Experience Trading
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Markets go up, markets go down; how hard could trading be?
This is where most begin their beliefs about trading, invariably ending in frustration and eye-opening disappointment.
The following post is intended to be a straightforward article, shedding light on the psychological struggle many professional traders experience; hopefully, this will help some readers circumvent common pitfalls and save time.
Fear is so powerful it can make us hesitant to trade and encourage poor decisions.
Fear can override the ability to think rationally, and we must be able to think objectively to trade successfully.
Fear is one of the primary factors behind failure to achieve consistent success, whether you trade or invest in the foreign exchange market, stock markets, bonds, commodities, etc.
On a physical level, we seemingly enter a fight-or-flight mode when we trade. Why this occurs is difficult to understand. It could be that our brains perceive the possibility of a losing trade as a threatening situation.
You often hear (and read) traders and investors recommending to ‘trade without emotion’. Whether you base your trading decisions on a discretionary, partially discretionary, or non-discretionary approach, there will always be an element of psychological influence. It is impossible to eliminate emotion from our trading, though we can learn to control our response to the emotional challenges.
The point is that while removing fear is impossible, learning to control fear is achievable and is a learned skill. Those who have attained a level of consistency in their trading and fall into the bucket of consistent winners have, among other things, learned to understand, control, and accept fear.
Most believe that a strategy with a positive expectancy is all that is needed. A strategy with positive expectancy informs the trader how much they can expect to generate from each trade in the long run.
Expectancy = (Average Gain * Winning Percentage) – (Average Loss * Losing Percentage)
To be clear, you need a strategy that delivers positive expectancy, as your account will eventually be emptied over the long run without one. But you do not need a trading strategy that always generates winning trades; that is impossible. Most professional traders only win 50-60% of the time (some much less), though they still manage to generate a consistent return through favourable risk/reward: they win more on the winning trades than they lose on losing trades.
You will be wrong, and you will have losing trades. The quicker this is acknowledged and accepted, the more straightforward trading the financial markets will be. Professional traders accept this, and it is key to achieving consistent success. Successful trading limits losses and employs optimal trade management on winning trades.
There is no easy way to reduce the fear of trading and risk, which is why many successful traders can take so long to reach a level of consistency.
One way to help reduce fear in trading is through a technique known as systematic desensitisation which can be achieved in three steps:
This helps lower stress levels when in a trade.
Fears concerning trading are often simple: the fear of failure, the fear of being wrong and the fear of losing money. These are common fears among traders as well as investors.
To seek measured exposure to the risks and fears of trading, we often begin with a demo account to back test strategies. This provides statistics that elevate confidence to trade live funds.
It is then recommended to begin with a small trading account, as emotional influences can affect your decision-making process when employing oversized trading accounts and turn a winning system into a losing one. The idea is to gradually acclimatise to the risk and fear associated with trading. Once the trader is consistently profitable using a certain risk profile, they would be comfortable increasing their account size incrementally and, consequently, the value at risk.
How much should you increase your account by? That will be down to the individual trader. We are all unique and have different goals. The point is to continually increase your account size as you become more familiar with the fears you listed in step two, helping to make trading a far less frustrating.
No one knows what will happen on a trade-by-trade basis. This is a crucial point many traders merely pay lip service to and do not truly accept that they have no control over the next trade’s outcome. It does not matter whether your system has a winning percentage of 70%; it is impossible to know whether the next trade will be a winner or a loser. But, on average, we can expect 70% of the trades to be winners over a sample of trades, but it’s impossible to know which ones will be winners in that sample.
As independent traders, we can only control four things:
Alongside understanding that we have no control over the next trade, we must understand and accept that while in a trade, it is not about being right or wrong. It is ok to be wrong in trading. In fact, we will be wrong, and we will be wrong a lot, and the sooner we accept this, the more straightforward trading will become.
We already know we cannot put any emphasis on one individual trade, so if we know that, and we know that risk is controlled to a certain percentage of one’s equity, then why are we concerned with winning and losing if we understand through our back test and forward test that we have a strategy with positive expectancy?
Let’s think about this.
We spent time back testing and likely forward testing on a demo account to validate our trading strategy, and we have the statistics to back this up. Let’s say that in our back test, our maximum drawdown consisted of eight consecutive losses. So why would we panic after two or three consecutive losses when trading a live account, as this is not new information? Putting the work in with the back testing will make trading with live funds a far simpler and less stressful venture.
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