Trading Tips

Are you really cut out for trading?


I don’t know if this is really a recent post or not as every post on her sight seems to have the same date on them at the moment, but at some point Jessica at Rouge Traderette shared some thoughts on how to figure out if trading maybe isn’t for you. She presents a trio of signals that maybe it isn’t. I’ll address each in turn.

1) You can’t sleep
I actually think this might have more to do with either excitement or excessive risk taking. We’ve all been in situations where we’re just too excited to sleep at night. I know in my own trading there have been times I’ve awaken in the middle of the night and checked my positions to see how they were doing from a positive perspective. Do you maybe want to reign that in a bit? Probably.

From a negative perspective, if you can’t sleep because you’re worried about the market going against you then you’re probably trading too big. You’ll sometimes hear the advice that you should set your position size to the point where you can sleep at night. If insomnia has you up can checking your positions in fear of taking a loss, then it’s probably time to cut your size.

That said, if you are really hesitant to even pull the trigger on a trade regardless of size for fear of losing money or simply being wrong then maybe trading isn’t for you. I once had a student in a class who wouldn’t even do a trade in a demo account out of fear. Not a good sign for a would-be trader.

2) You are overly concerned with your losses
Jessica actually presented this in terms of denial, which is definitely something to be worried about. If you can’t face up to your losing positions, that’s not a good thing! You’re going to have a lot of losers over a trading career. You need to learn to be able to handle them. Going down the denial route will almost invariably lead to disaster.

Think of it in these terms. Traders who don’t abide by their stops are the ones who tend to take the biggest trade losses because their positions just keep running against them. What do you think is going to happen if you are in so much denial about a losing position that you won’t even look at it?

3) You can’t separate trading from real life
As with anything else, you don’t want trading to become your whole life. That’s not a healthy situation. On the relatively mild side of things it can lead to early burnout. At the more extreme end of the spectrum is things like lost relationships and disastrous trading because you’re taking things personally.

I admit, trading can be very stimulating for any number of reasons. For that reason, though, caution is required. There’s nothing wrong with trading as a form of entertainment, so long as you understand that’s what it is and set your financial expectations and commitments according.

I would add one BIG thing to this list:

You think that you will change your life overnight.

Trading is work and like anything takes time. If you’re looking for a quick fix, walk away.

Reader Questions Answered

Can a Shared Trading Edge Still be Profitable?

Yesterday I wrote Conspiracies, Regulations, and Trader Paranoia in which I tried to clear up some of the common perceptions that I’ve seen of late. A comment was left on that post which I think warrants more than just a reply in the comment stream.

Can an edge be shared and still be profitable given that trading is a zero-sum game?

I’ve expressed my views the zero sum question in the The Zero Sum Game post some time back, so I won’t delve into that here. Instead I’ll speak to the main part of the question.

There are well known profitable systems out there
William O’Neil, the founder of Investors Business Daily, published his own set of stock trading rules in How to Make Money in Stocks. That book in its numerous editions is one of the best selling trading books of all time (check out Thoughts on CANSLIM). I can personally attest to the value of that system for stock trading, as can countless others. That hasn’t changed the efficacy of the system to those using it.

Richard Dennis, an original Market Wizard and the creator of the Turtles, once said something to the effect that he could publish his trading rules in the paper and most folks would never make money with them (If you are unfamiliar with the Turtles check out The Complete Turtle Trader and Way of the Turtle). I think his main point, if I remember correctly, was that most people learning the system wouldn’t end up trading it as intended.

Of course these are just some of the high profile systems. There are loads of lesser known ones which are being used quite profitably and being shared around on forum sites all the time.

Efficient Markets and System Degradation
The argument people make, especially academics, against the sustainability of a popular trading system comes mainly from an efficient market perspective. Even academics will now admit that markets aren’t as efficient as they’d thought. One need only look at the volatility of the last couple years to get a good indication of how inefficient they can get. The lack of efficiency means people don’t always do the smart, rational thing – like sticking to good trading strategies.

The financial markets are massive. How massive can sometimes be hard to see from the perspective of an individual who only really sees what he/she is doing and  prices moving around on a screen. There are millions of market participants, all with their own biases and ideas and ways of trading. They operate in different time frames and use different instruments to play the markets (ETFs, futures, options, etc.). That means any one trading system is just one of a vast multitude being employed. As such, it isn’t going to have an impact on things.

Trading Systems Used By Individuals Aren’t the Problem
The only way a system comes to influences its own performance is if that system represents a dominating fraction of the market’s volume and participation. That’s where some of the quant systems, carry trade strategies, and other complex approaches that blew up in recent years got into trouble. They were big players all playing the same way in the same markets, some of which weren’t overly liquid. That created market inter-relationships which were unanticipated so when they all tried to get out it blew apart on them.

Now, unless you are a hedge fund running billions of dollars, you’re not going to have any real issues sharing your trading strategies with other players. It would take a huge number of individual traders all trading the same market the same way at the same time to create problems. The chances of that many folks representing that large a volume portion, all sticking to one trading system, and operating in the same time frame in one stock, forex pair, or commodity are so slim as to effectively be nil.

Bottom line: Don’t worry about sharing your trading strategies unless you trade size in a low liquidity market.

Trading Tips

Conspiracies, Regulations, and Trader Paranoia

Last week I posted No More “Hedging” for Forex Traders to discuss the pending NFA rule which effectively ends the process of “hedging” in the forex market whereby a trader can hold open long and short positions in the same currency pair in the same account at one time without those positions being netted out by the broker. It’s a hot button item with traders on both side of the argument and the comment count for that post is now nearly at the 100 mark. I’m not going to continue that exchange here. What I want to do, though, is address something which has come out of it, namely a certain mindset I have seen quite a bit of recently.

I don’t know if it’s the current market environment as defined by the events of the past couple years or whether it’s just a function of those with the point of view being the most vocal, but there is a definite sense of paranoia and conspiracy mongering among market participants these days which I find disturbing. It’s always been there, of course, but it seems to have been ratcheted up of late, no doubt fueled by the emotions events have generated. I’d like to address a couple of things I’ve seen recently.

The Big Players Want to Keep the Little Guy Down
One of the consistent themes of some of the commentors on that “hedging” post is the view that the new rule is being put into place because this practice is giving the small traders and advantage and the big guys don’t like that. Guess what, folks?

The big players don’t give a rat’s ass what the small traders do.

Especially in the forex market, the big fish and the little fish don’t even swim in the same pond for the most part. The size at which they trade means the big guys are trading against each other and with their customers doing multi-million dollar trades, not with the guy trading the mini account. The small account traders are trading with and against each other, which means if they are making money “hedging” or by any other techniques they are taking those gains from those losing money using whatever methods the losers are using.

And this applies to the other markets as well. Because of the size they operate at, the big players just simply don’t trade with and against the small traders. They need big positions, which generally means that have to buy them or sell them from other institutions. Little one’s and two’s just don’t cut it.

Regulatory Tyranny
One of the other frequent complaints from the pro-hedge side is that these new NFA rules amount to government tyranny. They see it as the regulators taking from them, in this case the right to trade they way they want. I can understand the argument that the gov’t shouldn’t be protecting me from myself. To my mind, that definitely isn’t what regulation should be for and there are some legitimate questions as to whether the hedging rule and prospective reductions in permissible leverage really do anything beyond guarding traders from themselves.

That said, it is clear regulation is required to ensure equal opportunity among participants. It’s too easy in the markets for the large players to dominate things to the detriment of the smaller ones. That doesn’t necessarily mean manipulation or abuse, but just a simple fact that free markets aren”t as efficient as some would suggest. I don’t mean to imply here that equal performance should be the objective of regulation – just a level playing field for all players. Also, because the market cannot necessarily see the wider implications of what is going on, there needs to be some institution monitoring things and making sure abuses and systemic risks don’t develop.

The problem, though, is that emotionally driven decisions are generally lacking in forsight. We are seeing an awful lot of bad ideas being put forth these days because people are angry and scared.

“Look at their performance. They must be doing something shady.”
It would be foolish to belive that every trader and every institution is doing everything honestly and above board. At the same time, though, the vast majority of folks involved in the markets aren’t cheating people. They are just plugging along trying to do the best they can. To have the view that it’s otherwise, especially thinking that somehow these people are taking from you in some fashion, is nothing short of paranoia, which isn’t doing anyone any good.

The current environment where those who are actually successful come under suspicion is an ugly one to me. In any environment there are going to be those who come out ahead. Sometimes its by being a little better. Sometimes it’s just plain luck. Either way they should not be subjected to inuendo or outright witch hunts. Imagine how it must feel for someone to go from feeling pleased with what they’ve accomplished to having to constantly defend themselves from attact. For our society to be what it can be – in all aspects – we need to be encouraging those who demonstrate talent and the ability to produce results, not drag them down (unless we have real evidence that they have acted inappropriately).

The Complaints Reflecting the Complainer?
It occurs to me that in at least some cases the gripes we are hearing from traders about conspiracies or biases or whatever say more about the trader doing the complaining than those they are complaining about. It’s often a symptom of someone wanting to place blame for their own short-comings elsewhere. We see it all the time with traders accusing brokers of running their stops and things like that.

Also, there is a tendency in trading to feel like any little edge you think you have should be guarded and not shared. I think that tends to lead to an environment of distrust, which to me isn’t healthy. I think we could all do a lot better by cooperating rather than always feeling like we’re in competition.

OK. Enough ranting. Opinions and viewpoints are, as always, welcome.

Reader Questions Answered

Live Trading Performance Not Matching Demo Trading Success

I have long been a proponent of new traders getting their feet wet in live trading as quickly as possible after they have developed the basic trade entry and management skills (albeit on a very small scale). My reason for that is the exposure to the prospect of real loss alters the psychology of things dramatically. This email I received is a very good example of that.

There isn’t really a question as such, although I suppose it is.

Its the mental attitude I’m finding difficult to resolve when I change from demo to live. Demo accounts I’ve doubled, live accounts I’ve lost to much money.

Someone said to me in an email its a case of just thinking your still on demo, I wish it was that easy. I feel its more a case of confidence in myself and sticking to my system rules no matter whether the trade goes against me or not. That’s the hardest part I think watching while it swings against you and hoping that you have allowed enough stop loss before it swings back, timing may be an area I’ll have to look into, dropping down onto a lower time frame possibly.

I’m definitely going to disagree with the advice this person received about “just thinking your still on demo”. That’s actually the reverse of what needs to be done, to my mind. Trading like you’re still on demo probably means acting in a riskier fashion than you can do trading live. You need to take the reverse view and trade demo like you would trade live. It’s not easy, though, to be sure. Trading real money and trading phony money will always be different. Demo trading is good for learning the ropes and testing strategies, but that’s about it.

Confidence is a big part of this all, as suggested by the emailer, and I definitely recommend giving a read to the Afraid to Trade? Build Your Trading Confidence post I wrote a little while back. It offers up some advice on how to build/re-build one’s confidence. For this particular person, one part of the equation could be trading smaller so that the swings that seem to be causing the strain aren’t quite so painful.

Reader Questions Answered

Looking at Risk and Stops Across Markets

Here’s the core of a note I received from a member of my mailing list a short while back. It speaks to a subject some traders struggle with.

Have been studying trading for several years, traded a bit with various levels of success. Looked hard at Forex, but am now rather taking a liking to E-Minis: reason is risk. I find it relatively easy to limit your risk by catching a move with a tight hard s/l & moving s/l in the E-Mini, but for forex all strategies I normally see require a s/l of 20 – 35 pips. I do not like that at all.

What is your view?

It appears as though this individual is caught up in a faulty perspective. He’s focused on points (or pips) rather than what they represent.

In an S&P 500 e-mini contract a single point is worth $50, with the minimum price change of 0.25 being equal to $12.50. By comparisson a 20 pip move in the forex market could represent any number of possible values. Taking EUR/USD as an example, if we are trading a micro contract (1000 EUR) it would be $2.00. For a mini contract (10,000 EUR) it would move up to $20. When we get up to a full lot (100k EUR) it reaches $200.

In other words, depending on the size of your position, a 20-35 pip forex trade risk could be substantially smaller than the smallest possible movement in the e-mini contract. If the trader above is risking 2 points on his e-mini trades (for example), which is $100, then he could trade 5 mini EUR/USD contracts risking 20 pips  and have exactly the same exposure.

You shouldn’t compare markets on point/pip a basis. Focus instead on a value basis, especially a % of portfolio one.

Trading Tips

Afraid to Trade? Build Your Trading Confidence

Confidence is a HUGE factor in trading. On the one side, the lack of it can create all kinds of anxiety and fear, over-thinking things, and not being able to pull the trigger (analysis paralysis). On the other side, too much confidence can lead to being cavalier with risk and taking poor trades. In this particular article, I’m going to focus on building confidence.

afraid-to-tradeStart Slowly
There’s no need to rush into trading. It’s really easy to get caught up in all the excitement of the financial markets, but try to avoid that. They aren’t going anywhere, after all. Give yourself time to learn and develop your skill set. A great many new traders see the dollar (or pound or euro or yen) signs and become blinded to all the rest of it, eager to get going and grab hold of their share of the winnings. It isn’t that easy. Trading is like any other activity. It takes time to get up to speed and develop the required competency.

Build a Strong Foundation
If you dive headfirst into trading without taking the time to think things through, you’re definitely more likely to be part of the majority who fail rather than the minority who succeed. I made a big deal about foundation building in The Essentials of Trading, and I harp on that repeatedly in my blog posts and other exchanges with new traders. Work your way through the process of developing your trading plan, including the best trading time frame, the optimal market, and the style of trading which best suits you. If you’ve taken the time to sort this stuff out, it will help to give you confidence in your trading as you move forward.

Practice, Practice, Practice
Athletes practice skills to gain mastery and to be able to execute them under pressure without thought. Traders should do the same thing. There are all kinds of different demo trading accounts available these days. No matter the market you trade, you should be able to find a free platform of some kind that will let you practice trading without having to risk real money in the markets. There are a lot of little things you can pick up demo trading. Some of it is the basic stuff regarding order-entry, prices, P&L calculations, and other mechanics. On top of that, though, you can also practice using your trading system or methodology to gain confidence in your ability to trade it effectively.

Go to Live Trading Early
I am a huge proponent of dipping your trading toes into the live markets as quickly as possible. That said, I’m not talking about jumping into the deep end without knowing how to swim. Once you’ve mastered the mechanics of trading using a demo account, it’s a good time to start playing for real. At this stage, however, it’s not really that much about profits and losses. It’s about your trading psychology. As just about anyone who’s ever made the transition from paper trading to the real thing will tell you, it’s not the same. When you’re money is at risk it can really change the way you think, and by extension, the way you trade. That’s why you should …

Start Small
When you make the initial move to live trading, do so with the smallest amount of money you can reasonably get away with. You are going to make mistakes. The cost of those errors can be thought of as trading tuition. You need not make that tuition bill a big one, though. A very small account means very small losses. How small an account you can get away with will vary considerably depending on the market you’re trading and how you trade it. And be sure to give yourself enough wiggle room in there to make sure a few bad trades don’t knock you out of the game.

Practice Some More
Once you’ve had a good taste of live trading, go back to the demo trading once more to really solidify your final trading action plan. Through the live trading experience you should learn what things you can and cannot handle or do in trading. Take that back to the demo trading and incorporate the new information into the way you set up your trading plan. This is just like being an athlete who using their experience in games to fine tune things during practice to get ready for the next competition. You should do the same thing as a trader.

Ease Your Way Into the Market
Working through the steps outlined so far should help you become less afraid to trade and more confident in yourself. Even still, you don’t want to go piling into the market. Take it slow. Allow your comfort and confidence in real-money trading to build gradually by starting small once more. You’re still going to make mistakes (though hopefully fewer by this point), so keep their cost down and their impact on your confidence to a minimum. You’ll also invariably take losses. That’s something you’re going to have to learn to live with. It will probably take a bit of time, but that too will be helped if the losses are small. As you feel more comfortable, gradually trade larger, working your way up to the level of risk and exposure which suits you best.

Final Thoughts
Trade Calmly and With Confidence The question is frequently asked how long it takes to get to consistent trading profitability. For some people it will happen relatively quickly while for others it will take longer. How long it will be for you will be impacted by things like the time frame you trade and your personal base risk tolerance. Don’t try to compare yourself to others. Go at your own pace. If you have the commitment to doing things the right way, to developing as a trader, and to being prudent in your actions, you will eventually get to where you can trade confidently.