Lessons from the Pros

Eighty Percent Waiting – Twenty Percent Trading

In today’s market environment, where daily ranges continue to diminish, it’s becoming more challenging for the disciplined day trader to find opportunity. Note I’m referring to a specific type of trader, that’s because for the "undisciplined" trader, all types of markets are difficult. Now that’s not to say that the professional trader doesn’t have to overcome the daily demands of trading. However, my point here is that the more movement in a market, the more opportunity.

Part of having this attribute that almost everyone in the investment business espouses as the Holy Grail (self-discipline) is exercising patience. Now I know you’ve heard this message before from many trading sources (at least the ones that are worth their salt), and it’s something that I think every serious trader strives to achieve. Still, if this is the case, then why is it so few are able to exercise self-restraint in the heat of battle?

One of the problems with waiting for a trade to set up properly, or for the odds to stack up in one’s favor before executing a trade, is that trading is unlike any other endeavor that most people undertake.

Let me explain: For most people, a job or profession is something that involves activity associated with that situation. For instance, a doctor sees and diagnoses patients, a lawyer puts together his case and presents it to a judge and jury, and an entrepreneur runs his business. In other words, they are constantly doing things. Moreover, in most professions, remuneration is expected to match the level of effort – not so in trading. New traders, it’s safe to assume, have done their respective pre-trading professions well since they have accumulated the necessary funds to start a trading career. These same successful professionals enter the trading business with the mindset that since they are now traders, they should always be trading. Unfortunately, it doesn’t quite work that way in this business.

I frequently hear traders say that if they’re not actively trading, they can’t make money. There is some truth to that, however, more activity does not necessarily translate into more profits. I’d say it’s quite the opposite. In actuality, over-trading is a very common affliction of newbie traders. This can be attributable to a lack of planning and the impulsive need for action. Additionally, the feeling of not being "busy enough" will also lead to forcing trades that are not necessarily beneficial to the bottom line.

Some of you may be familiar with the 80-20 rule that is prevalent in business management. Simply put, the theory states that eight percent of results are produced by twenty percent of input. In my view, this can also apply to trading. First, let me be clear: I’m not suggesting that all you need is a twenty percent win ratio to be consistently profitable, although it is possible (with a larger risk-to-reward ratio). What I am referring to, however, is the title of this piece.

Specifically, I believe that eighty percent of a trader’s time should be spent observing, learning how the market works, practicing, and planning. And twenty percent of the time, actually executing and managing trades. People outside of the trading business often wonder how it is that people make money by staring at wiggly lines on a computer monitor all day. It doesn’t seem like "work" to them. What they don’t realize is that trading is a mental game, which can be more taxing than most any job out there.

The reason I wanted to cover this topic is because in this low volatility environment, I’ve been hearing of many traders that are suffering because of their impatience. It is demanding enough to put hard-earned money at risk daily, but when the rewards are slim and the opportunities are few, one’s patience is really tested.

If you’re one of these traders having a hard time waiting for the good trade, you might want to incorporate a specific rule to combat the urge to trade. Leaving the environment tends to work well. When stricken with the impulse to make trades (just for the sake of trading), get up out of your chair and take a walk. Another way to fight off this tendency is to think about your goals and decide whether the trade you’re about to make will bring you closer to your goal. If the trade is not low risk, high reward, or it’s not part of your plan, the clear answer is no, then don’t make it.

To conclude: In trading, patience is indeed a virtue, and especially when there is a dearth of profit opportunity. So hold on to your capital and only take risk when it is warranted. Furthermore, incorporating the 80-20 rule to your trading plan perhaps will help you achieve your goals.

Until next time, I hope everyone has a profitable week.

If you have questions or comments, please email me at gvelazquez@tradingacademy.com

- Gabe Velazquez