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Character is destiny Herodotus |
In previous chapters we examined tools and techniques of analysis, the business of selecting good trades. In this chapter we take up execution, the business of trading well.
As important as analysis is to profitable trading, many fine analysts are poor traders. The ability to make good decisions under fire marks the successful trader. Much of what is required to trade well can be learned through study and practice, but there are certain traits that all good traders must possess in some degree at the outset. Here are three traits essential to success:
The paradigm for success in most fields is control. The successful artist controls his/her medium to create a work of art. Success in medical science is measured by advances in our control over disease. The successful businessperson has control over employees, the production process, and the marketing of products. But the trader works in an environment over which he exercises no control. No trader controls the flow of the market.
An utter lack of control over the market is matched by the trader's nearly total freedom of choice. With sufficient capital and a brokerage account, traders are free to buy or sell any issue, in any amount up to the limit imposed by capital, at any time during market hours. From among literally thousands of possibilities, the trader is free to make choices, free to succeed or fail any way he or she chooses.
What a trader does control is his or her own pattern of choices. Self-control, not control, is the key to successful trading.
Self-control is vital because all of the natural instincts we possess as human beings conspire to defeat us as traders. If success in trading could be achieved by doing what comes naturally, then beginning traders equipped only with native instinct and enough capital to trade would go on to certain success. Since that is clearly not the case, native instinct must somehow mislead. And indeed it does.
Mistakes of analysis aside, every trading error is a product of doing what comes naturally: taking profits quickly before they disappear, holding losers until they come back, waiting until you are sure the stock will move one way or the other before taking a position, reducing cost by averaging down, taking advantage of a rumor before it becomes news, loading up on a sure thing. None of these tactics seems unreasonable to the novice trader.
Self-control in trading can be learned, but only if some propensity for self-control is already present. Consistent winners, through education and experience, have learned to control--to override--their own natural instincts. Self-control is the edge that allows the pro to compete successfully against traders who have not yet mastered that art.
With freedom comes responsibility, and accepting responsibility for outcomes is vital to trading success. Traders who have not already laid down an adequate foundation of self-esteem are extraordinarily vulnerable to failure because they find it difficult to accept responsibility for bad or unprofitable choices.
For the experienced trader, losses are commonplace events. But losses are a threat to traders with low self-esteem. The most likely response of these traders is to put off accepting a loss until the pain of financial damage finally exceeds the pain of self-contempt prompted by the loss.
Traders who become angry at the market after a loss, or who blame "them" or the big interests "manipulating" the market, are attempting to direct responsibility away from themselves. These traders tend to be perfectionists, for whom the need to be right eclipses the desire to be profitable. Their strategy for self-protection is to construe each loss as the outcome of a conspiracy by unnamed others. These traders are never wrong; they have been unfairly victimized by overwhelming and malevolent forces. Consequently, they do not recognize that their own pattern of choices is faulty, and in need of correction. It follows that they will not learn; and because they will not learn, they will fail.
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The Street is full of victims who didn't know how and couldn't wait to learn. Richard Wyckoff |
Many individuals are first attracted to trading because they believe it is an easy way to make money. They do not appreciate the skill level required to compete successfully. It is not enough to learn a few of the underlying principles; one must have a deep understanding. That can only come with persistence and practice.
Only the inexperienced can think that making money in the stock market, year in and year out, by means of more or less continuous trading, is an easy proposition. There are times when it is easy. But let the novice stay at it for two or three years, and he will change his opinion.
Many beginners, unwilling to pay the tuition imposed by early financial and emotional setbacks, cut their lessons short before they have learned to hold their own against the competition. Only a firm commitment to the goal of trading mastery will see the student through.
Despite early reversals, some rookies continue to trade, but are too impatient to learn. For them, trading is reduced to gambling. It would be wiser for these hapless traders to cut their gambling losses short and walk away from the table.
| If you're in a hole, stop digging. |
Traders do not begin trading because they expect to lose. Nevertheless, losses are the rule rather than the exception for new traders. Every successful trader first had to learn how to lose before he learned how to win.
Traders who fear losses do not fear the market; they fear themselves. They do not yet trust their own ability to limit losses. Once a trader trusts that he will always act in a way to protect himself from large losses, he will no longer trade with fear.
Trading is managing risk, and cutting losses short is the first imperative of risk management. The ability to take, and then forget, a small loss frees the trader emotionally and financially for the next trade. The good trader cultivates a bad memory.
Experienced traders are able to back away easily from losing positions because they are confident that they can always get back in. It is not unusual for a trader to take a number of small losses before a position begins to work in his favor.
Losses are an ordinary cost of doing business. Accept them quickly and gracefully. Above all, do not let losses tempt you to anger or frustration. Your goal is profit, not perfection. The last trade, like the last golf shot, is history. Address a bad lie with your best shot.
Taking a loss properly begins with trade entry. One advantage of entering trades as closely as possible to critical short-term support or resistance is that a bad trade is quickly identified. If the trade is entered when the stock is at a low-risk entry point, then the trader should expect that the price will not move against him by much, if at all. Maintaining a close tolerance upon entry provides the trader with good reason to exit the trade quickly should price break protective support or resistance.
It is not always necessary to wait for a loss before aborting a trade. Sometimes price will move in the desired direction, or not at all, but the price-volume activity suggests that adverse forces are gaining control. Get out of a trade if it fails to come up to expectations or if price-volume indications turn negative. If the tape says, "Get out!", do not argue.
Because markets are the free and spontaneous creation of buyers and sellers, surprise is commonplace. Rely on your continuing judgement of the unfolding tape. Remain nimble and prepared to change your mind in a moment, for you cannot change the market.
Establish a perimeter around each trade you enter--limits beyond which you are no longer willing to keep the position. These limits should include time as well as price. If a trade takes much longer to unfold than you anticipated, this may be an indication that the trade is not ready to be taken.