Yesterday I wrote and introduced Dan Roam’s visual decision-making strategy (Back of the Napkin). We examined the first two elements of the first part of his process as it applies to trading. Figure 1 shows the whole process.
Today, I’ll examine the two remaining elements:
- Imagination and
- Show
In the ‘Imagination’ phase, we see to answer the questions we have posed from the data. Recall that in the video S&P analysis, I said that the critical question was:
“Are we repeating the 1966 to 1982 scenario or are we replicating 1929 to 1942?”
In this phase, we take the categorised and sorted data and imagine the possible answers. Since trading is a probability/uncertainty game, I prefer to give at least two scenarios:
- A preferred scenario with its benchmarks and
- A counter preferred scenario with its benchmarks.
This way I seek to prevent myopia from setting in.
The ‘Imagination’ phase completes the analysis phase. But as traders, our job is incomplete. We need to translate the analysis into a plan of action: the ‘Show’ phase.
Again in this phase, since I don’t know what the market will do, I create a series of scenarios and plan my response (actions) within them. At the very least the scenarios will tell me:
- what I have to see for me to take a trade;
- where my initial stop is likely to be located;
- where my core profit exit is likely to be.
With this information, I can assess my risk reward and ensure the trade is within my risk parameters. The final phase of ‘Show’ is to visualize my execution of the entry and stop loss under the listed scenarios.
What happens if the market does something not within the scenarios - this tells me I have to recycle the Imagination and Show phase or walk away from the trade.
FIGURE 1 Visual Decision-Making Process
Refer this blog post to a friend or colleague…
