Basics of how to make money in Stock Market.

There are 3 requirements for making money in Stock Market.

1. Technical Analysis –It is the study of patterns and identifying the same in stocks to predict the future. The weightage for Technical Analysis in making money is 20%.

2. Money Management- Money management is basically how you manage your trade. The weightage for Money Management is 40%. I explain it with an example.

Before taking a trade analyze the risk reward ratio in the trade and one should normally look for 1:3 risk reward ratio opportunity in the trade .Now Suppose I take 10 trades and there are 3 winners and 7 losers. So I will be making 3 units each in the winning trade as risk reward is 1:3 and losing 1 unit in a losing trade. The money I lost in 7 trades is 7 units and I made 3*3=9 units in 3 trades. So in all I will be making (9-7)=2 units .So if you see we can still make money even if we are correct 30% of the time if we have good risk reward ratio.

3. Psychology - I try to explain that with an example. Suppose we have found a pattern to trade and we are executing the trades and we get 4 losing trades in a row. Its Psychologically very difficult to take the next trade after losing money in 4 trades consecutively because there might be a case that 3 winners are the 8th,9th and 10th trade if we are expecting only 3 winning trades as explained above.

Other Psychology hurdles are taking profits too early or keep holding the losing positions.

I believe that ability to execute this comes with experience. The weightage for Psychology is 40%.

It might be surprising to see that most of the Traders talk about Technical Analysis which accounts for only 20% in making money whereas Money Management and Psychology accounts for 80%.

(You are welcome to post any suggestions)

(References: "How to make money Trading Derivatives" by Ashwani Gujral.