|Let's look at the differences between profitable and
unprofitable traders. Is it a question of experience, or
are some folks just born with the talent to play the
markets successfully? How does risk tie in with
profitability? Are profitable traders more willing to
make riskier trades?
||Author Mark Douglas talks about three stages in becoming
a profitable trader. First you learn how to find
promising trade setups. Second, you learn how to enter
and exit those positions at the right time. Third, get
to a point where you build equity on a consistent basis.
The secret to this third step is really no secret at
all. You master the discipline required to follow your
methodology, plan or system.
|Traders need to make an important choice early in their
careers. They can decide to follow a specific method
that forces them out of the market during unfavorable
conditions. Or they can master a broad range of skills,
and then apply the right one at the right time. Neither
approach is right or wrong, but both require paying
close attention to the profit-and-loss feedback.
Most unprofitable traders rely on a poorly matched
execution style, or a good one they haven't mastered
yet. Very often they fail to recognize critical errors
in their methodology because it was learned in a book,
or through inappropriate conditioning, i.e., making
money on bad decisions. Realize that profitable traders
know all the weak points in their strategies and
exercise damage control at all times.
You can't understand your methodology until you analyze
your profits and losses. Identify its weaknesses
quickly, and then decide if it really works at all. You
may discover that your whole approach to the market
isn't right for your lifestyle, emotional nature or
long-term goals. For example, you could be a scalper
with the disposition of an investor, or a daytrader who
hates risk. Bad things will happen when your system
doesn't match your personality.
Traders hate to think about discipline. After all, it's
not as sexy as just becoming a market gunslinger. But
the bottom line is that most of us don't follow our own
rules. This is ironic, because the folks who ignore the
reasons they lose money are the same ones who spend
thousands of dollars attending trading seminars.
Personal discipline is the one thing you can't learn
sitting in an audience.
Discipline and money management go a long way toward
becoming a profitable trader. But let's be realistic.
However you trade, you must be confident in the positive
expectancy of your style or methodology. This poorly
understood concept refers to how much profit you can
reasonably expect to make vs. each dollar risked on a
trade. Gamblers know this equation as the player's edge
in a casino. The problem is that most of us don't
understand our strategy well enough to determine whether
or not it has a positive expectancy.
System traders use backtesting to gauge the positive
expectancy of their systems. Retail traders choose entry
and exit without this methodology, so they need to
compensate through extensive record-keeping and analysis
of each trade result. Even so, they could be fooling
themselves into believing they have an edge in their
pursuit of profitability.
The sell side of the positive expectancy equation is
more important than where you buy. Research suggests
that a very profitable system can be built using random
trade entry. Yes, you heard that right. It's possible to
make money in the same way as a chimp who throws darts
at a dartboard. But the hairy primate still has the same
problem as the losing trader: He doesn't know when to
take money off the table.
Positive expectancy requires a robust exit strategy. But
you already knew that, didn't you? Volumes have been
written about money management techniques, such as
cutting your losses, riding your winners and trading
adequate reward/risk. But somehow, losing traders
continue to outnumber profitable ones by a very wide
One aspect of positive expectancy is more difficult to
manage than any pure numbers game. All trading styles
experience drawdowns, and profitable ones are no
exception. Traders routinely abandon profitable methods
because they hate to lose money. They stop following
perfectly good rules because they aren't getting the
instant gratification they want from the markets.
If this all sounds like a big loop from the top of our
discussion, it's meant to be that way. Losing traders
get stuck in a vicious cycle. They want to profit from
the market so they come up with a strategy to make
money. They trade the strategy until it frustrates them
to the point they abandon it and go looking for another
strategy. In the process, they never take the time to
find out whether or not it had positive expectancy in
the first place. In other words, they don't let their
methodology mature enough to watch its real potency bear
Which brings us back to discipline. Sure, it's boring to
plan the trade and trade the plan. But it's the only way
to break this losing cycle and get on the road to