Book summary “The Tao of Trading”: summary

Introduction

You face a broken financial system where traditional retirement advice leaves your wealth vulnerable to market crashes and hidden Wall Street fees. Buy-and-hold strategies trap your capital in stagnant assets while brokers profit regardless of your portfolio's performance. You want genuine financial independence, but standard mutual funds and passive index investing fail to deliver the extraordinary returns necessary for true wealth creation.

Simon Ree argues that you can take control of your financial destiny by mastering professional trading techniques. You learn to reject Wall Street dogma and build an objective edge through trend analysis and asymmetric options strategies. The book guides you from psychological preparation and chart reading to advanced risk management.

• How do you overcome the emotional barriers that destroy trading accounts?
• What technical indicators reveal high-probability trend continuations?
• How can you use options to limit risk while capturing massive gains?

1. Wall Street Myths and Trading Reality

Wall Street firms are structured around scale and fee generation rather than maximizing individual client investment returns. Simon Ree spent twenty years working for major global investment banks like Goldman Sachs and Citibank. During that time, he observed that investment advisers are incentivized to bring in assets under management and sell complex structured products rather than manage for client performance. Because business models rely on eating what you kill, you cannot outsource your financial growth to traditional advisors if you want rapid wealth creation.

A senior department head at an investment bank dismissed concerns about client interests by stating FCK the clients, and an Australian CEO of a global investment bank described their business model with the phrase you eat what you kill.

Wall Street promotes mediocre returns and complex products to collect fees, but individual traders can achieve superior growth by rejecting buy-and-hold dogma and applying mathematical expectancy.

The Five Big Myths of Wall Street

Advisers push generic diversified ETF portfolios and dollar cost averaging because it is scalable and easy. This approach avoids the hard work of professional risk management while locking in steady fees for the institution.

Wall Street promotes a mediocre return like 10 percent per annum as fantastic. Meanwhile, professional risk management and precise setups can yield 50 to 100 percent or more on a single trade. Financial institutions deliberately use complex jargon and cautiously optimistic forecasts to keep you fearful yet dependent on expert help.

Trader versus Investor

The true difference between an investor and a trader is purpose rather than time frame. An estimated 90 percent of market participants incorrectly characterize themselves as investors. Real investors are long-term business owners who understand company fundamentals and profit participation. Anyone else buying assets with the expectation of selling them at a higher price due to human emotions and price trends is a trader.

The author discusses a chat with a Singaporean friend who lost money in 2008, vowed against trading, and swore off gambling by sticking exclusively to ETFs and blue-chip stocks.

Why Trading Is NOT Gambling

Trading is not gambling when approached with defined risk, calculated odds, and a positive mathematical expectancy. Gambling relies on unknowable odds and a desire for an outsized lottery payoff where the player knows the house has the mathematical advantage. A professional trader utilizes a tested method with positive expectancy, defines a stop-loss on every trade, and evaluates risk versus reward.

The profitability of a trading method over hundreds of trades is governed by a mathematical expectancy formula that accounts for win probability and average payout size. Positive expectancy proves that disciplined trading yields consistent mathematical gains over time, unlike casino gambling. You evaluate this edge by following specific calculations:

• Multiply the probability of a win by the average win.
• Multiply the probability of a loss by the average loss.
• Subtract the losing product from the winning product to find the expectancy.

For example, a trading account size of 10,000 dollars might use a system with a 60 percent probability of a winning trade and a 40 percent probability of a losing trade. If winning trades average a 10 percent gain and losing trades average a 5 percent loss, the resulting expectancy profit per trade is 400 dollars.

The conventional buy-and-hold strategy is pushed by Wall Street because it relies on scalable products that lock up client funds and fail to protect capital during market crashes. Traditional asset allocation and diversification fail when you need them most because asset classes correlate closely during market corrections. Furthermore, buy-and-hold leaves you helpless during bear markets because it only allows profits when prices rise. Historical data shows that 75 percent of US workers want to retire before age 60, but only 25 percent believe they will actually achieve it. Ultimately, only 5 percent of Americans are financially independent by age 65, and 51 percent of modern retirees live with incomes below 10,000 dollars per year.

2. Mindset and Technical Foundations

Trading success requires keeping the emotional brain suppressed while letting the logical executive brain control all trading decisions. The markets act like a mirror reflecting deep-seated attitudes about money and self-worth. When you operate on emotional autopilot driven by fear or euphoria, you bleed money.

Mastering your emotional brain and identifying dominant trends using stacked exponential moving averages provides the core objective edge required in the markets.

Novice traders obsess over indicators like golfers obsess over buying new clubs. Advanced traders realize that trading is 90 percent a mental game. A trader's only job is to manage the net liquidating value of their account so that it rises over time, not to predict the future or be right.

Trading Psychology

Human upbringing conditions you to avoid making mistakes, leading you to hate being wrong and avoid taking small losses. In professional trading, losses are inevitable operating expenses. Success comes from taking many small losses and letting an edge play out over thousands of probabilistic trades rather than trying to be consistently right.

Specific breathing techniques activate the parasympathetic nervous system to reduce stress and neutralize emotional charges before trading. Exhaling longer than inhaling stimulates the rest-and-digest response and deactivates the fight-or-flight sympathetic nervous system, preventing stress hormones from causing poor decision-making.

• Sit in a chair with your back straight and gently place the tip of your tongue against the roof of your mouth with lungs fully empty.
• Inhale through your nose for a count of four, synchronizing with your heartbeat.
• Hold your breath for a count of seven.
• Exhale through your mouth around your tongue through pursed lips for a count of eight until lungs are empty.
• Repeat the cycle three more times for a total of four cycles.

Reading foundational books on self-awareness, positive psychology, and discipline helps bridge the gap between emotional triggers and objective trading. You can use external resources to help separate the observer from the ego, train happiness as a muscle, and eliminate subconscious negative conditioning. Michael Singer's The Untethered Soul helps you learn to observe the incessant chatter in the head. Dr. Joe Dispenza's Breaking the Habit of Being Yourself clears subconscious junk, Shawn Achor's The Happiness Advantage trains happiness, and Mark Douglas's Trading in the Zone serves as the trading psychology bible.

Trend Following

Trend following is the most reliable strategy because it aligns with persistent human behavioral patterns and market momentum. Determining the dominant trend and following it is like sailing with the wind or paddling downstream. Trends persist because humans extrapolate the recent past into the future and herd together through the bandwagon effect.

In 1983, legendary commodities trader Richard Dennis turned $5,000 into $100 million and ran an experiment taking fourteen complete beginners known as Turtles. They collectively produced a profit of $175 million over five years using trend trading. Bruce Kovner's hedge fund averaged an annual return of 21 percent per annum over a twenty-eight-year period and accumulated over $5.5 billion.

Technical Analysis

Technical analysis studies actual price behavior and crowd psychology, using moving averages to smooth out noise and identify dominant trends. Price action reflects the total sum of investor fear and greed. Moving averages act like the smooth path of a dog walker while daily price candlesticks act like the erratic path of a dog running on a leash.

A strong trend can be objectively identified on a chart when exponential moving averages across five specific time periods are neatly stacked. By observing the hierarchical order of short-term and medium-term moving averages, you can determine whether the path of least resistance is upward or downward.

• Identify an uptrend when price moves from lower left to upper right, makes higher highs and higher lows, and EMAs stack as 8 EMA greater than 21 EMA greater than 34 EMA greater than 55 EMA greater than 89 EMA.
• Identify a downtrend when price moves from upper left to lower right, makes lower highs and lower lows, and EMAs stack as 8 EMA less than 21 EMA less than 34 EMA less than 55 EMA less than 89 EMA.

3. Chart Geometry and Trend Analysis

Analyzing trend hallmarks, moving average fences, support and resistance zones, and Fibonacci ratios allows you to identify objective high-probability entry areas.

Trend Analysis

A strong uptrend requires five specific conditions, starting with higher highs and higher lows and ending with a duration of at least four months. The author outlines five key hallmarks to assess an uptrend's strength: price making higher highs and higher lows, steady retracements instead of violent pullbacks, EMAs stacked in a rainbow fashion with the 8 EMA on top and 89 EMA on the bottom, price sitting above the 50 SMA, and the trend being in place for at least four months. Bonus points are awarded if the price is within 10 percent of its all-time high.

Monster Beverage showed stacked EMAs, but because its price stopped making higher highs, the uptrend quickly came to an end.

• Check that price is making higher highs and higher lows.
• Ensure price makes steady retracements, not violent pullbacks.
• Verify that EMAs are stacked with the 8 EMA on top and 89 EMA on the bottom.
• Check that price is ideally above the 50 SMA.
• Confirm the trend has been in place for at least four months.

Stocks trading near all-time highs lack investor baggage and make the best momentum candidates because every holder is in profit. Short selling allows traders to profit from falling prices by selling borrowed shares first and buying them back later, which can trigger violent short-covering rallies. Borrowing 100 shares of stock XYZ at $55 yields $5,500; if the price falls to $50, buying them back costs $5,000, yielding a $500 profit.

Moving Averages

Moving averages act as fences in a paddock that price must push through, where a breach is confirmed by two consecutive closes on the other side. The author compares moving averages to fences and price to a herd of cattle pushing through them. The sequence runs from the 8 EMA, 21 EMA, 34 EMA, 50 SMA, 100 SMA, up to the 200 SMA. A line is considered breached only after two consecutive closes occur on the other side of the line.

In the charts for COST and WDAY, the 50 SMA and 200 SMA act as crucial support levels before being breached.

• Plot the 8 EMA, 21 EMA, 34 EMA, 50 SMA, 100 SMA, and 200 SMA.
• Observe if price approaches or tests the moving average lines.
• Wait for two consecutive closes on the other side of a moving average line to confirm a breach.

Support and Resistance

Support and resistance zones exist because market participants suffer from anchoring bias, remembering the price they initially paid. Support acts as a floor and resistance as a ceiling. Due to anchoring bias, investors who bought at a certain price feel relieved to exit at breakeven when prices return to that level. Once broken, support tends to swap roles and become resistance, and vice versa.

Someone buys a stock at a support level of $100, watches it fall to $85-$90, and feels eager to sell when it rallies back to $100 to escape with zero loss.

Unlike trend lines, multiple tests of horizontal support or resistance lines weaken them over time as pending orders get filled. A common misconception is that support or resistance strengthens with every test. In reality, multiple re-tests fill up all the pending buy or sell orders. Once those orders are depleted, the price is likely to break through the level.

• Identify horizontal support or resistance zones on the chart.
• Track the number of times the price tests the zone.
• Apply the rule of thumb that a fourth test of support makes a breakdown likely on the fifth test.

Trend lines connect reaction points on a chart, and waiting for two consecutive closes beyond them prevents false breakouts. Trend lines act as diagonal support or resistance zones and grow stronger with more points of connection. Acting prematurely on breakouts without waiting for confirmation exposes traders to false breakouts, where deceptive market moves trap breakout buyers and trigger sharp reversals.

Following the September 2019 drone attacks on Saudi oil fields, crude oil futures broke a long-term downtrend line at $58, surged to ~$64 in 24 hours, and then collapsed back down to $51 when supply disruptions proved minimal.

• Connect at least two to three key price points to draw a trend line zone.
• Ignore minor candle spindles to connect major turning points.
• Wait for two consecutive closes on the other side of the trend line to confirm a breakout.

Round numbers act as psychological support and resistance barriers because emotional market participants place orders at neat multiples. Multiples of one hundred, fifty, twenty-five, and ten attract heavy order flow because retail and institutional traders naturally anchor their buying and selling decisions to round figures. Alphabet (GOOGL) touched the $1,000 price level multiple times, and Chevron did extensive work around the $100 price level.

Fibonacci numbers and the Golden Ratio of 0.618 provide objective support and resistance levels that increase trade win rates.

Derived from the Fibonacci sequence where each number is the sum of the previous two, ratios like 0.618 appear consistently in market geometry. Price tends to get stuck at these objective levels, giving traders clusters for high-probability setups. S&P 500 charts demonstrate how price pauses and finds support and resistance at key Fibonacci ratio lines.

• Identify the Fibonacci sequence numbers (8, 21, 34, 55, 89) for moving averages.
• Look for price setups near clusters of Fibonacci support or resistance ratios.

4. Options Mechanics and Strategy Setups

Options provide asymmetric leverage and defined risk, while custom setups like Bounce 2.0 and vertical debit spreads capture high-probability trend continuations.

You can use options as a short-term lease agreement or an insurance policy. This structure restricts maximum losses to the premium paid while retaining massive upside potential.

The author compares buying 100 shares of Google for $130,000 to paying a fraction of that amount to rent control of the stock via options.

• Buy call options when expecting the underlying stock price to rise.
• Buy put options when expecting the underlying stock price to fall.

Trade Setups

The Bounce 2.0 setup catches trend continuation trades by identifying a mean-reversion pullback within a dominant trend. You check stacked exponential moving averages and wait for price to enter the action zone.

Twilio and Nordstrom charts demonstrate potential buy-the-dip and sell-the-rip opportunities using slow stochastics.

• Determine the dominant trend of the stock on a daily chart.
• Check that EMAs are stacked in a bullish or bearish fashion.
• Ensure the stock has pulled back into the action zone within plus or minus 1 ATR of the mean.
• Confirm trend strength using the ADX indicator.
• Wait for a stochastic and entry trigger signal before executing.

Entry triggers confirm that a short-term pullback is over before you execute a trade. Visa and Nvidia charts illustrate these exact triggers.

• Identify the low candle in a bullish pullback or high candle in a bearish rally.
• For RSI entry, wait for RSI(2) to drop below 10 and cross back above for calls, or rise above 90 and cross back below for puts.
• For price action entry, wait for price to close above the high of the low bar for bullish trades or below the low of the high bar for bearish trades.

You must filter marginal setups before entering a trade. Mastercard charts show a run-rate where seven out of eight Bounce 2.0 setups were profitable.

• Verify if the setup is near a support or resistance level.
• Check if the stock reports earnings within the next two weeks.
• Examine the chart for abnormally large gaps near the setup.
• Look for abnormally large candles indicating high volatility.
• Review historical chart data to see if the setup worked in the past.

Selecting the right option involves specific criteria for duration and open interest. Cisco puts gained 87.1 percent in 16 days after applying these rules.

• Determine the average duration of the price swing and double it for option expiration time.
• Check option volume and open interest in the options chain.
• Select in-the-money options starting with a delta of 0.70 for calls and 0.60 for puts.
• Keep extrinsic value to roughly one-third of total premium for calls and no more than 50 percent for puts.
• Try to execute option orders at the mid price of the bid/ask spread.

Debit Spreads

Vertical debit spreads reduce capital requirements, limit downside risk, and minimize or eliminate the negative effects of theta decay.

Trading Netflix and Amazon with debit spreads drastically reduces the capital required per contract compared to expensive naked options.

• Buy a call or put option with a lower strike price X while simultaneously selling a higher strike option for calls, or vice versa for puts.
• Calculate the maximum value of the spread by subtracting the bought strike from the sold strike.
• Target 80 to 85 percent of the maximum spread value as a profit target for at-the-money spreads.

Delta 50 and in-the-money debit spreads maximize directional returns and benefit from time decay. Intel call spreads returned 153 percent, and Lululemon spreads profited even when the stock fell.

• For delta 50 spreads, find a strike near delta 50 and ensure the spread cost is less than or equal to half of the maximum value.
• For ITM spreads, buy a deep in-the-money option and sell a less in-the-money or at-the-money option.
• Structure spreads to receive more extrinsic value on the sold leg than is paid on the bought leg to benefit from time decay.

5. Risk Management and Execution

Protecting capital through strict position sizing, mental stop-losses, portfolio diversification, and a disciplined daily routine ensures long-term trading success.

Risk management is the absolute secret sauce of successful trading, defined specifically as the prevention of permanent loss of capital. Conventional financial theory falsely confuses risk with volatility. Real risk is the permanent destruction of trading capital. Excellent risk managers ensure winning trades outnumber losers and losing trades are kept strictly smaller than winning ones.

For accounts under $50,000, traders can risk up to 10 percent per trade in stages to accelerate growth without being reckless. While conventional wisdom advises risking only 1 to 2 percent per trade, this is too slow for small accounts. Simon Ree recommends a maximum 10 percent risk budget, deployed in stages such as buying a half-size position initially and adding the second half upon confirmation.

A mental stop-loss set at a 50 percent drop in option value prevents manageable losses from turning into total account destruction. The author uses a mental stop-loss based on daily closing prices rather than intraday swings to avoid noise. If a long option position falls 50 percent in value or if the underlying stock makes a lower low, the trade is cut mercilessly.

In September 2006, the author fell asleep in a Manhattan bar and was awakened by a dancer demanding $200 for a lap dance, backed by a huge bouncer. He paid immediately as a stop-loss to avoid a potentially much bigger confrontation.

Risk Management

Portfolio risk is managed through non-correlated Ronin stocks, industry diversification, strategy mixes, and insurance hedging. To prevent net liquidating value from crashing during market downturns, traders must diversify across sectors, avoid overexposure to tech, mix option strategies, and buy hedges that act like insurance policies to smooth out drawdowns.

The Trading Process

Consistent trading success requires following a disciplined eight-step daily process while the market is closed. The daily routine includes determining market phases, checking economic calendars, reviewing open positions, scanning for new setups, weeding out candidates, selecting option strategies, executing limit orders near the mid-price, and monitoring the portfolio.

• Determine what phase the market is in.
• Check for any significant economic reports or earnings announcements.
• Review all existing open positions.
• Hunt for new trades.
• Refine the shortlist.
• Select an appropriate option strategy.
• Place the orders in the market.
• Monitor your portfolio.

Writing Your Trading Plan

A trading plan acts as an iron-clad contract that prevents aimless trading, emotional decisions, and the dangerous video game mentality in the markets. Without a trading plan, traders drift into emotional decision-making, treating losses like losing lives in a video game. A proper trading plan defines the trader's why, approach, edge, position sizing, rules for entries and exits, and portfolio management.

Successful traders share specific disciplined attributes like simplicity and accountability, whereas struggling traders rely on gut feeling, complexity, and lack responsibility. Simon Ree contrasts winning and struggling traders to show how mindset dictates performance. While a struggling trader named Joe constantly donates money to the market and blames external factors, a consistent trader named Jane follows her method, tracks her favorite instruments, and accepts full responsibility for every outcome.

Joe and Jane use the exact same method and training, yet Jane is consistently profitable while Joe constantly loses money.

• Keep it simple
• Find an edge and exploit their edge
• Enter and exit when their method tells them
• Track their favorite instruments
• Keep a diary and review their trades
• Are 100 percent responsible and accountable for their results
• Understand probabilities
• Exercise emotional control

Proper risk management requires limiting exposure per trade based on account size to prevent emotional stress and capital destruction. For smaller accounts seeking aggressive growth, Simon Ree suggests risking a maximum of 10 percent of Net Liquidation Value per position in 5 percent increments. For larger accounts, conventional guidelines of risking no more than 1 to 2 percent per trade are recommended. If a position size causes stress and makes stop-losses difficult to honor, it is a sign to reduce the size.

• Never exceed the maximum amount of risk prepared to take on a single position
• Risk a maximum of 10 percent of Net Liquidation Value for small accounts in 5 percent increments
• Risk 1 to 2 percent of the account on any single trade for large accounts
• Diversify trades across sectors and strategies rather than concentrating in one area

Compounding weekly returns in options trading can generate extraordinary annual growth without requiring excessive risk. Simon Ree illustrates the math behind a target return of 2.5 percent per week on a $10,000 account. By compounding weekly returns over 52 weeks, the starting balance can grow significantly, demonstrating an effective annual rate of return far exceeding traditional Wall Street investments.

A starting balance of $10,000 achieving a consistent 2.5 percent weekly return grows to $36,111.12 by the end of week 52.

10 Key Ideas

1. Wall Street firms are structured around scale and fee generation rather than maximizing individual client investment returns, meaning you cannot outsource your financial growth to traditional advisors.
2. Trading is not gambling when approached with defined risk, calculated odds, and a positive mathematical expectancy that yields consistent gains over time.
3. Trading success requires keeping the emotional brain suppressed while letting the logical executive brain control all decisions because the markets act as a mirror reflecting deep-seated attitudes.
4. Trend following is the most reliable strategy because it aligns with persistent human behavioral patterns and market momentum like the bandwagon effect.
5. A strong trend can be objectively identified on a chart when exponential moving averages across five specific time periods are neatly stacked.
6. Horizontal support and resistance zones exist because market participants suffer from anchoring bias, but multiple re-tests weaken these levels over time as pending orders get filled.
7. Fibonacci numbers and the Golden Ratio of 0.618 provide objective support and resistance levels that increase trade win rates.
8. Options provide asymmetric leverage and defined risk by acting as a short-term lease agreement or insurance policy that restricts maximum losses to the premium paid while retaining massive upside potential.
9. The Bounce 2.0 setup catches trend continuation trades by identifying a mean-reversion pullback within a dominant trend after checking stacked exponential moving averages.
10. Vertical debit spreads reduce capital requirements, limit downside risk, and minimize or eliminate the negative effects of theta decay compared to expensive naked options.