TEN MISTAKES THAT WILL KILL
YOUR TRADING AND INVESTING
1. Not having a plan - Without a plan, you are
vulnerable to all kinds of emotions that make you act the wrong way at the
worst moment. Before entering a trade, make sure you defined why you enter at
this moment, the loss limit and the target. The trade must be part of a general
strategy that you have tested and that will be applied over and over with
consistency. If you are not sure about how to define and test a plan, you may
follow a serious trading service and learn how to do it. A future post in this
series is dealing
with this issue.
2. Forgetting the plan! - Under pressure, the
human brain creates all sorts of strains and ideas that are not all beneficial
to trading, far from for it. The best way not to be swayed by events is to
blindly stick to the plan like a robot. After all, you tested it and it held
water, right? The plan is the psychological lifeline.
3. Wanting to be right. - Unfortunately for
the smartest and most educated among us, trading is not about being right by
virtue of one's reasoning. It is about being right by virtue of events. The
most pragmatic will win. Willing to get it right every time would make you stay
too long in a losing trade, and at the end you will exit at a cost anyway and
probably at the worst time. Accept with humility to be wrong and to lose what
you have budgeted,. It can be half of the time, or many times in a row, it does
not matter. It is a game of probability and of statistical expectation, not a
game of truth nor an academic test.
4. Not caring about money management. - Money
is your tool and your raw material; it has to be carefully managed. The
management rules are part of the famous trading plan. Decide what portion of
the trading capital you will bet, meaning you are ready to lose, on each trade.
It is typically between 0.5 and 2% depending on the experience and the type of
operation. Then compute the size of the position accordingly. To learn how to
make this calculation, see this post. This approach strongly diminishes the chances of running out of
capital after a streak of losses.
5. Expecting an oversized return from each
trade. - Observation shows that a very small percentage of trades have a high
profitability. Most of the trades will be either losers, or modest winners. The
aim is that modest winners overcome the losers. Then the rare home runs will be
bonuses and make the overall results brilliant. But if you dream about a high
return for each trade, you won't be swift enough to take moderate profits and
you will end up having more losers than necessary.
6. Limiting the size of the gain. - Abiding to
the previous advice, some traders are too quick to cut the trades as soon as
they have a small gain and feel reassured when they book many, limited profits.
But doing this, they refuse to expose themselves to the exceptional,
"black swan" type of event that can really spice up their trading.
Letting the profits run while limiting the losses with stop-loss order renders
the trading game asymmetrical in you favor. There is no paradox between this
advice and the previous one: do not expect a fantastic profit on any particular
trade, but give yourself the chance to harvest such a profit if it presents
itself. There are several trade management techniques for that.
7. Entertaining unrealistic expectations. - A
direct consequence of what has just been said. Generally, you will be grinding
and milling profits day after day, like a shop keeper. Don't think you will
earn a living by going "all in" and raking the table. You may do this
a couple of times, but the hard laws of probability make sure that you surely
blow your account at some point. Think of your trading position as items you
want to sell at a given price, with a margin. Then carefully collect the margins.
8. Not defining expectations according to the
plan. - Obviously, there is a relation between the plan (see 1 and 2) and what
you can expect. Always do a calculation, be it sketchy or very approximate, of
which level of expectations is supported by the plan, using what you know from
back-testing or practical experience. For an example of such a
calculation see this post.
9. Looking for fun in trading. - If you
trade in order to entertain yourself or for a thrill, or just because you are
bored, you will lose. Good and profitable trading must be kind of boring,
because then you just apply a pre-adopted plan. You separate execution from
research and from strategy. Research on the trading plan may be and should be
fun and thrilling, and this the pleasure moment. Then when execution begins, it
is a business moment. What you enjoy when trading is not the effect of your
smartness or your creativity: you enjoy being capable of applying a method with
seriousness and discipline. Learn to pat yourself in the back just for being
disciplined, even when the trade loses. It is a game of probability in the long
run, not of being right (see 3)
10. Not reviewing what you have done. -
Reviewing past trades serves two very distinct objectives. First, examining
every trade, even the winners, is a way of checking to what extent you are
applying the plan. In that respect you are controlling yourself. This must be
done every week or even every day for the day traders. A second very different
purpose is to evaluate not yourself, but the plan. No plan is ever perfect an
each one can be slowly improved over time (but not radically transformed at every review!). Looking at
the reasons why losing trades were such while the plan was applied may help you
fine tuning some features (stop orders placement, profit targets...). Here the
frequency of review is once a month, or less for day traders. Make changes to
the plan only based on a review of several dozens trades.
