Real Story: One Bad Trade

"Send lawyers, guns and money. The s%@! has hit the fan" -- Warren Zevon

I'm a pretty good intermediate- and long-term investor. Whenever I have kept my emotions in check and done my homework, I've done fairly well over the years. I no longer own individual stocks, per TheStreet.com's policy. But prior to that, I had some decent winners. I scored more than a 10-bagger in Polycom (PLCM Quote). I also doubled my money in Tyco (TYC Quote) and got out before it imploded.

The short side has been good to me as well. Shorts of Adobe(ADBE Quote) and Nvidia(NVDA Quote) were big winners for me during the bust five years ago.

Of course, I've also had my share of losers. I still have a Quokka stock certificate somewhere in my files. But overall, I have no complaints as to how my stocks and mutual funds have performed over the years.

But when I trade shorter term, I'm susceptible to a lot of the problems that affect many traders -- notably, allowing my emotions to get in the way and ignoring my own rules. Despite following the markets all day and having access to some of the best investing minds in financial journalism, I find myself embroiled in a trade gone bad that I would like to outline for you.

It is my hope that by putting each step of the trade down on (virtual) paper, you will be able to take away a lesson or two of what not to do. I also hope that this exercise will pound some wisdom into my thick skull as well.

Looking for a Trade

When I joined TheStreet.com, I had to sell all of my individual stocks. I am allowed to trade ETFs and mutual funds. Other than the (USAGX Quote)USAA Precious Metals Fund, which I bought to replace Barrick Gold (ABX Quote) in my portfolio, I sat on my hands for a while as I threw myself into my work.

After a couple of months, I wanted more long exposure to the market. I purchased the Vanguard Small-Cap Growth Vipers (VBK Quote) on a retreat to its trend line. When I "trade," I trade technically. When I invest, I use fundamentals for ideas and technicals for timing.

In March, tech was performing well. I was searching for a tech ETF in a solid uptrend. I found the iShares Goldman Sachs Networking Index (IGN Quote). Telecom and networking had been acting great. The only problem was the ETF was not coming back in. I found my performance improves when I buy pullbacks to technical support as opposed to buying breakouts. That probably has to do with the lower risk of buying near support and, thus, the lower level of emotion.

Pulling the Trigger

After several weeks of waiting (I was quite proud of my own patience), IGN finally came back in to the trend line. I snapped up some shares on April 25 at $35.27 (see chart below).

Click here for larger image.

Source: StockCharts.com

Looking back over the past months, volume had risen on the price increases and fallen on the corrections. However, volume climbed on the leg down to the support level at which I bought. Not a great sign, but with a small amount of risk due to the trend line, I was still comfortable with the entry.

A few days later, IGN broke the trend line. Volume on the break wasn't overly impressive, and I usually wait one day after my supports or resistances are broken to try to avoid being shaken out (a problem in my early trading days). The ETF quickly came back and even broke a short-term downtrend line. It looked like a false breakout, and I assumed IGN would be back at its high of $37 in no time. Even when it came back in to the trend line again on May 9, I wasn't overly concerned.

Ignoring the Signs

Nevertheless, I wasn't thrilled with how the overall market was reacting. Tech wasn't working as well as other areas, and it appeared that rotation out of the group was underway. On May 9, Jim Cramer told us industrials were the place to be, while Cody Willard moved to cash and IGN gapped lower -- below both the uptrend line and the short-term downtrend line.

Again I waited, as I don't like to exit on the day a position breaks support or resistance. But May 11 got ugly. IGN gapped down once again. I said to myself, "I'm out today. I'll just wait for a bounce." The bounce never occurred, and it closed near its low of the day. Friday it gapped lower once again.

Click here for larger image.

Source: StockCharts.com

As I write this Tuesday afternoon, the 200-day moving average has just been breached (see chart above). Should I wait one more day to see if I get a little more of a lift? I've given up hope of turning a profit. At this point, I just want to make a smart exit (too late for that) and not sell at the bottom.

I'm not sure why I've been so hesitant to dump this one. It's not ego; I've sold many losers before in a timely fashion. Perhaps it has to do with my stubbornness to buy weakness and sell strength. Because there were no instances of strength, there were no opportunities for me to exit.

There are plenty of other ways to botch a trade. Hopefully, I won't be discussing them anytime soon. Writing this column was not only cathartic, but it helped me formulate my plan for making sure I don't make the same mistake again.

I'm a big advocate of sell stops, even posting on the topic in RealMoney.com's Columnist Conversation. However, I naively thought that because I watch the market all day, a stop wouldn't be necessary, and I would "know" the right time to get out.

I can safely say that I will be employing the use of stops much more rigorously in the future to prevent the kind of trading debacle that this IGN trade turned into. I would have saved myself a lot of capital -- both monetary and emotional.