Wednesday, February 22, 2012

EWI: Why Do Traders Lose? Part II

Fatal Flaw No. 4 -- Lack of Patience
The fourth finger of the invisible hand that robs your trading account is Lack of
Patience. I forget where, but I once read that markets trend only 20% of the time, and,
from my experience, I would say that this is an accurate statement. So think about it, the
other 80% of the time the markets are not trending in one clear direction.

That may explain why I believe that for any given time frame, there are only two or
three really good trading opportunities. For example, if you're a long-term trader, there
are typically only two or three compelling tradable moves in a market during any given
year. Similarly, if you are a short-term trader, there are only two or three high-quality
trade setups in a given week.
All too often, because trading is inherently exciting (and anything involving money
usually is exciting), it's easy to feel like you're missing the party if you don't trade a
lot. As a result, you start taking trade setups of lesser and lesser quality and begin to

How do you overcome this lack of patience? The advice I have found to be most valuable
is to remind yourself that every week, there is another trade-of-the-year. In other words,
don't worry about missing an opportunity today, because there will be another one
tomorrow, next week and next month...I promise.
I remember a line from a movie (either Sergeant York with Gary Cooper or The Patriot
with Mel Gibson) in which one character gives advice to another on how to shoot a rifle:
"Aim small, miss small." I offer the same advice in this new context. To aim small
requires patience. So be patient, and you'll miss small.

Fatal Flaw No. 5 -- Lack of Money Management
The final fatal flaw to overcome as a trader is a Lack of Money Management, and this
topic deserves more than just a few paragraphs, because money management encompasses
risk/reward analysis, probability of success and failure, protective stops and so much
more. Even so, I would like to address the subject of money management with a focus on
risk as a function of portfolio size.

Now the big boys (i.e., the professional traders) tend to limit their risk on any
given position to 1% - 3% of their portfolio. If we apply this rule to ourselves, then for
every $5,000 we have in our trading account, we can risk only $50 - $150 on any given
trade. Stocks might be a little different, but a $50 stop in Corn, which is one point, is
simply too tight a stop, especially when the 10-day average trading range in Corn recently
has been more than 10 points. A more plausible stop might be five points or 10, in which
case, depending on what percentage of your total portfolio you want to risk, you would
need an account size between $15,000 and $50,000.

Simply put, I believe that many traders begin to trade either under-funded or without
sufficient capital in their trading account to trade the markets they choose to trade. And
that doesn't even address the size that they trade (i.e., multiple contracts).
To overcome this fatal flaw, let me expand on the logic from the "aim small, miss
small" movie line. If you have a small trading account, then trade small. You can
accomplish this by trading fewer contracts, or trading e-mini contracts or even stocks.
Bottom line, on your way to becoming a consistently successful trader, you must realize
that one key is longevity. If your risk on any given position is relatively small, then
you can weather the rough spots. Conversely, if you risk 25% of your portfolio on each
trade, after four consecutive losers, you're out all together.

Break the Hand's Grip

Trading successfully is not easy. It's hard work...damn hard. And if anyone leads you
to believe otherwise, run the other way, and fast. But this hard work can be rewarding,
above-average gains are possible and the sense of satisfaction one feels after a few nice
trades is absolutely priceless. To get to that point, though, you must first break the
fingers of the Hand that is holding you back and stealing money from your trading account.
I can guarantee that if you attend to the five fatal flaws I've outlined, you won't be
caught red-handed stealing from your own account.

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