When it comes to trading, I think everyone in the universe has heard something along the lines of “There isn’t a magic trading strategy”. While that is 100% true, what this leaves out is why that is the case. Everyone is so quick to point out the obvious but won’t dig in to the why. Why isn’t there a magic strategy? How can I use this information to my advantage? The list goes on and on.
So let’s analyze shall we?
One of the biggest reasons this comes up at all is due to taking losses. Especially for newer traders, this can be very mentally taxing. Nobody enjoys taking losses, but new traders don’t yet understand their necessity. This inevitably leads down the rabbit hole of strategy jumping. So then, let’s tackle this portion. Losses and why they are necessary.
First off, you have to begin to detach yourself from your trading capital in a way that a business detaches from their inventory. It is still part of the company, but it isn’t the whole thing. Keep this in mind because it will come in to play later! When we are placing trades, our goal is to utilize our inventory (capital) to then re-work and sell to increase our inventory further (profits).
Sometimes though, as every business will face, a bad decision is made which ends up causing a loss of inventory. As long as you are treating this as a business inventory, it won’t make much of a difference to your overall company. To expand on this further, business’ don’t put 100% of their inventory in to a project. That would be dumb. The same mentality then would move to trading — Don’t trade with 100% of your inventory. It’s dumb.
This typically means risking less than 5% of the account per trade for most. That is fine and might be what you have to work with initially but the real goal is to increase the inventory size such that the risk of inventory can be less taxing while making the same returns or more. I know this is easier said than done, but realistically if you are trading a $2,000 account, then a risk of $100 or less per trade is keeping at 5% and if you can draw that percentage even lower it’s that much better.
To achieve any probability in the markets, one has to assume both the winning and losing side. If you want to make $300 for every $100 risked, you’d best not believe you are going to be hitting 80% accuracy consistently. The reason for this realistically is that it’s much easier to hit a tight stop than a wide target. If you instead want 80% accuracy, you have to assume the trade off is risk. You don’t just get high probability for being a good student, you have to pay for it. The payment in this case is risk. Much like insurance companies have large overhead risks of claims coming in, but most folks don’t blow their cars up daily and the insurance company profits from the small payments.
A trading strategy without a losing side is simply a strategy without an escape route. The only exit plan is total account annihilation or emotional exits and both of those never end well. Instead, accept that losses are a necessary part of trading and use them as reassurance that you are following your plan.
As always, stay safe out there, keep those stops in play, and let the winners run!