, and assorted combinations of other derivatives are all traded securities. The websites for the exchanges that clear these securities want you to be familiar with the products and how to trade them.
The exchanges offer Web-based classes, tutorials, and other training opportunities online. Some exchanges offer in-person training for more advanced traders.
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Margin Call
Always consider what organization is offering free education and what its motive might be. Brokerage firms want customers who trade, stock exchanges want investors, and software vendors want customers.

The Stock Exchanges

The major stock exchanges cater to investors, so the information you find there is geared toward the long-term holder. However, it is important to know how the exchanges work, and the educational material is top notch.

The New York Stock Exchange (NYSE)

The NYSE is the most prestigious exchange, but not the oldest—that honor goes to the Philadelphia Stock Exchange. The NYSE offers information on stocks, bonds, and exchange traded funds. Its recent overseas acquisitions will made it a truly global market, a fact revealed in its new name: NYSE Euronext.

The Nasdaq (Nasdaq)

The Nasdaq pioneered the electronic market that was the blueprint for modern trading. The edgy market was dismissed for years by the Wall Street crowd as a place for stocks too small for the real stock market to trade. Since then it has grown to become home of some of the largest companies in the world. Still, Nasdaq is more for investors than traders, although you’ll find plenty of free information.

The American Stock Exchange (AMEX)

The American Stock Exchange slipped into obscurity for a number of years, but one product—the exchange traded fund—has brought it roaring back. As the popularity of these products (over 350 are traded on the AMEX) has exploded, so has the fortune of the AMEX. The exchange could never compete with the Nasdaq or NYSE on stocks and bonds, but has carved out a significant niche with structured products. That has been enough to make them a takeover target for NYSE, which should conclude in late 2008. The AMEX site is rich in information on structured products and ETFs.

Options and Futures Exchanges

While the major stock exchanges cater to investors, the derivative exchanges are more focused on traders, because their products are designed to be traded. You will find comprehensive educational information on these sites, which are targeted at traders. In addition, some classes are offered in person.
def·i·ni·tion
Derivatives are securities that are based on other investment products. For example, stock options are based on the underlying common stock, so the option’s value, in part, is tied to the value of the stock.

Chicago Board of Trade (CBOT)

The Chicago Board of Trade provides educational information on trading futures, commodities, and a variety of financial futures. Online information and tutorials are offered along with live workshops. A recent listing offered a 3-day workshop for the “Active Futures Trader.”

Chicago Board of Options Exchange (CBOE)

The Chicago Board of Options Exchange is the place to go for information on trading options. The CBOE offers an extensive educational program through its Institute, which includes online courses, live online tutorials, and classes taught in Chicago. The site also offers a variety of calculators and other tools helpful to options traders.

The Chicago Mercantile Exchange (CME)

The Chicago Mercantile Exchange offers online and live educational and training events in trading futures. You can learn about their unique weather futures as well as traditional stock index, single stock, agricultural, and commodity futures contracts. From this site, you can link to brokers’ sites, which will allow you to paper trade.
The stock and commodity exchanges are in the midst of a consolidating period, so some new names may appear because of mergers and takeovers.

Nonprofit and Government Agencies

In addition to the exchanges, several nonprofit trade groups and government agencies have websites that offer training or educational products that are either free or available at a nominal fee. Here are some of the main offerings:
The Institute for Financial Markets. This nonprofit group provides resources for people trading options and futures. It is geared primarily toward industry professionals, but does offer courses that work for individuals. Some of its material is available in print form.
The National Futures Association. This trade group has an extensive investor education section that deals with futures and options of futures. There are online courses and some written publications. The group also provides training and information courses and publications on forex trading opportunities.
The Investor’s Clearinghouse. This site covers more information for investors than traders. However, if you need a refresher on investing basics or want more information on bonds, for example, it’s a good source. The site is an aggregator of information, so you’ll be taken to other sources for the various courses.
The Securities and Exchange Commission. The Securities and Exchange Commission (SEC) is the ultimate federal agency charged with regulating investing and the markets. In addition to links to educational material, you can find information on companies that have violated SEC rules. The site also explains how to file a complaint.
Market Place
Nonprofit groups tend to be fairly conservative in their educational approach and focus on investing ideas. However, they do offer good information on securities and the investment process.

Brokerage Firms

Many brokerage firms offer educational materials on their sites—obviously, it is in their best interests to encourage you to trade. Those firms that cater to active traders will have more and better material that is specific to trading. In addition, many firms offer live workshops or seminars in major cities. These are obviously client-building opportunities for the firms, but they are usually a good time to get a feel for the people behind the brokerage. They can also give you expert tips if you are a customer of their online software.
 
The Least You Need to Know
• Spend an adequate amount on the technology you need for your trading business.
• Set your office up as a professional work environment.
• Be redundant in all critical office equipment, Internet connections, and trading accounts.
• Take advantage of free or low-cost online educational resources.
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