I was recently reading an article about a University study on the behavior traits of Professional and Amateur traders which highlighted some interesting findings. The researchers split the group into two, one was made up of half the traders who were given a proven trade plan to follow and the other half who developed their own. After a set number of weeks trading the markets, the group who followed the plan had been profitable and the other half had not. However, what was more interesting was the behavior of the groups. The profitable group had stuck to their plans throughout, yet the unprofitable group consistently changed their trading plan after three losses, irrespective of whether the three losses came in a row or not. What was their motivation to keep changing? To win more, or to avoid losing? Let’s explore this question further.
Let’s face it, we are all human and wired to do things a certain way. From the day we are born, we are essentially programmed to do two things: seek out pleasure and avoid pain. Our existence as creatures of habit means that because of this basic function, trading can quite easily become a hugely challenging task before we have even really begun, inherently due to the fact that our DNA is wired against us! Think about what I stated beforehand: We seek out pleasure and try to avoid pain. What does this mean in the context of trading? Initially, it means we all have a huge task ahead of us in FX, or any other form or trading, if we hope to eventually be successful and consistent at it. This is not because we are stupid or incapable of being good at trading, it is because of the mental challenge we face from the outset.
If you have read my articles before this one, you will know that I constantly recommend the use of a detailed trading plan and a simple rule based strategy. The reason I place emphasis on the simple part of this is because we need to be able to take action in the market when the time is right and not hang around and ponder over our choices for too long. Too much pondering puts us in danger of overcomplicating the opportunities right in front of us and then never making a decision, or making too many decisions! The easier it is for us to spot a trading opportunity in the market, the easier it is to be able to place that trade and take action. Applying more and more details to a trading opportunity creates, in turn, a greater number of questions for us to answer before we can actually pull the trigger.
By using a simple trading plan, we are helping ourselves to take action when action is required. However, there is more to this than just being able to pull the trigger with ease. For many traders, pulling the trigger for an entry is not the problem at all. In fact, it is probably the opposite – they find themselves trigger-happy! Therefore, to cure this ailment, the simple trading strategy again plays its vital role in that the simpler it is, the less there is to modify and change. On the flipside of this, we will always see that the more detailed or complicated the trading strategy is, the more there is to potentially change about it. Have you ever heard of the phase, there are too many moving parts?
As you get further along your path of education with the FX markets, you will soon begin to realize just how important the simple trading strategy is and why we also need to understand our own mental pitfalls before we begin to trade.
Let’s assume that we now have a simple strategy in our trading toolkit which involves buying at Demand and selling at Supply. We are going to focus on applying this strategy without question, meaning that every time a trade setup appears to us, we aim to take it. The first trade comes up and we take it and it works. The result is we make money and we feel good. Trade number two comes up and we take it in alignment with our trading plan and again it works out and we make money. How are we now feeling? Probably even better! No doubt that we are finding pleasure in our action thus far.
A day later we come across another setup. Again, we take the trade and this time we are stopped out. Expecting this to happen from time to time we move on and await the next trade. It comes up, we take it and again we get a small loss. In fact, the next trade we take again results in a loss. We now have a total of three losing trades in a row. How do you think you would be feeling if you were fairly new to this game? Probably a little unhinged? This would be perfectly normal, considering how we are wired. Remember we are built to seek pleasure and avoid pain. The first two winners gave us that pleasure but the last three trades resulted in pain, yet we can’t expect to win every time, can we? This is a perfectly normal turn of events in trading, whether we like it or not.
The reality of the markets actually dictates that we could get even more losses than this in a row. The different permutations and outcomes are virtually endless. However, if a trading strategy has been proven to work over the long run, with a quality risk to reward profile, it needs to be adhered to no matter the way trades play out. Ask yourself a question: is it the trading strategy producing the results or the trader producing the results? The biggest danger in the quest for ongoing trading success is the challenge of moving the goal posts when things don’t work out the way we hoped. A trading plan or strategy could be perfectly sound, but if a trader hits a losing streak then there is a danger of them attempting to avoid the pain by changing the plan – avoiding the pain allows pleasure after all! We need to ignore these needy aspects or our raw human psyche and focus on the job at hand: consistency in execution and lack of emotion.
Until next time,
Sam Evans – firstname.lastname@example.org