I believed you have heard of many versions of the story about 2 monks. No? Let me refresh your memory, and explain to you how it is applicable to trading.
There were two Buddhist monks walking along the bank of a river, making their way to back to the temple.
As they were walking, they came across a beautiful lady standing at the side of the river. She stopped them and asked if one of them is willing to help her across the river. The junior monk did not bulge but the senior monk without any doubt, carried her on his back and across the river. The senior monk put her down on the other side and she thanked him profusely and hurried off. The junior monk was taken aback by the gesture but kept to himself. The senior monk returned and they carried on with the journey.
As they walked, the junior monk kept brooding about the incident until it was unbearable and broke the silence, “why did you carry that woman across the river? Knowing that our religion forbid us to touch women!”
The senior monk replied peacefully, “I put her down a moment ago and you are still carrying her.”
Now back to you: Are you the junior monk? I believed at some point in time, we have this junior monk in us, such that we are not able to let go of the past, and let it affect our decision making and even our well being (since we will brood about it). Carrying emotional baggage is more tiring than carrying a physical baggage.
A successful trader is a senior monk, he will not carry the emotional baggage of a losing trade. He cut loss and move on with other trades. An amateur trader may cut loss but is emotionally affected by it. He will not be able to trade well subsequently and even worse, forgo the rule of cutting losses and end up with a loss bigger than what he can handle. The problem is no one likes to lose. But in this world, there is no 100% way of winning every trade that you made. Even Warren Buffett is wrong sometimes. If you cannot take the risk of losing, do not trade. If you want to trade, let go the fear of losing, and let go of the dejection when you lose.
There were two Buddhist monks walking along the bank of a river, making their way to back to the temple.
As they were walking, they came across a beautiful lady standing at the side of the river. She stopped them and asked if one of them is willing to help her across the river. The junior monk did not bulge but the senior monk without any doubt, carried her on his back and across the river. The senior monk put her down on the other side and she thanked him profusely and hurried off. The junior monk was taken aback by the gesture but kept to himself. The senior monk returned and they carried on with the journey.
As they walked, the junior monk kept brooding about the incident until it was unbearable and broke the silence, “why did you carry that woman across the river? Knowing that our religion forbid us to touch women!”
The senior monk replied peacefully, “I put her down a moment ago and you are still carrying her.”
Now back to you: Are you the junior monk? I believed at some point in time, we have this junior monk in us, such that we are not able to let go of the past, and let it affect our decision making and even our well being (since we will brood about it). Carrying emotional baggage is more tiring than carrying a physical baggage.
A successful trader is a senior monk, he will not carry the emotional baggage of a losing trade. He cut loss and move on with other trades. An amateur trader may cut loss but is emotionally affected by it. He will not be able to trade well subsequently and even worse, forgo the rule of cutting losses and end up with a loss bigger than what he can handle. The problem is no one likes to lose. But in this world, there is no 100% way of winning every trade that you made. Even Warren Buffett is wrong sometimes. If you cannot take the risk of losing, do not trade. If you want to trade, let go the fear of losing, and let go of the dejection when you lose.
Three basic reasons why traders don’t succeed
Of these reasons, #3 is the most frustrating for traders. They feel as though they have the tools to succeed, but they themselves get in the way of their own success. Many times this is because emotional factors interfere with sound decision-making.
8 Skill Every Traders must have
Passion. The best investors I’ve seen truly love what they do. It’s the only way they are able to put in the time needed to become great.
Experience. The pros have seen it all. They’ve been through all sorts of market cycles. Long periods of sideways choppiness, uptrends, and downtrends. And not just the short term 15-20% corrections but the big 50% corrections too.
Adaptability. Markets change. And the strategies that were working in one market may eventually deteriorate. Good traders will change their methodology to match the new market conditions.
No ego. None. If you go into trading with an ego the market will eat you alive. The elite investors are able to admit when they’re wrong. They even embrace it. Being wrong quickly means they can move on to being right faster.
Emotionless. This goes hand in hand with ego. Along with pride, investors face a daily trio of emotions of hope, fear, and greed. The worst investors allow their emotions to control their trading; the best avoid any emotional attachment at all.
Patience. Many of the best have the patience to wait for the right opportunity to present itself. They don’t force it. As Jesse Livermore famously said, “Throughout all my years of investing I’ve found that the big money was never made in the buying or the selling. The big money was made in the waiting.”
Flexibility. The best managers are able to turn on a dime. Make a mistake? No worries. Cut your losses and get out. The greats do this without thinking about it. And will even reverse those positions if they are confident enough.
Risk Control. I saved this one for last on purpose. It all starts and ends here. The best investors always have a lazer beam focus on risk controls. This varies person to person but they never risk more than [insert some small number] percent of their portfolio on any individual trade.
17 Points for Traders
- Patient with winners, and impatient with losers
- Making money more important than being right
- View TA as a picture of where traders are lining up to buy and sell
- Before they enter every trade they will know their profit target and/or stop exit
- Approach trade no.5 with the same conviction as the previous 4 losing trades
- Use naked charts
- Comfortable making decisions with incomplete information
- Do not think of markets as expensive or cheap
- Aggressive with trade size when doing well and modest when not
- Realize the market will be open tomorrow
- Judge their trading success on anything but money
- Study MOB’s & RIOT’s and human psychology – The wisdom of crowds by James Surowiecki, the art of strategy by Avinash Dixt and Barry Nalebuff, Markets Mobs and Mayhem:A modern look at the Madness of Crowds by Robert Menschel, extraordinary popular delusions and the madness of crowds by Charles Mckay.
- See themselves as market makers. Think like a market maker and not just a trader
- Practice reading the right side of the chart, not the left.
- Always have an edge, don’t trade if you don’t
- Determine position size based on risk, not round numbers
- Play reaction, not the news
Ten Questions to ask Yourself Before Every Trade
If
you are just randomly trading what you like with no real underlying
system, method or planning then unfortunately your odds of success in
the long term are slim. Trading a winning methodology is what creates an
edge in trading.
Consistently
trading a robust system or methodology enables you to trade in a way
that historically wins, controls risk, and does not bring your ego and
your emotions into your trading in a destructive way.
Ten questions to ask yourself before every trade:
- Does this trade fit my chosen trading style? Whether it is: swing trading, momentum, break out, trend following, reversion to the mean, or day trading?
- How big of a position do I want to trade? How much capital am I going to risk? Am I limiting my risk to 1% or 2% of my trading capital?
- What is my risk of ruin based on my capital at risk?
- Why am I entering the trade here? What is the trigger to trade?
- How will I exit with a profit? A price target or trailing stop?
- At what price will I know that I was wrong? Where is my stop loss based on the position size?
- Will I be able to admit I was wrong and exit the trade if my stop is hit, or will my ego make me hold and hope?
- Is the risk small enough that I can emotionally handle the loss without blaming the market?
- Can I really risk this money or do I need it for upcoming bills? Trade with risk capital not living expenses.
- Am I committed to staying disciplined and following my trading plan on the trade?
I believe the answers to these questions will determine your success in any trade more than anything else.
Discipline and Devotion
No issue so pervades the trading psychology literature as that of “discipline”. It is very common for traders to lay their plans and define their setups, only to find that their actions undermine their careful preparation.
A good deal of the advice dispensed by trading coaches and psychologists addresses this discipline problem.
But what if the lack of discipline is not a problem? What if we view departures from trading plans and intentions as *information*, not as weakness? As it turns out, those departures can be quite informative.
You see, we naturally gravitate toward the nexus of our values (interests), talents (native abilities), and skills (acquired competencies). On average, we tend to enjoy doing what we’re good at and we tend to build skills when there is a foundation of talents to support them. The artist who spends long hours at the canvas doesn’t have to draw upon “discipline” to sustain an interest in painting. The hard work is hard play: the discipline stems from a devotion to a craft–and to the ability of that craft to crystallize the artists’ interests, talents, and skills.
When we veer from our market discipline, there’s an important piece of information in that. Our trading style (or maybe even trading in general) is more like my son’s writing than his video gaming. If we pursue a market and a trading style that truly capture our interests and exercise our talents and skills, we will be as absorbed in what we do as the artist or gamer. The lack of devotion–and our need to invoke discipline as motivation–informs us that we are not doing what we are meant to be doing.
There’s something on this Earth you’re meant to do and, when you find it, you won’t need discipline to make you pursue it. The greats, to paraphrase Ed Seykota, don’t have talents; the talents have them. If you’re veering from your path, figure out what you’re heading toward. You may just find your passion.
A good deal of the advice dispensed by trading coaches and psychologists addresses this discipline problem.
But what if the lack of discipline is not a problem? What if we view departures from trading plans and intentions as *information*, not as weakness? As it turns out, those departures can be quite informative.
You see, we naturally gravitate toward the nexus of our values (interests), talents (native abilities), and skills (acquired competencies). On average, we tend to enjoy doing what we’re good at and we tend to build skills when there is a foundation of talents to support them. The artist who spends long hours at the canvas doesn’t have to draw upon “discipline” to sustain an interest in painting. The hard work is hard play: the discipline stems from a devotion to a craft–and to the ability of that craft to crystallize the artists’ interests, talents, and skills.
When we veer from our market discipline, there’s an important piece of information in that. Our trading style (or maybe even trading in general) is more like my son’s writing than his video gaming. If we pursue a market and a trading style that truly capture our interests and exercise our talents and skills, we will be as absorbed in what we do as the artist or gamer. The lack of devotion–and our need to invoke discipline as motivation–informs us that we are not doing what we are meant to be doing.
There’s something on this Earth you’re meant to do and, when you find it, you won’t need discipline to make you pursue it. The greats, to paraphrase Ed Seykota, don’t have talents; the talents have them. If you’re veering from your path, figure out what you’re heading toward. You may just find your passion.
Traders need 3 Keys
#1 Trading is not about winning percentage, being right all the time, or predicting the future. What it is about is having bigger winners than losers. If you are profitable after each long string of trades then you are a winning trader in that time frame. You can make money through winning percentage as long as you keep losers small and you can make money through huge wins even with lots of losses. The key is not how many times you are right but the size of your winners versus your losers. That is the magic elixir of profitability.
#2 Trading is first and foremost about surviving, the vast majority of traders not only don’t make money but they lose most of their trading capital. The only way to have a long profitable trading career is to manage risk and survive a string of losses. If your trading losses are more than 1% to 2% of total trading capital per losing trade you are in danger of blowing up your account with a string of losing trades or one big loss. To make the journey from new trader to successful trader you have to survive losing streaks and completely unexpected market action. Trading and betting big will eventually take you out of the game, it is only a question of when.
#3 Trading is one of the roughest things a person can do mentally and emotionally. Even if you win in the markets you have to keep up a large amount of personal human capital in perseverance, passion, dedication, focus, and faith in self and system. If you are missing one of these six psychological elements the odds will be against you. You have to cultivate your goals and drive into a vision of success that you are willing to pursue until you get it and pay the price as you go to have the prize you seek.
The Universal Principles of Successful Trading
A book review for Brent Penfold’s book “The Universal Principles of Successful Trading: Essential Knowledge for All Traders in All Markets”
This book is excellent for traders that are ready to accept its lessons. You need a foundation in trading to understand the importance of what the book is advising and take the principles seriously with an open mind. Once you are through the rainbow and butterfly phase of trading and realize that you will not be a millionaire in a year, this book will help you get focused and get serious about your trading and what really works.
Here are the six universal principles of successful traders:
1). Preparation
Author Brent Penfold is in the minority believing risk management is the #1 priority in trading. Brent believes that once you get your trading system and position size in place you must use the amount you will risk on each trade to determine your risk of ruin. The book shows exactly how to figure this out using Excel. His point is that if your risk of ruin is not zero then you will eventually blow out your account. Risking 1% to 2% of your capital in any one trade usually gives you a zero percent risk of ruin but it also depends on your systems win/loss ratio. But the point is to test any system with a minimum of 30 trades first then determine your risk of ruin. I would advise a larger sample size in multiple market environments a trend following system that looks brilliant in a trending market may result in a 50% draw down in a choppy or range bound market.
2). Enlightenment
Your most important goal is to lower your risk ruin to zero. In trading, the trader with the best ability to cut losses short wins. Simple trading strategies work the best based on traditional support and resistance levels while trading with the trend on either reversals or break outs. The 10% of winning traders in the market win by treading where others fear, buying on break outs when they first occur and going short when a new low is made, or buying into key reversals when a security finds support or resistance and reverses at the end of a monster trend.
3). Developing a trading style
You must choose your own personal style of trading, swing trading, trend trading, etc. You must also trade based on your chosen time frame: intraday, short term, medium term, or long term.
4). Selecting Markets
Ideal markets to trade have high volume, price transparency, liquidity, 24 hour coverage, zero counter party risk, low transaction costs, and are honest and efficient. They also must have the necessary trading attributes of volatility, research, simplicity, ease of short selling, specialization, opportunities, growth, and leverage. These are the markets that afford you the greatest chances of making money trading.
5). The Three pillars of trading.
Money Management: You must make your trades as fixed as possible. Trade with the same risk, capital, units, percentage, and in the same type markets to manage risk most effectively.
Methodology: Choose a method that works for you and your personality from the ones available. (Dow Theory, technical indicators, patterns, price and volume, etc) Once you have a methodology to your trading, test it in the real world in real time either with micro trades or paper trade, you need a sample size to judge its efficacy.
Trader Psychology: Manage your hope, greed, fear, and pain to stay in the game.
6). Putting it all together
Monitor your performance consistently. You need positive reinforcement that your trading is working by the results you are getting in winning and losing trades. Your equity momentum will show you if you are trading too big or if you are on the wrong track, your P&L does not lie.
I have been actively and successfully trading the market for a decade and agree 100% with the authors principles. The author finishes up his book by asking many professional traders and some that are successful private traders what one advice they would give to aspiring traders. This advice alone is worth the price of the book. Here is a summary:
Money Management:
Focus on risk
Trade small
Methodology:
Pick a method that suits your personality
Develop a simple methodology
Avoid the majority, learn to anticipate reversals
Look for alignment in set ups
Good defense wins games
Identify low risk set ups
Know your methodology using software
Psychology:
Deep practice before trading
Expect to lose. Trade to win
Be disciplined. Be patient
Be humble
Be in control
This book is the real deal, as the author warns of the pains associated with trading. If you trade, you will experience those ten losing trades in a row in any system. You will experience the 10% draw down in your account the only question is when. 90% of people who enter the markets to trade will lose and quit. The majority of successful traders who win in the markets usually start out by losing most of the money in their first trading account. Be warned the market uses maximum adversity at all times, so the majority of traders lose long term surrendering their money to the minority that trade using winning principles. This book is in the top twenty I have ever read on trading and is a must for any serious trader’s library. Even with the lengthy review I have not even scratched the surface of this excellent books trading wisdom. It is like combining all the best trading books wrapped into one. I would give this book six stars on Amazon if possible.
The author keeps it real.
6 Personality Traits and impact upon trading
* Locus of control - The degree to which a trader believes that the ability to be successful is within his or her control;
* Maximizing tendency - The degree to which individuals seek optimum outcomes from their decisions, not just outcomes that meet or exceed expectations;
* Regret susceptibility - The tendency to look back on outcomes of decisions and focus on negative aspects, creating regret;
* Self-monitoring - People’s tendency to track and control their own thoughts, feelings, and behaviors;
* Sensation seeking - The degree to which people seek varied and stimulating experience;
* Type A behavior - The degree to which individuals are driven to achieve.
The researchers set up a simulated trading exercise with real money payouts. Because data from only 32 subjects were collected, results must be considered preliminary.
Examining the personality profiles of the participants, the researchers found that the first two traits–locus of control and maximizing tendency–were not related to trading performance. Among the remaining traits, three clusters or personality types emerged:
1) Relaxed, risk-averse traders who avoid regret, dislike sensation-seeking, and show type-B (non achievement oriented) behavior;
2) Traders who were controlled risk takers: high in both self-monitoring and sensation seeking;
3) Achievement-driven traders who showed high Type-A personality traits.
Of the three groups, number three performed the worst. These highly competitive traders were also the most impatient in their decision making, reducing their effectiveness. The first two groups performed similarly–no significant difference. What this suggests is that a relaxed attitude toward performance may be more helpful than a driven one: the highly achievement-driven trader may create his or her own internal noise, interfering with sound decision-making.
* Maximizing tendency - The degree to which individuals seek optimum outcomes from their decisions, not just outcomes that meet or exceed expectations;
* Regret susceptibility - The tendency to look back on outcomes of decisions and focus on negative aspects, creating regret;
* Self-monitoring - People’s tendency to track and control their own thoughts, feelings, and behaviors;
* Sensation seeking - The degree to which people seek varied and stimulating experience;
* Type A behavior - The degree to which individuals are driven to achieve.
The researchers set up a simulated trading exercise with real money payouts. Because data from only 32 subjects were collected, results must be considered preliminary.
Examining the personality profiles of the participants, the researchers found that the first two traits–locus of control and maximizing tendency–were not related to trading performance. Among the remaining traits, three clusters or personality types emerged:
1) Relaxed, risk-averse traders who avoid regret, dislike sensation-seeking, and show type-B (non achievement oriented) behavior;
2) Traders who were controlled risk takers: high in both self-monitoring and sensation seeking;
3) Achievement-driven traders who showed high Type-A personality traits.
Of the three groups, number three performed the worst. These highly competitive traders were also the most impatient in their decision making, reducing their effectiveness. The first two groups performed similarly–no significant difference. What this suggests is that a relaxed attitude toward performance may be more helpful than a driven one: the highly achievement-driven trader may create his or her own internal noise, interfering with sound decision-making.
Technical Analysis Fact and Fiction
“There is a great deal of hype attached to technical analysis by some technicians who claim that it predicts the future. Technical analysis tracks the past; it does not predict the future. You have to use your own intelligence to draw conclusions about what the past activity of some traders may say about the future activity of other traders.
“For me, technical analysis is like a thermometer. Fundamentalists who say they are not going to pay any attention to the charts are like a doctor who says he’s not going to take a patient’s temperature. But, of course, that would be sheer folly. If you are a responsible participant in the market, you always want to know where the market is — whether it is hot and excitable, or cold and stagnant. You want to know everything you can about the market to give you an edge.
“Technical analysis reflects the vote of the entire marketplace and, therefore, does pick up unusual behaviors. By definition, anything that creates a new chart pattern is something unusual. It is very important for me to study the details of price action to see if I can observe something about how everybody is voting. Studying the charts is absolutely crucial and alerts me to existing disequilibria and potential changes.”
- Bruce Kovner, Market Wizards
Bruce Kovner pulled billions out of the markets, over multiple decades, before handing the reins of his fund, Caxton Associates, to the next generation of traders.
As an academic in a past life, Kovner was known for his deep dive fundamental analysis — but he also used charts extensively, as the Market Wizards excerpt shows.
Those who dismiss technical analysis as useless are like those who say martial arts is useless in a fight. Perhaps they took a few classes, got their butts kicked at the brown belt level, and gave up… thus assuming the discipline has no value to anyone, even though this assumption is laughable. (As Bobby Deniro said in Heat, “When you assume, you make an ass out of you.” Period.)
Non-practitioner academics, on the other hand, tend to dismiss the value of technical analysis without any real market experience at all, on the basis of straw man research studies so obtuse they are more comedy than science.
Consider, for example, the academic study (of which a variety have been conducted) that says “XYZ pattern is useless” because, according to X parameters tested over 5,000 instances of the pattern across a sample case of 500 stocks, the net result was unprofitable.
The problem with studies like this — and they all run into the same gross overgeneralization issue — has to do with the irreproducible elements of experience, situation and context.
For an academic study to say “X pattern over X thousand instances failed to work because we couldn’t make it work” is similar to an armada of geeky lab-coated researchers testing a pick-up line by repeating it verbatim, in monotone, to thousands of women in hundreds of bars.
Would their findings have any merit as to whether the line “works” or not? Of course not. Success depends on 1) who is delivering the line, 2) how it is delivered (the skill quotient involved), and 3) the spots in which they choose to do it (discernment and situational context).
It is the same with various patterns and technical inputs, because all too often a pattern is not useful in a vacuum, but has value as an input along with a confluence of other supporting factors. It takes a trained eye to know when to pull a trigger versus when not to — a qualifier that is obvious in so many other expert-level fields, it is surprising the degree to which it is overlooked here.
Last but not least, the credibility of TA is assaulted by those ‘true believers’ who claim charts, with the help of some magic juice, have guaranteed predictive power in foretelling a future event or result… but of course this is silly. On deeper examination, the assertion does not make any logical sense. Why would lines on a chart predict the future with guaranteed certainty, any more than goat entrails or chicken bones do? Where is the rational explanation for such belief?
What one can say and explain rationally, and demonstrate successfully, is that certain patterns, in certain situations, have enough probability of producing a desired result as to make a trading wager profitable on a repeated trial basis.
If, say, pattern Q against a backdrop of supporting factors X, Y and Z produces a profitable result 50 to 60% of the time — or if the embedded risk / reward has an attractive enough multiple even with a less than 50% follow-through — then the pattern has potential to be exploited profitably by the sufficiently skilled and experienced trader, who often uses a combination of fundamentals and technicals, along with good judgment, in a manner that no ham-fisted academic study can replicate.
It ain’t rocket science or voodoo. But it does require a discerning eye…