Dealing With Losing Trades

One of the most important things that anyone who ventures into the arena of trading will need to learn, is how to deal with trades that go sour.

You can find lots of books out there on technical analysis in this day of age. You will also discover no shortage of self-proclaimed “experts” with infallible price predictions which are yours for the taking provided you first plop down some exorbitant sum of money for the privilege of then watching those prophecies fail to come to pass.

But what you will rarely ever come across is  a book or an article dealing with the mental impact of losing your precious capital in trades that fail to work out as you thought they would.

Part of the reason for this is that those who sell their books, or newsletters, or whatever, need to keep up the façade that they are so experienced, so good, so astute, that they never lose money and if you simply follow them, neither will you.

Anyone who has been around the markets for more than a few years will immediately see this for exactly what it is, a marketing ploy devised to provide a continuing flow of new “victims” ( excuse me, I meant to say customers/clients) to replace the ones that leave once they learn through their own painful experience how fallacious such claims are.

It has been my observation that the virtue of Honesty, sadly, is something that can be a rather rare commodity when it comes to the commodity world!

The simple truth is that every single trader, no matter how good or how experienced, will go through periods during which they will seem to be unable to place a single trade which will be profitable.

They will go into a market on the long side only to have it reverse on them and drop lower. They will then go short only to have that same market turn around and go up. They will then, with some indignation I might ad, jump back on the long side once more, this time kicking themselves for “not being able to sit tight and be right”. Whereupon, that same market will then seem to slap them silly by promptly collapsing once more!

The result is that they are mercilessly whipsawed and suffer a series of losses one after the other. Any trader of any experience of any duration can relate to this, as I can assure you, it has happened to them. It certainly has happened to me!

The result can be devastating both psychologically and emotionally. Psychologically in the sense that it can completely shatter their self-confidence making them doubt that they have what it takes to be successful. Emotionally, in that it can produce a real sense of despair and anger that leads to bouts of depression.

As a brief side note here – I speak often of money management for trades but one thing all traders must cope with, and I believe that this is even more important than the money management side of a trade, is EMOTION MANAGEMENT.

Look, it seems easy to manage your emotions when your trades are successful and it seems as if you have the MIDAS touch. None of your trades fail, the markets move as if following your lead, your paper profits grow and all is well with the world.

Believe it or not, during such times there are emotions/attitudes that must be managed. Most importantly of these is PRIDE and COMPLACENCY. You wonder how other traders out there could be so incompetent and stupid compared to your own genius and marvel at how easy it is to make money in this profession. “What is the matter with these other fools”, becomes your guiding principle.

Beware, because unless you bring these under control, you are going to be setting yourself up for a very rude awakening one day. Recklessness, overconfidence, arrogance, complacency, narcissism, etc. have no place in any successful trader’s temperament. Get rid of them or the market will get rid of them for you and trust me, you will not like the manner in which it does!

When it comes to losing however, an entirely different set of emotions and attitudes must be combatted and these can be incredibly debilitating. As mentioned above, despair and anger can encompass you. You realize how long it took you to produce your trading capital, how precious it is and you see it literally evaporate in front of your eyes.

Also, your dreams, your goals, your hopes of providing a better life for yourself or your children, which at one point seemed to be on the verge of becoming reality, are suddenly, mercilessly, brutally, taken from you in a moment. That can CRUSH you emotionally and psychologically as hope becomes replaced by despair and peace becomes replaced by inner turmoil, grief and bitterness.

During such times, or better, such states of mind and emotion, the real temptation that MUST be overcome is the urge to “let me just keep putting more positions on so that once the markets turn, I can recoup my losses and score big”.

I cannot emphasize this strongly enough: NEVER DO THIS, EVER! Making a trade when you are angry, or bitter is never wise as you are not thinking clearly at that point and have completely lost what should be a guiding principle of successful trading, OBJECTIVITY. Emotions are directing your trading at that point. Stop!

So, the question becomes, “what is one to do during such times as these, when it seems as if the curse of heaven is hanging over your head?”

I will answer this by saying that there are THREE positions any trader can have in the market at any given time; LONG, SHORT or OUT. Let me repeat that last one again, OUT!

I have found that the best way to handle periods in which it seems as if you can do nothing right is to simply get out of the market and lick your wounds.

This accomplishes several things – FIRST and foremost it keeps your from losing any more of your precious capital. You cannot lose money if you are out of the market now can you?

Surgeons will tell you that the first thing they have to do with any patient that has suffered serious wounds is to STOP the BLEEDING.

After that is accomplished then you can treat the patient.

SECONDLY, it then gives you the opportunity to actually LEARN from what went wrong. Traders who never learn from their mistakes become FORMER traders. Those that do, become successful traders. Any trade, even if it goes sour, can be a valuable learning experience that teaches you how to avoid major mistakes in the future. I would go so far as to say that had I not had a large number of failing trades in my early career, I would not have become successful at doing this today. Every time I lost money I tried my best to see what I had done wrong so I could avoid repeating it.

On some occasions you will find that you actually did nothing wrong. You got a buy or a sell signal, you acted on it and the market simply did not cooperate. Guess what? There was nothing you could have done any differently at such times. A piece of news came out and it changed the complexion of that market and it reversed course. That is simply the nature of this profession.

Most of the time however you will find something that you could have done otherwise if you had to do it over again. Sometimes, that might have meant avoiding taking the trade in the first place BECAUSE THAT MARKET HAD NO CLEARLY DEFINED TRADING PATTERN. Essentially you were rolling the dice.

Other times you might have gotten too greedy and failed to take some of your paper profits off when the market was showing some signs of stalling.

Sometimes you might have put on a position that was simply too large for the size of your account and a brief pause or setback in the market, that was temporarily moving against you, resulted in too big a drawdown in your trading account and caused you to panic and act prematurely instead of sitting tight.

There are a host of things you might discover if you take the time to try to glean something of value from a trade gone bad.

THIRD and lastly, being out of a market allows you to regain your objectivity. When you have a position on in a market, at that time, you are committed to one side. It is human nature to therefore want to see those things that confirm your view of that market and ignore those things that do not. If a market is flashing warning signs that it is running out of upside momentum and you are long because you have a fundamental view or a strongly held opinion that prices should be much higher, chances are you are going to ignore those warning signs. Same thing goes for a market headed lower in which you think prices should fall even further = you will tend to ignore signs of bottoming action.

If you are out of that market, you will be surprised how easy it becomes to both read and give an objective view of that market. Once you regain your objectivity, then, and only then, are you ready to re-enter trades.

Also, by observing a market and watching its price action and seeing that price action confirm your views, you will regain your confidence which might have been badly shattered. That will bring a sense of peace and internal equilibrium which will make you realize that you can indeed do this and that you are not some sort of miserable failure but merely a fallible human being who can be tripped up from time to time. This produces that most important of trader’s attitudes and one that I believe is the most underestimated and yet the most essential for ultimately being successful – HUMILITY!

Once you realize that you are not infallible and that you can err from time to time, you will become more cautious knowing when to push and when to back off the throttle and lighten up. No book can teach you this. You must learn it through experience.

I might add this is the reason that as soon as I see someone making wild claims about where a market is going as if they are infallible, I immediately know that they either have little if any actual experience trading in the real world or what might be even worse, they have never learned humility.

The Scriptures teach in the book of Proverbs :

“Even though you grind a fool with a mortar and pestle, yet his folly will not depart from him”.

Ponder that for a while and you will understand how true it is!

This topic is far more complex than can be dealt with in this short venue but I do hope that some of this is of some comfort to those of you readers who might be struggling with these things. Fear not! You are dealing with those things which every successful trader who has ever gone before you has had to contend with. Keep persevering and you will succeed but be wise about it!

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Courtesy of Trader Dan http://traderdan.com/