The Three S’s of Trading Success
One of the dumbest things I heard about trading is this very common refrain. “Trading is simple. All you need is a strategy with positive expectancy and the discipline to follow it.” That statement is so stupid on so many levels that I just shake my head in disgust whenever hear it.
First of all -- THERE ARE NO STRATEGIES. As I’ve said a thousand times before there are only two trades in any market -- continuation or mean reversion. What some traders call strategies are simply structures. Any algo that has a logical ruleset of IF A then do B is simply a trading structure designed to superimpose order on an essentially chaotic and mostly random activity. So no, your wonderful 500 lines of MT4 EA is NOT a strategy it’s just a STRUCTURE through which you choose to express your trading.
What turns that structure into semblance of a strategy is SELECTION. Now I know that all of you EA traders will start to tell me that you don’t select. You just lay it on your charts and go. Ha! What charts do you put your structure on? What pairs do you trade? What time of day do you trade? Do you turn off for news? Yadda Yadda Yadda. Even if you do none of those things you are still making an implicit selection -- you are basically betting on diversification which a choice like any other.
Selection of course is the art of the trade. No matter how good your structure. No matter how well you’ve thought things through, selection is actually the difference between winning and losing. And selection does not come from a back test. It comes from experience. It comes from observation. It comes from that most “unscientific” of places -- feeling the market. Feeling the market is no different from any other skill. You need to watch and watch and watch the screens and only then will you learn which price action to avoid and which to attack.
I am always amazed at the level of progress we made in my trading room. We now have many traders who are banging out 0.5%-1% per day -- and it’s certainly not due to the “brilliant” trading structure that I teach them, but rather to their ability to feel the market and analyse the key levels. The longer people trade with me, the more they observe the market, the better they do.
One key thing that everyone in my room does is use wide stops. This is yet another trading “rule” shattered to bits. Right after “ you gotta have a strategy” meme the second stupidest thing that gurus tell you is “use tight stops.” Except for martingaling nothing has lost more people more more money than tight stops. Tight stops are essentially a guarantee that you will lose all your capital in tiny little chunks or certainly die trying. Tight stops is the trading equivalent of a death by thousand cuts.
Most naive traders believe that stops are linear. In other words you are twice as likely to get stopped out with a 10 pip stops as with a 20 pip stop. WRONG! Because of the natural oscillation of the auction model ( which is what all speculative markets are) your chance of getting stopped out on a 10 pip stop is probably 4 to 8 times higher than on 20 pip stop and so on and so on. A good rule of thumb is that you want to use 1/2 the daily ATR which for most major pairs is about 50 pips as a proper stop value. That’s tight enough so that no single day’s loss will ruin you, but wide enough to avoid most of the intra-day noise. After all the function of successful trading is to AVOID stops as much as possible.
So STRUCTURE, SELECTION and STOPs are the three keys to successful trading -- and you really do need all three to work together like a fine tuned machine in order to bank those pips every single day.