Hello fellow Slopers! My apologies for not being more of a regular contributor. I have recently relocated and that has thrown me a bit off my stride.
This is the first of a series of posts on setting up your trading business. The topics covered have had books written on them and this is not meant to be inclusive or, due to time and space constraints, cannot be an in-depth examination of the topics covered. They are however, what I consider to be the essentials of what is required to become a successful trader. At the end of each topic I will include further resources that I have found most helpful in my development as a trader should you wish to delve further. Here is the proposed outline:
Developing A Trader's Mind Set
The Nuts And Bolts: your business plan, mission statement and statement of belief.
The Search For Method
Finding Your Edge: trade setups, trading plans and trading journal
Risk Assessment And Trade Management
Putting It Altogether
These topics, with the exception of the first, are not meant to be necessarily dealt with in sequence. You will find they are highly interrelated and most, if not all, you will deal with throughout your trading career.
Development Of The Successful Trader's Mind Set
I am firmly convinced that this is what separates successful traders from failed traders. There are statistics and studies that indicated that 95% of all traders eventually fail. In futures trading, that 95% is usually within the first year. For equity traders, it takes a bit longer. Interestingly enough, most traders do not do the hard work in advance. They fail to recognize the psychology involved as they interact with markets. I have found that this a voyage of self discovery and one of the most difficult things I have attempted in my life. The rewards, however, are spectacular.
Most traders read a few books, check out some web sites, open a trading account and then start trading. IF this is you, you have already doomed yourself to failure. As Dear Old Dad Used To Say: if making money was that easy, everyone would have a lot of it!
Trading is a marathon event, hopefully one you will run for as long as you choose to continue trading. It is NOT a sprint! Most traders look for stock picks, trading gurus, sure-fire trading methods (also known as Holy Grails), etc. immediately. The Holy Grail does NOT exist outside yourself but it DOES exist! It is located between your own two ears, should you seek to develop it.
First of all, successful traders learn to think in terms of probabilities. NOBODY knows what will happen next! Shocking, no? The good news is, you do not have to know what happens next to make money in markets. When you trade your perceived edge you are trading nothing more than your assessment of the probability of one outcome being higher than another outcome.
It has been said that we trade our belief in what happens next, and I do agree with that statement. It is what you do when you find out what happens next that also separates successful traders from the rest.
This brings us to dealing with the need to be right. More good news: you do not have to be always right to make money in markets! Indeed, you can be wrong a majority of the time and still make money in markets! Medical doctors undoubtedly make the worst traders. As a medical doctor you must be right. If you're wrong, people die. Bring that to the market and you will get slaughtered. In our previous successful endeavors, we have developed skill sets to become successful. Bad news: for the most part, you apply those previous skills to trading, you will get slaughtered.
Why is that? Your previous skill set involves manipulating the situation you are in, the people around you, and your environment to achieve the desired result. The market will have none of that. Once you hit the trade button and your trade is executed, you no longer have any control over price action. Indeed, the market is structured in such a way to compel you to act contrary to your own best interest! That is the reason why most continue to buy at highs and sell at lows.
There are a host of other issues that you must deal with as well. You might want to look closely at your relationship with money itself. Do you believe that when wealth is garnered by an individual that he deserves that wealth? Is money the root of all evil? What about wealthy people, eyes of needles and camels? There are fund managers that manage funds invested in individual traders. They KNOW when some trader is about to hit the wall due to the level of equity. Even professional traders are not immune to this. Deep down, below the conscious level, they believe they only deserve to make so much money. When that is exceeded, they find ways to give it back! Absolute equity levels are tracked by these managers. When a pattern emerges, they take advantage of that. As children, we are taught that to take what belongs to others is wrong. How do you feel about taking someone else's money? On the surface, you may think, hey, no problem. Look deeper, it could be a problem. This is but a very brief examination of some of the work ahead of you as you attempt to gain a successful trader's mind set. At this point it might be instructive to examine some of the qualities of successful traders as it relates to constructing your own Holy Grail.
Responsibility. Successful traders take full responsibility for their trading decisions and trading outcomes. This is one of the most important qualities found in a good trader's mind set. It is the core of everything. As you move through life, you either believe that you can create your own desired results, or things just happen to you. When you believe you create your own results, trading then becomes a learning process. You can identify behavior that leads to undesirable results and take steps to correct behavior. IF you believe that success/failure is due to luck or external forces like the PPT, TPTB, GS or Ben Bernanke, you will continue to repeat your errors, and your trading career will be short lived and end in disaster. Take the responsibility upon yourself. Own it! This is difficult for many to do. Take the step. It will pay you huge dividends!
Commitment. Success comes to those traders that treat trading as a business. What this means is you make the commitment to do what it takes to make your business a success. That entails work and study to lay the foundation for your business. IF you are not committed, you will not do the work required. You will get sidetracked by obstacles and the trading losses will mount.
Lack of internal conflict. Lack of internal conflict goes to both trading psychology (the resolution of internal issues) and to the quality of your commitment. When you are totally focused on trading success without internal conflict, you are then totally committed. The more focus and fewer internal conflicts, the closer you get to successful trading.
Independent thinking. Great traders tend to be independent thinkers. They are not influenced by what their neighbors, friends, relatives, gurus or what the talking heads on Bloomberg or CNBC say or supposedly think. They eschew all influences during trading that interfere with their pursuit of consistently extracting capital from markets based on their own chosen method. That method allows the successful trader to generate low-risk trades, manage the trades to cut losses short, let profits run and have a position sizing method to help them meet their goals.
Efficient decision making. Research shows that people have developed various decision making short-cuts that lead to inefficient decision making. In fact, a whole new area has been developed in economics called Behavioral Finance. In summary, it now appears that due to these short-cuts, people tend to be risk-prone with losses and conservative with profits. This means that people have a huge problem with following the Trader's Golden Rule: Cut losses short and let profits run. Therefore, another quality of the successful trader is he hones his decision making process to overcome the natural bias involved in inefficient decision making. IF you need to be right and have a need to seek to control the market, you are an inefficient decision maker.
These are briefly some of the qualities required. There are others such as positive attitude, organizational skills, lack of impulsive action and intuitive ability.
A brief word about intuitive ability: it is developed over long periods of actual trading and study of markets. It is a sixth sense about when something is wrong or different. Do you have to be intuitive to be a good trader? Absolutely not. Until you reach that point, you do need to develop skill in handling positions when something unusual happens.
Resources. This is but an extremely brief overview of a very complex subject. Here are some additional resources I have found to be extremely helpful to me in my development as a trader. First, and this I consider to be an absolute must, get two books written by Mark Douglas: The Disciplined Trader and Trading In The Zone. Tattoo both books on the inside of your eyelids prior to entering your next trade! Secondly, Dr, Brett Steenbarger. His blog is an absolute gold mine for traders! You will not be disappointed! http://traderfeed.blogspot.com/
I would also suggest you pick up his book The Daily Trading Coach. It is not intended as a straight-through read but rather it is organized thematically dealing with various issues in trading psychology. When you run into a problem, you can go right to a probable solution. I would also recommend the work of Dr. Van K. Tharp, a very prominent trading psychologist.
Again, most traders will skip right over all of this and that is OK! IF you chose to do that, the 5% are waiting for you. Come on in, the water is just fine!