Basic Requirements for Trading Stocks

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The cost of entering the stock market is simply the amount you are prepared to lose. Controlling risk, having a basic knowledge of investment principles and practicing trades before investing go a long way toward creating the right investment psychology needed for success.

Have a Plan Before You Buy Stock

  • Purchase stocks with a predetermined plan--a written sequence of actions for researching, buying, holding and selling stocks. This keeps you prepared for unexpected market movements.

Make Each Trade Part of a Portfolio

  • Know how a particular stock, commodity or bond fits into your overall portfolio plans. Diversify your portfolio by industry and different classes of assets.

Technical or Fundamental Analysis

  • Trade in the style with which you are comfortable. You can use technical analysis (mathematical modeling), fundamental analysis (balance sheets and factual interpretation of events) or both to form a sound trading decision. You will stay with a plan longer if you understand why you entered the trade.

Limit Risk at the Beginning of a Trade

  • Buy stocks with a known risk limit. Normally, an 8 percent drop from the purchase price is the maximum loss professional traders will accept. This is a hard (or absolute) level of loss.

Have an Exit Strategy

  • Know the circumstances under which your stock is for sale. Are you a trader, or are you an owner of stocks for the long term? Know your investment horizon, so gains are less likely to become losses.

Paper Trade Before Investing with Real Funds

  • Learn about your trading habits by keeping a log of trade entries and exits before you spend real dollars. You will learn quickly and cheaply by making your mistakes on paper and not from your wallet. Investing has a steep learning curve, so practice first.

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