What is position trading, and how does it work?

Out of the wide range of trading strategies, position trading is one with the longest period. Position traders hold trades for at least several weeks. Therefore, this method requires patience, time, and significant funds. For instance, Philip Fisher, a famous position trader who Warren Buffet followed, opened a buy position on Motorola stocks and held it open until he died in 2004. 

Keep reading to discover whether it’s worth waiting for returns for years. 

Position trading: definition

Position trading is an approach that implies opening long and short positions on assets and holding them for weeks, months, and even years. Trades are open on high timeframes, including daily, weekly, and monthly. Position traders focus on long-term trends only. The main challenge is to determine a long-term trend. Indicators with standard settings and candlestick patterns won’t work. 

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How to open a successful position trade

To determine a long-term trend’s direction, you need to conduct a comprehensive analysis.

Three timeframes

This rule applies to any trading approach. Before opening a position, you need to analyze smaller and larger timeframes. For instance, if you plan to open a trade on a weekly timeframe, you should check an entry point on a daily chart and determine a longer-term trend on the monthly chart. 

Support and resistance levels

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Support and resistance levels are vital for any trade. They determine when a price may turn around. In position trading, these levels allow traders to identify entry and exit points as well as where to take profit partially by applying a trailing-take-profit tool.  

The key indicators you can use to set support and resistance levels are a Fibonacci retracement and a moving average. The Fibonacci retracement determines the levels based on the previous trend. Moving averages with long-term periods can determine entry and exit points via crossovers and by themselves.   

Understanding regret avoidance

Regret avoidance is a situation where someone wastes their money, energy, or time to avoid the feelings of regret they might have following a decision. People fear regret and do not want their initial decision to go to waste. For this reason, they spend a lot of resources to make sure the initial investment does not go down the drain.

For instance, let’s say that you purchased a bad motorcycle. Then, you end up spending more on repairs than the original cost of the motorcycle. Regret avoidance occurs because instead of admitting that you made a mistake by buying that particular motorcycle when you could have bought a different one, you spend more money trying to fix it.

Sometimes, the real issue is that you make a decision faster than you should. This way, you do it without having any of the necessary details that you need so that you do not regret your decision afterward.

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Regret avoidance during the housing crisis

Many homebuyers did not walk away from their mortgages back in the housing crisis of 2008, even if the value of their properties decreased so much that the mortgage payments were not even worth it anymore. Homebuyers only managed to walk away when property values went under 75% according to research conducted in 2010.

Numerous people would have walked away much sooner if they made decisions according to economic factors rather than their emotional attachment to the houses. The fear of having spent so much money on nothing also made them walk away from their mortgages later than they should have done.

Preventing regret avoidance

While it can be very difficult, preventing regret avoidance is possible as long as you make some informed decisions. All you have to do is understand your risk tolerance, create a portfolio plan, and understand behavioral finance.

How to backtest a trading strategy

If you are an investor, you can choose automatic trading strategies. These strategies take advantage of algorithms for trade and execution management. When the strategies you use are based on rules, this can decrease the likelihood of investors making decisions according to past outcomes from investments.

Another thing you can do is backtest automated trading strategies. This way, you will be notified of any potential biased mistakes when you create your own investment rules. Many investors now take advantage of robo-advisors because these provide access to good prices and automated investing, making them more convenient than traditional advisors.

Moreover, you can establish trading rules that will not go through changes. For instance, when a stock trade loses 8% of its value, you can exit the position, and if it goes above a particular level, you can set a trailing stop. This will help secure gains in case a certain gain amount is lost by the trade.

Ideally, these levels should be unbreakable rules, so you can stay away from regret avoidance. Also, you should refrain from trading on emotion. Doing so can only make things worse for you later, making you lose money.

Historical data

Historical price movements work best for long-term trades. As trends change around, you can find similar price fluctuations in the past to predict how the price may behave this time. To determine similar price movements, you need to compare current and previous fundamental factors. 

Combine fundamental and technical analysis

Although some position traders ignore the news if they don’t affect an asset’s value in the long run, fundamental analysis is an essential part of position trading. Usually, an asset reacts to certain events in the same way. Fundamental analysis allows for determining similar market conditions that can lead to specific price movements.  

Position trading: pitfalls

• Significant funds. To maintain a position for an extended period, you must have a large account balance to avoid a margin call. 
• Not profitable in highly volatile markets. You should avoid highly volatile markets when you plan to hold a trade for a long period. When a price changes its direction constantly, you can’t predict its direction correctly. Highly volatile markets are suitable for short-term trades only. 
• Risks of trend reversals. Experienced traders use trailing take-profit orders to lock returns they gain while a trade is open. Otherwise, the market may turn around, so they may miss a good exit point. 

Position trading vs. investing

Position trading can be confused with investing, as both approaches rely on an asset’s long-term value. However, when investing, you buy an asset and hold it until its value rises so you can sell it with a large income. In position trading, you can buy and sell. If you buy, you wait for the asset’s price to appreciate. When you sell, you expect the asset’s value to depreciate.

Takeaway

Position trading may be even less risky than shorter-term trades, as a trader doesn’t consider short-term fluctuations that usually affect traders’ decisions. Still, position trading requires experience and analytical skills to identify a strong trend and enter it at the best point.