Below is a list of common trading psychology problems that I've compiled from my own trading journey and I see them replayed day in day out on social media. I see them as the main problems that would affect the results of my own systematic approach or delay the learning process by chasing red herrings. I have overcome all of them myself over the years. Sometimes a couple of them can creep back in when I let my guard down so I'm going to print this out and mount it on my wall for the next time I'm about to do something stupid.
Can't Buy the High - Waiting For the Retrace That Never Happens
Looking for the Lowest Price - not having the psychology to buy a 52 week high or a pro gap. All the biggest winners will trade at 52 week highs. A lot of them won't retrace while the reward to risk is in your favour. I want to be positioned in the shares that are moving now. This is where the best are found.
Can't Pull the Trigger
Waiting until your idea is overextended from your trigger before having the nerve to buy.
I like to enter trades as they move out of squeeze areas of consolidation. That is where my reward to risk is. I will take that trade like a robot if it triggers and fits my conditions. Intraday price action will not have any effect on my decisions. All decisions are made when the market is closed.
Fear of Missing Out (FOMO)
Buying overextended story stocks because the news is so good it's only going up. Where do I start? Advanced Oncotherapy -65% off highs. BOOM -81% off highs. GKP -95% off highs. The story was so good just before the top. 3D Printing. DDD -91%. SSYS -84%. The list goes on and on. If you're hearing about the story now chances are you already missed the move which takes you to the previous point of pulling the trigger on an overextended move.
Another common FOMO is loading up after the market is rallying. Using all your allocated portfolio heat at the same time. I've witnessed this a couple of times late in October's market rally. Buying like the market's going to the moon. It's always safer to let the setups come to you and as they start to work in your favour and you lock in heat you can start to add more.
Front Running the Trigger
I have a setup trigger for a reason. Every winning trade has triggered the setup. 100% of the winners triggered the entry setup. Some losing trades also triggered.
The important thing to remember is that every idea that didn't trigger the setup was a loser. 100% of them. Getting a better price on an entry can only give you greater profits if your stop is tighter than the trigger stop distance but it will increase the losers.
Inventing Trades (No Trigger No Trade)
Endless Waiting On The Setup To Trigger - Always waiting on something. You must become an expert at waiting. When the setup finally triggers you should already have a spreadsheet entry ready with how you're going to play the trade. Base Breakout, Swing Trade? All you need to do is punch the buy price in and calculate your position. Don't Invent Trades...
Trend Fighting - Trading Against the Trend
Price action trends are by far the easiest way to stay on the right side of the market. You have thousands of rising charts to choose from. Companies that have very good reasons for the share price to be rising. Why would you need to go bottom fishing?
If you position size correctly, buying a 1p share won't make you more than buying a £10 share. Buying a 1p share will cost you more in the spread though. You will have more volatility and bigger swings but a £10 share will let you trade with a tighter stop so multiples of your risk are much easier to achieve. You can trade with a stop of around 5 to 10% with ease on a large cap. A micro cap would have a spread bigger than your large cap stop.
Growth trends. As above you have thousands of shares to choose from. Why would you choose to trade something that has falling or decelerating growth when you can trade the best companies with rising or accelerating growth? Yes you might get the odd dip in growth on the way up but jumping on falling shares for value reasons late in a growth cycle is a dangerous game. Trade the best. Forget the rest.
Snatching at Winners (A Profit is a Profit)
Nearly everyone who has approached me for help with their trading has spun me the line "a profit is a profit" as soon as they get into a good trade. Usually as soon as it makes its first move they start defending the profit by strangling it with their stop.
The top of the excuse to sell a winner early list is nearly always "it's overbought". Other common excuses are its fully valued now or the classic, a magazine says take profit. Losers will buy on the slim promise of "news in the pipeline" and then hunt for any excuse to sell a winner early.
The inability to hold a winner is the most common problem I see in trading. If you trade a shorter term swing method your losers will come fast. Winners take time to become big winners. The trouble is people get three quick losers and then their focus goes on achieving break even rather than making big gains (the reason they started trading) this usually leads to death by a thousand cuts. Treading water in good market conditions when you should be hitting it out of the park. All winners have to be sold at some point but if you're cutting your best winners before they can reach multiples of your initial risk you have a problem. Cut your losers short and let your winners run. it is that simple.
Fitting the Story to the Move
If you go looking for a story about your stock you will find it. There's a huge industry built around writing about stocks. They get paid to write a story. They don't trade. The popular technical analyst gurus of choice or podcast host more than likely doesn't trade either though I'm sure they can tell you everything you want to hear and more about your company. Closing or opening trades on other peoples opinions is financial suicide. Even if your trade would have turned out a loser it would have been taken care of by your risk management. CNBC are not conducting your risk management for you. They are fitting stories to what has already happened. You're better off watching re-runs of Frasier on channel 4.
Distractions
Obsessions with stock ranks & media portfolios, short tracking, micro managing index swings. Market maker spreads & gaps. You’re here to make money. If these things are a problem then you're trading inside the noise & distracted from the job in hand. If stock ranks made money they wouldn't be selling them to you. Once in a blue moon one of the dozens of portfolios the media runs will outperform. This is chance. Not a low risk investment approach. They are traded with no position sizing or money management. The important bit is always left out. Always. If you're micro managing a small cap portfolio where wide spreads on illiquid small caps are affecting you then you are trading inside the noise. This is not the market maker playing tricks on you. It's not his fault if your stop is inside the noise. It's not his fault if you loaded up on a small cap and now you have no buyer for your oversized position. You have to own your trading decisions. If you're blaming your losers on things that you should have factored in before entering the trade then you have a problem. Luckily the problem is very easy to solve. Put your stop where the trade is confirmed to be a wrong decision and position size accordingly. It's that simple.
Another distraction is watching your P&L tick up and down especially when the market's having a bad week. When the market is falling I am screening for shares that are holding the trend. Compiling a watch list of the strongest shares that are defying gravity. I'm looking into the latest reports to see if they have raised their guidance for the year. Is it a reason for this share to gallop out of the gates when the market's sell pressure eases?
Falling markets expose the best stocks. When the markets dump go looking for floaters.
Strong Opinions or Lack of a Strong Opinion
This one is a minefield. You need to have strong opinions in your trading because you need to make decisions that involve thousands of pounds. If you have a wishy washy attitude you will be eaten alive. If you trade a systematic approach you need to stick to your proven entries, exits and money management as you have proven that it works for you. Proven obviously means you make money over different market cycles by sticking to your method. Strong opinions on a proven strategy will help you pull the trigger like a robot. Any doubt and you will struggle. I also have strong opinions about fundamentals. I believe in the O'Neil studies about growth and value. I trade towards accelerating growth as there is no better metric. There are thousands of shares to trade so why accept second best? So I have strong opinions on what and how I trade because I've proven it works for me and when my opinion is wrong my stop loss manages the loser. Having unproven opinions is the dangerous area. Trading on what you think might happen. Waiting on a retrace after your entry trigger to get a better price or closing a trade before it hits your stop loss because you think it's going to hit anyway. Buying a share that’s falling out of the sky because you think it's good value and it will reverse. Thinking something will happen is very dangerous to your account. Reacting to things that "have" happened is far more rewarding. Now there's nothing wrong with spending your day arguing with people on social media if it makes a boring day go by quicker. That’s fine. Each to their own. For my own systematic approach I never trade on what I think and I never try to overthink something. Less thinking, More reacting.
Good Until Close Stop Loss
You know the one, I'll just move the stop wider until it bounces then I'll put it back on. Yeah right! Just don't do it.
Trading Cliches
Sell in May, Santa Rally - If I sold in May every year I would have missed some of the account changing gains that were triggered around that time. Good setups can happen at any time. Relying on a Santa rally to lift your account isn't really a systematic approach either. I'm buying shares from defined setups that I expect to outperform the market. Not come in and out on the tide. If that’s the approach your aiming for you may as well buy a tracker fund. Cut out all the extra work.
Staring at the Level 2 Screen
Every buy on Level 2 is matched with a sell. The size of the buy or sell is not a big game changer. Buy pressure on the ask price or sell pressure on the bid is what actually moves prices. Supply and demand. Staring at the Level 2 screen is fine if that’s what you're into but it cannot tell the future. What is buy pressure today can be a different animal tomorrow and I'm not a day trader. I can tell you now that no winners in my account were triggered by anything in the Level 2 screen. Buy orders going through as sells. Who cares? it does happen and is easy to spot but will it make you money?? Really? I don't think so.
Style Drift & Grail Hunting
When the system starts to chop you around during tricky markets and nothing seems to gain any traction the worst thing to do is abandon the system and join the search for the holy grail. Another problem can be adding more rules thus curve fitting your system to bad market periods. The fact is the markets go through horrible phases where nothing seems to work but the good news is it always comes through that period and into a new trending phase. As I write this the FTSE100 has been range bound since the beginning of 2013. The small cap SMX was falling through nearly all of 2014. The markets I trade have been tough but the account is still growing. Don't abandon a good system that works most of the time for a better system that works part of the time. I stick with my base trading method no matter what the market throws at me as this method is the result of many years of weeding out the things that didn't work leaving me with a simple systematic approach. If you have the time you could start working on a swing trading system that will give you another approach for good markets as I do. Just don't abandon the method that compounds the account year in year out.
Loading Too Many Trades in a Short Period of Time
So you have a watch list of six great ideas and the market starts to rally. You trigger six entries on the same day and take them all. You have plenty of free portfolio heat to work with so that’s not a problem. The market reverses late in the afternoon and chops around for the next few days. Your great entries now look messy and you have a new watch list that looks even better. You have six trades running and none of them have done much and the new watch list moves out without you. I trade a systematic approach, not a mechanical approach so I use discretion as I load into what I hope is a new market trend phase. Adding more risk as things start to work.
Process over Prediction - All profitable speculators have a process. A methodology. Whether you're Warren Buffett or Paul Tudor Jones. There is a repeatable process. Nothing is done on a whim. Do you have a defined methodology that is proven to make money?
Chasing News - News is usually a one day event. The stocks will usually revert back to trading how that stock trades within a day or two. It's very rare that buying on the news day gives you a great slingshot into a great trade that ploughs higher without any back and fill. Singling out those rare days is near impossible.
Seeking Gratification - Being right is not the key to making money. Refer back to Buffett & PTJ. If the best are right around half of the time why are they the best? Basically the winners are many multiples of the losers.
Skin in the Game - Many new speculators lose most of their money before they have seen the market move through a few phases and has shown its true colours. The herd get in after a fantastic bull phase and get out at the bottom just before the next bull phase.
No Get Out Plan - Entering a trade without knowing where you are wrong - probably the biggest fail in investing. If you have no wrong price…. 1- you have no way of calculating the position size to protect from the big loser. 2- you have no plan in place to limit a small loser from becoming a big loser.
Home Runs & Fat Pitches - Chasing home run trades with an all or nothing attitude to risk or having unrealistic opinions about some POS blue sky stock that looks like a fat pitch to you but in the real world it's just another hole in the ground owned by a liar.
Home runs & fat pitches do come around but they are rare. Focus on compounding lower risk gains and occasionally you will luck into a home run.
The Make or Break Trade
Focusing on one trade as though it's going to make or break you at the cost of the overall plan. You take one trade with a new method and you probably weighted it too heavily as you did hours of work to hone the trading plan and had too much confidence going in. The plan could have a perfectly good reward to risk ratio so a low win rate is needed just to break even but you get so absorbed in that one trade that it makes you feel sick with excitement followed by stress. You had a plan but you just couldn't trade the plan at the size your "pre-trade confidence" thought you could. This scenario has two big doors at the end of a stressful trade. Door one says lower your risk so you can take 4 trades and cut your individual trade stress to a manageable level. Door 2 says Magic Formula with Higher Win Rate. Most people will take door number 2. Out of the 5 or 10% of people who actually turn their trading around and become profitable many have taken door number 2 multiple times before actually realizing door number 1 is the door to profitability.
Reward to Risk Skew
You risked £1000 on a trade and the trade is within £100 of stopping out but your stop was placed at where the trade is wrong then you are still trading the parameters of your trade plan. The actual reward to risk of this trade near its stop has actually increased dynamically. You are now risking £100 and with a 2R planned target you are actually at this point in time risking £100 to make £2000. Reward to risk skew at this point in the trade is 19 to 1. If your 1R risk was £1000 then the £100 distance from your planned stop is 0.1% of your total account. 0.1% of account should never be the difference that causes you to make an emotional or micro managed trade decision.
The Deadly Time Frame Spiral
Setting up a perfectly good reward to risk end of day trade then trying to guess the outcome on intraday moves. This is closely connected to the previous point. If you are in an end of day trend following method don't micro manage your trade on an intraday time frame. This would be something like cranking the stop closer as it’s a volatile day. The message here is don't manage your trend trade like a swing trade or your swing trade like a day trade.
Deviation From The Plan - The good and bad of deviating from the plan.
Good - you have a slow boring trade that seemed a good idea when you entered but is not playing out and even if it does play out as planned you could have a better idea with more reward to risk in a higher beta name. To override this trade and close could be to free up heat and take the better trade idea. It could also be a good move maybe to free up heat on an illiquid name or to protect your account from a bear leg that has started on the markets. It doesn't matter if the trade is in profit or at a loss. The fatal error is to play the break even card. If it goes back to break even I will get out. This is an emotional plan from a losing position and could be strangling a good trade from a winning position.
Whipsaws and Negative Outliers.
The method you use should still be profitable with the occasional whipsaw thrown into the mix. For people who use hard stops a whipsaw would be the time you get stopped out only to watch the stock recover and bounce back to high's. This scenario is a curve fitters dream. Over time profitable traders become desensitized to the whipsaw as they accept it is part of trading and the damage that can be done to an account by not accepting it is far worse. Trend followers grind out the process to find positive outliers, the big trending winners that make the bulk of the gains. How you manage losers is the key to skewing the math of profitability in your favour (cutting the losses short and letting the winners run) Understanding the affect of the negative outlier on the methodology and minimizing the the damage one can do to my account is high on my attention list.
Operator Error
The method you use should allow for a margin of operator error as we are human at the end of the day. Our approach must still make money over a period of time even with a bit of micro managing or mistakes thrown into the mix. It should never be so exact that it only makes money with precision in execution and management. It should be robust enough to allow for mistakes to be built in up front.
Morale hitting a low after taking a loser.
This is something that you just need to desensitize yourself from over time. Trading smaller and letting your own results lift your risk levels over time is the sensible route. After a loser (and also a winner) try scoring the trade using a mistakes check list. Were any mistakes made? Stops? Sizing? The Plan? If not it was a planned ahead loss. A statistic in the random outcome of profitable trading. Taking a loser is not just part of the learning process. It's part of the winning process.
Analysis Overload - If knowledge translated into huge returns then why do about 90% of hedge funds underperform the S&P? Why do analysts not trade for a living? Why do investors who do more research still get caught by profit warnings? Sadly the markets just don't work like that. We are trading towards the unknown. Spend more time on money management and edge and don't over-analyze to the extent that you become biased.
Two Fatal Errors that need to be tackled instantly
Revenge Trading - You close a loser and instantly enter another trade usually in the same name as you want to make that money back and you want to make it in the same stock as you need to beat that stock today. That name has your money.
Break Even Trade - Holding a loser until it gets back to break even or for ever if it never returns to break even.
My Opinion - Your Money
Last but not least just because someone has an opinion on an investment or trade doesn't mean its going to play out that way. We trade our own edge and a winner for me could be a loser for you even if we entered at the same time. Trade your own proven edge on your own terms.
Next Tutorial - Trade Management Psychology, Dealing With Heat
Jase @stealthsurf
Can't Buy the High - Waiting For the Retrace That Never Happens
Looking for the Lowest Price - not having the psychology to buy a 52 week high or a pro gap. All the biggest winners will trade at 52 week highs. A lot of them won't retrace while the reward to risk is in your favour. I want to be positioned in the shares that are moving now. This is where the best are found.
Can't Pull the Trigger
Waiting until your idea is overextended from your trigger before having the nerve to buy.
I like to enter trades as they move out of squeeze areas of consolidation. That is where my reward to risk is. I will take that trade like a robot if it triggers and fits my conditions. Intraday price action will not have any effect on my decisions. All decisions are made when the market is closed.
Fear of Missing Out (FOMO)
Buying overextended story stocks because the news is so good it's only going up. Where do I start? Advanced Oncotherapy -65% off highs. BOOM -81% off highs. GKP -95% off highs. The story was so good just before the top. 3D Printing. DDD -91%. SSYS -84%. The list goes on and on. If you're hearing about the story now chances are you already missed the move which takes you to the previous point of pulling the trigger on an overextended move.
Another common FOMO is loading up after the market is rallying. Using all your allocated portfolio heat at the same time. I've witnessed this a couple of times late in October's market rally. Buying like the market's going to the moon. It's always safer to let the setups come to you and as they start to work in your favour and you lock in heat you can start to add more.
Front Running the Trigger
I have a setup trigger for a reason. Every winning trade has triggered the setup. 100% of the winners triggered the entry setup. Some losing trades also triggered.
The important thing to remember is that every idea that didn't trigger the setup was a loser. 100% of them. Getting a better price on an entry can only give you greater profits if your stop is tighter than the trigger stop distance but it will increase the losers.
Inventing Trades (No Trigger No Trade)
Endless Waiting On The Setup To Trigger - Always waiting on something. You must become an expert at waiting. When the setup finally triggers you should already have a spreadsheet entry ready with how you're going to play the trade. Base Breakout, Swing Trade? All you need to do is punch the buy price in and calculate your position. Don't Invent Trades...
Trend Fighting - Trading Against the Trend
Price action trends are by far the easiest way to stay on the right side of the market. You have thousands of rising charts to choose from. Companies that have very good reasons for the share price to be rising. Why would you need to go bottom fishing?
If you position size correctly, buying a 1p share won't make you more than buying a £10 share. Buying a 1p share will cost you more in the spread though. You will have more volatility and bigger swings but a £10 share will let you trade with a tighter stop so multiples of your risk are much easier to achieve. You can trade with a stop of around 5 to 10% with ease on a large cap. A micro cap would have a spread bigger than your large cap stop.
Growth trends. As above you have thousands of shares to choose from. Why would you choose to trade something that has falling or decelerating growth when you can trade the best companies with rising or accelerating growth? Yes you might get the odd dip in growth on the way up but jumping on falling shares for value reasons late in a growth cycle is a dangerous game. Trade the best. Forget the rest.
Snatching at Winners (A Profit is a Profit)
Nearly everyone who has approached me for help with their trading has spun me the line "a profit is a profit" as soon as they get into a good trade. Usually as soon as it makes its first move they start defending the profit by strangling it with their stop.
The top of the excuse to sell a winner early list is nearly always "it's overbought". Other common excuses are its fully valued now or the classic, a magazine says take profit. Losers will buy on the slim promise of "news in the pipeline" and then hunt for any excuse to sell a winner early.
The inability to hold a winner is the most common problem I see in trading. If you trade a shorter term swing method your losers will come fast. Winners take time to become big winners. The trouble is people get three quick losers and then their focus goes on achieving break even rather than making big gains (the reason they started trading) this usually leads to death by a thousand cuts. Treading water in good market conditions when you should be hitting it out of the park. All winners have to be sold at some point but if you're cutting your best winners before they can reach multiples of your initial risk you have a problem. Cut your losers short and let your winners run. it is that simple.
Fitting the Story to the Move
If you go looking for a story about your stock you will find it. There's a huge industry built around writing about stocks. They get paid to write a story. They don't trade. The popular technical analyst gurus of choice or podcast host more than likely doesn't trade either though I'm sure they can tell you everything you want to hear and more about your company. Closing or opening trades on other peoples opinions is financial suicide. Even if your trade would have turned out a loser it would have been taken care of by your risk management. CNBC are not conducting your risk management for you. They are fitting stories to what has already happened. You're better off watching re-runs of Frasier on channel 4.
Distractions
Obsessions with stock ranks & media portfolios, short tracking, micro managing index swings. Market maker spreads & gaps. You’re here to make money. If these things are a problem then you're trading inside the noise & distracted from the job in hand. If stock ranks made money they wouldn't be selling them to you. Once in a blue moon one of the dozens of portfolios the media runs will outperform. This is chance. Not a low risk investment approach. They are traded with no position sizing or money management. The important bit is always left out. Always. If you're micro managing a small cap portfolio where wide spreads on illiquid small caps are affecting you then you are trading inside the noise. This is not the market maker playing tricks on you. It's not his fault if your stop is inside the noise. It's not his fault if you loaded up on a small cap and now you have no buyer for your oversized position. You have to own your trading decisions. If you're blaming your losers on things that you should have factored in before entering the trade then you have a problem. Luckily the problem is very easy to solve. Put your stop where the trade is confirmed to be a wrong decision and position size accordingly. It's that simple.
Another distraction is watching your P&L tick up and down especially when the market's having a bad week. When the market is falling I am screening for shares that are holding the trend. Compiling a watch list of the strongest shares that are defying gravity. I'm looking into the latest reports to see if they have raised their guidance for the year. Is it a reason for this share to gallop out of the gates when the market's sell pressure eases?
Falling markets expose the best stocks. When the markets dump go looking for floaters.
Strong Opinions or Lack of a Strong Opinion
This one is a minefield. You need to have strong opinions in your trading because you need to make decisions that involve thousands of pounds. If you have a wishy washy attitude you will be eaten alive. If you trade a systematic approach you need to stick to your proven entries, exits and money management as you have proven that it works for you. Proven obviously means you make money over different market cycles by sticking to your method. Strong opinions on a proven strategy will help you pull the trigger like a robot. Any doubt and you will struggle. I also have strong opinions about fundamentals. I believe in the O'Neil studies about growth and value. I trade towards accelerating growth as there is no better metric. There are thousands of shares to trade so why accept second best? So I have strong opinions on what and how I trade because I've proven it works for me and when my opinion is wrong my stop loss manages the loser. Having unproven opinions is the dangerous area. Trading on what you think might happen. Waiting on a retrace after your entry trigger to get a better price or closing a trade before it hits your stop loss because you think it's going to hit anyway. Buying a share that’s falling out of the sky because you think it's good value and it will reverse. Thinking something will happen is very dangerous to your account. Reacting to things that "have" happened is far more rewarding. Now there's nothing wrong with spending your day arguing with people on social media if it makes a boring day go by quicker. That’s fine. Each to their own. For my own systematic approach I never trade on what I think and I never try to overthink something. Less thinking, More reacting.
Good Until Close Stop Loss
You know the one, I'll just move the stop wider until it bounces then I'll put it back on. Yeah right! Just don't do it.
Trading Cliches
Sell in May, Santa Rally - If I sold in May every year I would have missed some of the account changing gains that were triggered around that time. Good setups can happen at any time. Relying on a Santa rally to lift your account isn't really a systematic approach either. I'm buying shares from defined setups that I expect to outperform the market. Not come in and out on the tide. If that’s the approach your aiming for you may as well buy a tracker fund. Cut out all the extra work.
Staring at the Level 2 Screen
Every buy on Level 2 is matched with a sell. The size of the buy or sell is not a big game changer. Buy pressure on the ask price or sell pressure on the bid is what actually moves prices. Supply and demand. Staring at the Level 2 screen is fine if that’s what you're into but it cannot tell the future. What is buy pressure today can be a different animal tomorrow and I'm not a day trader. I can tell you now that no winners in my account were triggered by anything in the Level 2 screen. Buy orders going through as sells. Who cares? it does happen and is easy to spot but will it make you money?? Really? I don't think so.
Style Drift & Grail Hunting
When the system starts to chop you around during tricky markets and nothing seems to gain any traction the worst thing to do is abandon the system and join the search for the holy grail. Another problem can be adding more rules thus curve fitting your system to bad market periods. The fact is the markets go through horrible phases where nothing seems to work but the good news is it always comes through that period and into a new trending phase. As I write this the FTSE100 has been range bound since the beginning of 2013. The small cap SMX was falling through nearly all of 2014. The markets I trade have been tough but the account is still growing. Don't abandon a good system that works most of the time for a better system that works part of the time. I stick with my base trading method no matter what the market throws at me as this method is the result of many years of weeding out the things that didn't work leaving me with a simple systematic approach. If you have the time you could start working on a swing trading system that will give you another approach for good markets as I do. Just don't abandon the method that compounds the account year in year out.
Loading Too Many Trades in a Short Period of Time
So you have a watch list of six great ideas and the market starts to rally. You trigger six entries on the same day and take them all. You have plenty of free portfolio heat to work with so that’s not a problem. The market reverses late in the afternoon and chops around for the next few days. Your great entries now look messy and you have a new watch list that looks even better. You have six trades running and none of them have done much and the new watch list moves out without you. I trade a systematic approach, not a mechanical approach so I use discretion as I load into what I hope is a new market trend phase. Adding more risk as things start to work.
Process over Prediction - All profitable speculators have a process. A methodology. Whether you're Warren Buffett or Paul Tudor Jones. There is a repeatable process. Nothing is done on a whim. Do you have a defined methodology that is proven to make money?
Chasing News - News is usually a one day event. The stocks will usually revert back to trading how that stock trades within a day or two. It's very rare that buying on the news day gives you a great slingshot into a great trade that ploughs higher without any back and fill. Singling out those rare days is near impossible.
Seeking Gratification - Being right is not the key to making money. Refer back to Buffett & PTJ. If the best are right around half of the time why are they the best? Basically the winners are many multiples of the losers.
Skin in the Game - Many new speculators lose most of their money before they have seen the market move through a few phases and has shown its true colours. The herd get in after a fantastic bull phase and get out at the bottom just before the next bull phase.
No Get Out Plan - Entering a trade without knowing where you are wrong - probably the biggest fail in investing. If you have no wrong price…. 1- you have no way of calculating the position size to protect from the big loser. 2- you have no plan in place to limit a small loser from becoming a big loser.
Home Runs & Fat Pitches - Chasing home run trades with an all or nothing attitude to risk or having unrealistic opinions about some POS blue sky stock that looks like a fat pitch to you but in the real world it's just another hole in the ground owned by a liar.
Home runs & fat pitches do come around but they are rare. Focus on compounding lower risk gains and occasionally you will luck into a home run.
The Make or Break Trade
Focusing on one trade as though it's going to make or break you at the cost of the overall plan. You take one trade with a new method and you probably weighted it too heavily as you did hours of work to hone the trading plan and had too much confidence going in. The plan could have a perfectly good reward to risk ratio so a low win rate is needed just to break even but you get so absorbed in that one trade that it makes you feel sick with excitement followed by stress. You had a plan but you just couldn't trade the plan at the size your "pre-trade confidence" thought you could. This scenario has two big doors at the end of a stressful trade. Door one says lower your risk so you can take 4 trades and cut your individual trade stress to a manageable level. Door 2 says Magic Formula with Higher Win Rate. Most people will take door number 2. Out of the 5 or 10% of people who actually turn their trading around and become profitable many have taken door number 2 multiple times before actually realizing door number 1 is the door to profitability.
Reward to Risk Skew
You risked £1000 on a trade and the trade is within £100 of stopping out but your stop was placed at where the trade is wrong then you are still trading the parameters of your trade plan. The actual reward to risk of this trade near its stop has actually increased dynamically. You are now risking £100 and with a 2R planned target you are actually at this point in time risking £100 to make £2000. Reward to risk skew at this point in the trade is 19 to 1. If your 1R risk was £1000 then the £100 distance from your planned stop is 0.1% of your total account. 0.1% of account should never be the difference that causes you to make an emotional or micro managed trade decision.
The Deadly Time Frame Spiral
Setting up a perfectly good reward to risk end of day trade then trying to guess the outcome on intraday moves. This is closely connected to the previous point. If you are in an end of day trend following method don't micro manage your trade on an intraday time frame. This would be something like cranking the stop closer as it’s a volatile day. The message here is don't manage your trend trade like a swing trade or your swing trade like a day trade.
Deviation From The Plan - The good and bad of deviating from the plan.
Good - you have a slow boring trade that seemed a good idea when you entered but is not playing out and even if it does play out as planned you could have a better idea with more reward to risk in a higher beta name. To override this trade and close could be to free up heat and take the better trade idea. It could also be a good move maybe to free up heat on an illiquid name or to protect your account from a bear leg that has started on the markets. It doesn't matter if the trade is in profit or at a loss. The fatal error is to play the break even card. If it goes back to break even I will get out. This is an emotional plan from a losing position and could be strangling a good trade from a winning position.
Whipsaws and Negative Outliers.
The method you use should still be profitable with the occasional whipsaw thrown into the mix. For people who use hard stops a whipsaw would be the time you get stopped out only to watch the stock recover and bounce back to high's. This scenario is a curve fitters dream. Over time profitable traders become desensitized to the whipsaw as they accept it is part of trading and the damage that can be done to an account by not accepting it is far worse. Trend followers grind out the process to find positive outliers, the big trending winners that make the bulk of the gains. How you manage losers is the key to skewing the math of profitability in your favour (cutting the losses short and letting the winners run) Understanding the affect of the negative outlier on the methodology and minimizing the the damage one can do to my account is high on my attention list.
Operator Error
The method you use should allow for a margin of operator error as we are human at the end of the day. Our approach must still make money over a period of time even with a bit of micro managing or mistakes thrown into the mix. It should never be so exact that it only makes money with precision in execution and management. It should be robust enough to allow for mistakes to be built in up front.
Morale hitting a low after taking a loser.
This is something that you just need to desensitize yourself from over time. Trading smaller and letting your own results lift your risk levels over time is the sensible route. After a loser (and also a winner) try scoring the trade using a mistakes check list. Were any mistakes made? Stops? Sizing? The Plan? If not it was a planned ahead loss. A statistic in the random outcome of profitable trading. Taking a loser is not just part of the learning process. It's part of the winning process.
Analysis Overload - If knowledge translated into huge returns then why do about 90% of hedge funds underperform the S&P? Why do analysts not trade for a living? Why do investors who do more research still get caught by profit warnings? Sadly the markets just don't work like that. We are trading towards the unknown. Spend more time on money management and edge and don't over-analyze to the extent that you become biased.
Two Fatal Errors that need to be tackled instantly
Revenge Trading - You close a loser and instantly enter another trade usually in the same name as you want to make that money back and you want to make it in the same stock as you need to beat that stock today. That name has your money.
Break Even Trade - Holding a loser until it gets back to break even or for ever if it never returns to break even.
My Opinion - Your Money
Last but not least just because someone has an opinion on an investment or trade doesn't mean its going to play out that way. We trade our own edge and a winner for me could be a loser for you even if we entered at the same time. Trade your own proven edge on your own terms.
Next Tutorial - Trade Management Psychology, Dealing With Heat
Jase @stealthsurf