If you’ve ever looked around the internet for some type of trading or investment advice, the first factor that’s always touted is how well the advice has done based on a series of winning trades the adviser has had over a relatively short period of time. Another way to sell advice is to highlight that one right call the adviser made in the not so distant past with nary a mention of loses. And, after all the statements about what has gone right, what usually follows is the all-too-familiar admonition that past performance is no indication of future results, and that trading involves high risk.
The point is that in the trading world everyone initially believes that the only way to make profits consistently is to be right most of the time and since many believe this to be true this is what’s most talked about when trying to sell trading advice. Never mind that a high winning percentage without proper money management skills has little correlation with profitability. Or that some of the most profitable trading systems are right less than half the time. In trading, there is a wide discrepancy between perception and reality and as a new trader, or old for that matter, it is imperative that one is quickly disabused of some of these wrong perceptions.
The fact is that most traders are driven by the fear of losing and therefore will spend all their time and energy looking for the strategy that will never lose, neglecting the most vital elements of a trading strategy which is money management, a statistical edge over a large sample size, and finally the human element of executing the strategy.
In a nutshell, most traders focus on being right when in fact, from a mathematical point of view it’s much more important to lose little when a trade doesn’t work, and let profits run when a trade is working. Although this seems to make logical sense, and many of you reading this article may already know this, why is it then that most traders still have a problem taking loses? It’s the human element of trading, isn’t it?
One way we can deal with this challenge is to be more mechanical in our approach. Modern technology allows us to do this by allowing us to place the complete trade (entry, stop, and target) in one click. By doing it this way, we mitigate the human element. The key is that once the order is in we need to leave it alone with the full understanding the there are only three possible outcomes: a small loss, a breakeven trade, or we achieve our profit target.
The second way to deal with this challenge is to understand that a statistical edge is only realized over a large sample size of trades. What this means to us traders is that we shouldn’t put all of our emotional eggs (metaphorically speaking) on any single trade. In addition, this implies that we must take EVERY trade that meets our entry criteria in order to fully capture the statistical advantage given by our strategy.
In short, a trader needs to focus on finding a strategy that will give themselves an edge, and then focus on implementing the method using sound risk-reward parameter, and consider the losing trades as part of the overall factors of the equation. No strategy will be right 100% of the time so losing is the allowance given to the strategy.
Finally, learning to think of trading as a numbers game will lessen your emotional responses to the uncertainty that is trading in the financial markets, and perhaps this will change your results for the better.
So until next time, I hope you have a great week.