How to dodge multiple ways that stock market kills traders

Are you a trader or an investor? These terms often get inter-mixed a lot while each represents totally different things.

Here’s a quick distinction: If you bought (and are still holding) Kenya Airways after it was rescued from the brink of bankruptcy, believing your thesis of a turnaround will unfold in a couple of years, you are definitely an investor.

If you are shedding your KCB holdings believing they are going to undershoot their 2019 earnings forecasts in order to buy the dip, you’re most likely a trader. Kapeesh?

Now, let’s focus on the latter and set a few things straight. This section of market players is often interested in short-term deals, use a lot of technical analysis and often place opportunistic trades.

Unsurprisingly, a small proportion of traders ultimately make a solid living from their performance. Like in any elite performance fields, whether it be golfing, acting or singing, many are called few are chosen. And so market kills traders in a thousand ways but today we focus on three.

One unappreciated factor is trading costs. If an investor buys and holds, his commissions and other expenses will be minor factors in his success or failure. Not so for traders, this group has a hard task as seemingly these “trivial” expenses (a 2.1 per cent charge on total trade value in most cases) can break them.

Stated differently, if you buy a stock for Sh5 and sell at Sh8, your profit is not Sh2. Keep going like that every month for a year, if you are making losses, your commission cost will likely rise to over half of your equity.

That’s a lot of money. Sadly, most amateur traders hardly think of them, yet transaction costs are a leading cause of trader mortality. Adjusting your strategy to reduce these costs increases your chances of surviving the game.

The other important factor is liquidity (which refers to the average daily volume) and its kissing cousin; slippage. It is easy to join a huge crowd and just as easy to leave without drawing attention to yourself and distorting the market with your order.

That said, what does it benefit you to build a profitable position in a thin stock only to get caught in the door at the exit and suffer slippage trying to take profits?

Sadly, most traders have a tendency of following illiquid names. Traders can bring some sophistication to their investments by finding good liquidity in the leading stocks — Equity, Safaricom and KCB group.

Lastly, lack of organisation is another factor. Most traders lack a set of technical rules guiding them on how to enter when the time is right and exit without regrets after hitting their profits or loss limits. For most, chatroom rumours, coat-tailing and hot tips guide their trading.

Early in my trading career, I fell for the same gung-ho approach (a “system” I witnessed some older traders at the old NSE Pavilion used) which I eventually noticed was running my account to the ground.

I later learnt that my survival hinged on having a good money management system and keeping good records (an organised trader keeps a trader’s spread sheet, a trading diary and an action plan).

The logic is simple; if you do not learn from your past mistakes, you’re doomed to repeat them.

Since then, whenever I see someone with good records, they are either a successful trader or soon to become one.