You Don’t Back Test Your Life

Boris Schlossberg

In his book, PitBull Marty Schwartz writes about one of the greatest individual trading runs in the history of the markets. As a pioneer trader in the S&P futures pit in the early 1980’s Marty noticed that there was a strong relationship between the price of bonds and the S&P futures. If interest rates rose stock index futures dropped the next day. If interest rates declined, equities were bid up. Since bonds stopped trading at 3 PM NY time and S&P futures traded until 4:15 PM there was a little more than an hour where you could watch the bonds trade in the cash market in after-hours trading. If bonds staged a significant rise of 3/4 of a point or more the probability of S&P 500 opening higher the next day was very high. As Schwartz noted, “Being ahead at the opening was like waking up with a woody.”

Here is how he describes the trading run.”All through October, I smacked the S&Ps when they went up and I smacked them when they went down. On October twenty-second, on rumors that the Fed was not going to lower the discount rate before the election, the physicals plummeted in after-hours trading, the S&Ps opened down 1.85, I was short 150 contracts, covered at the opening, and in one minute made $138,750. By the end of the month, I was up $1.4 million. My legs were sore from jumping up and down, my voice was shot from screaming at Debbie on the phone, and Audrey’s ribs were tender from being hugged. In February, when we’d crawled out on a limb and dumped $400,000 into the beach house, our net worth was $1.2 million. Now, in one month, I’d more than doubled that, I’d made more in a month than I’d made in my entire lifetime. I can’t begin to describe that feeling. Every day, for twenty straight days, we’d get in the Eldorado to drive home from work and we’d be, on average, another $70,000 richer. It would have taken me a whole year to make $70,000 if I were still a securities analyst.”

Here are a couple of things to keep in mind about Marty’s “system”. He didn’t backest it on a thousand samples across an array of markets to prove its robustness. He didn’t optimize parameters or run Monte Carlo simulations, or try to see if this “signal” worked on wheat or pork bellies or some other unrelated nonsense. He also stopped trading it the moment it stopped working.

His system -- like all successful trading systems -- was simply a behavioral edge that he exploited until it stopped working. It’s not that he didn’t do research. Before committing capital to the idea, he did check past occurrences and started making relatively small bets until his thesis was proven correct -- but by standards of “data scientists,” it was a woefully inadequate test and yet it was one the most successful individual exploitations of the market ever recorded.

I bring this up because I think most retail traders are far too obsessed with backtests. Backtests are good at only one thing -- showing you how to make money yesterday. If you really want to learn how to make money today and tomorrow and the day after tomorrow you need to stop testing and start doing. Losing, as I noted in last week’s column is the single best test that you can run. Losing in real market conditions will finally tease out the profitable idea in your thesis -- if there are any. Lose and backtest. Lose and backtest. Lose and backtest until you start to win.

Otherwise, you will simply waste all your time trading yesterday’s data while learning nothing about how today’s price action differs. How many times have you seen a system with a perfect equity curve, passing every statistical test under the sun, fail in real market conditions?

100%.

I have never seen a backtested system that could maintain its profitability for more than a few months without serious editing and adjustment to its initial assumptions. That’s because successful trading is a function of understanding past price behaviors and while being finely attuned to any present-day variations in the market. Yes of course price action is cyclical and basic buying and selling patterns persist over and over. After a self-off comes a rebound. After a rally comes a selloff. But the amplitude of each move is highly variable that’s why the future is just different enough from the past that you won’t be able to exploit it mechanically.

Backtests should be viewed not as justifications for systems, but rather as insights into certain behavioral edges that will not last. That’s the other key to understanding backtests. They will all fail under future market regimes -- and if you understand that going in it will be a lot easier to abandon them or modify them when they stop working.

There are literally hundreds of exploitable edges in the FX market every year, but they are fleeting and usually very instrument dependent. There is no “universal” system of trading that will work across all markets. That’s why the most successful individual traders tend to specialize in one market or even one product.

So stop wasting hours on a perfect tweak of yesterday. You don’t backest your life. You live it. Do the same with trading.

Why a Winning Attitude is the WORST Thing in Trading

Boris Schlossberg

Among the myriad of terrible trading advice out there none is worse than the idea that you need to have a “winning attitude” in order to be a successful trader.

Successful trading is all about losing, and a “winning mindset” is just about the worst possible posture you can assume because it’s the farthest thing from reality.

This realization hit me like a ton of bricks yesterday as I was walking through frigid Central Park (I want my global warming now!) listening to the inimitable Aaron Fifield interview a trader named Ben, who goes by the handle of @BLB_Capital.

Ben comes from a blue-collar background and had a very refreshing take on trading, far different from the sterile, quant driven, MBA-processed ideas that dominate today’s discourse.

But it was this exchange that really made me perk up.

Aaron: What were the some of the challenges that you had to overcome?
Ben: The fear of losing… The fact that you are going to lose a good percentage of the day is pretty scary to most people.

Exactly!

How many gurus ever tell you that you will spend a good portion of your trading day, sometimes all of it -- losing?

The fear of losing is behind every bad trading behavior there is. It’s behind the idea of trading with no stops. It’s behind the notion of martingaling your way out of trouble. It’s even behind the idea of index investing. Because what is index investing but simply the hope that if you hold equities long enough they will rally and make you money?

I know that I am tilting at windmills and talking blasphemy when I challenge the orthodoxy of index investing, but the simple truth is that we’ve had a 40-year bull market and there is absolutely no guarantee that the trend will extend indefinitely. In fact, there is a good reason to believe that it won’t. You don’t even have to use the Nikkei which has been under water for nearly 50 years, to see what I mean. I’ve posted this chart before, but it bears repeating. Here are four distinct periods in the 20th century when 10 to 25 years of investing would have yielded you exactly bubkas.

Index

So stick that into your 401-K.

But back to Ben.

“It scared me at first too,” he notes. “ But then I realized that it’s part of the job. It just like tuition”
Or like the cost of goods sold. Sometimes you are like a guy who runs an ice cream store and the electricity goes out and all your product melts. Do you blame the ice cream wholesalers (dealers) do you blame your competitors (the other traders) for your woes? Of course, you don’t. Stuff happens, markets change on a dime and a setup that was working for ten straight days suddenly fails every time.

This is where being comfortable with losing is key. If you know you are going to lose. If you EXPECT that you will lose, you will be much less surprised, much less hurt by the situation. You will trade the right size. You will honor your stop. You will preserve the capital so that you can make it back another day. Most importantly, you won’t reflexively change your setup at the first sign of difficulty. I am not saying you shouldn’t IMPROVE it if you see legitimate input from the market that could sharpen your edge, but way too often the pain of losing makes us abandon the trading premise altogether -- and that is a sure sign of ruin. Because I can assure you of thing. There is no trading without losing. There is no trading without pain. There is no trading without a struggle. If you want all that put your money into a Treasury bill and collect 1% per year.

But if ever want to achieve more, if you ever want to get true control over your capital, get comfortable with losing, it is the single most important skill in trading.

How the Great One Would Trade FX

Boris Schlossberg

If you want to treat yourself to ten minutes of pure unadulterated joy, just pull up the Wayne Gretzky highlight wheel on Youtube. You really don’t have to know anything about hockey to appreciate the athletic majesty of the Great One.

You can’t help but be amazed as you watch the grainy footage from the late 1980’s and early 1990’s at Gretzky’s ability to control the puck, outskate his competition and score seemingly at will.

Wayne Gretzky, of course, is famous for saying, “ I skate to where the puck is going to be, not where it has been.” Which is probably one of the greatest sports quotes of all time but is also unbelievably relevant to the world of trading.

I’ve been thinking about Gretzky a lot lately as I work on my scalp set up. Scalping is probably the hardest part of trading to master because it requires laser quick entry and exit techniques and a very high level of accuracy in order to overcome the massive commission costs that you rack up every day. But if you can master scalping you have true control because then you are able to make money in any type of market regime.

As I delve deeper and deeper into short-term trading I realize that the key to succeeding in scalping is the same as in hockey. You need to go where the puck will be. You need to anticipate price and position yourself accordingly. That’s of course much harder than it looks. Longer term traders can afford to be wrong for long stretches of time as their wide stops allow for massive market slippage before price finally turns their way. Scalpers don’t have that luxury. They are either right or stopped out, So they have to decide quickly if the trade is worth the risk.

If you anticipate something, you will inevitably be wrong. Professional tennis players are a perfect example of this dynamic in play. Watch any Grand Slam tournament and you will see the best players in the world get wrong footed countless times during the match. They run one way, while the ball goes the other.

But here is the thing.

You never see pro tennis players stop anticipating. Being wrong-footed, once, twice, ten times never stop any of these athletes from anticipating the next ball. That’s because there is no other way to achieve success. If you want to win you need to go where the puck, the ball, the pip will be. Not where it is now.Sometimes you will look like an idiot, but you just get right back up and try again. Because the key to sports and to trading is to get better at your reflexes -- not to stop playing when you lose.

The Great One had one last quote that helps sustain me as I refine my setup. Gretzky said, “You miss 100% of the shot you do not take.” So even if you are doing badly, even if you miss your targets, keep shooting. The process of trading itself will make you better, will make you sharper and will hone your skills.
The more you play, the better you see the rink -- the field of play. Just like the more you trade the more you see the market. My scalping hasn’t turned consistently positive yet, but my long term trading has improved tremendously as my “field of vision”, my feel for the market is much, much better.

For this, as well as for sheer joy of watching some of the greatest feats of athleticism in history, I have the Great One to thank.

Want to Trade Better?

Boris Schlossberg

Investors love to talk in percentages. The Dow is up 25% this year, up 200% this decade. This stock is a ten bagger. Blah, blah, blah. Traders -- if they want to be successful -- should disabuse themselves of that notion as soon as possible and talk in terms of points instead.

Investing is the art of selecting assets and watching them grow (or in case of shorting watching them wither). So it makes perfect sense that investors should think about their performance in percentage terms. Trading on the other hand, is simply the skill of predicting price.

Trading, therefore, is the process of extracting points from price regardless of whether the asset moves up or down. I was reminded of that fact yesterday as I was listening to my favorite trading podcast -- Chat with Traders. The host was interviewing a very active, successful equity trader and the guy invariably recounted every one of his trading stories in term of points rather than percentages. In short, he viewed his job as making points.

In FX we often talk of trades in terms of pips -- which simply our industry slang for points -- but few traders think about their whole trading business explicitly in those terms, Here is why we should. Looking at your trades in terms of points creates just the right amount of emotional distance to help avoid the worst psychological mistakes -- the most common of which is pulling your stop.

Pulling your stop is like masturbation -- everyone does it but no one wants to talk about it. But unlike the former, the latter is actually very bad for you both psychologically and financially. The primary reason that we all pull our stops is that we think of trading in terms of money and hate to lose it when the trade goes the wrong way. Once we’ve made that first poor choice the cycle of justifications takes over and we basically spend all our time watching a 5-minute trade turn into a multi-week nightmare that inevitably ends in a large money loss.

But no matter how matter how many times we tell ourselves we’ll never do it again -- we will. Always. That’s why to change that behavior we need to reorient our thinking towards points. Points provide the proper metaphor to help abstract our emotional attachment to money. Points are like bricks. You use them to slowly build the foundation of your wealth. Sometimes bricks are chipped. Sometimes they need to be demolished and laid again, but as long as you are focusing on making bricks you are going to be much more tolerant of an occasional broken piece and will not try to build a structure with faulty pieces.

A while back I wrote a column called 100 Trades of Profit which was about two nerdy guys with spaghetti arms who committed to doing 100 push-ups each day no matter what. They did them badly. They had no form, no structure, no proper training. But they did them. After a month, both guys had muscles for the first time in their life. After watching their story on Youtube I challenged everyone to do 100 trades of profit. It didn’t matter if the account was up or down by the end of the experiment. It didn’t matter if the trades were discretionary or systematic. All that mattered was to do it. I was certain the knowledge gained from that experiment would be far more valuable than any strategy I ever devised.

The idea of trading for points is a perfect complement to this exercise. Trade as many, or as few times as need to book 100 points of profit. At first, don’t count any losing trades in the tally. Just add up the winners until they total 100 pips. Next, try to make 5 pips NET profit in a day. Focus only on repeating that task day in and day out. Some days will be negative and that’s ok. As long you keep your tally in points, you’ll be amazed at how much better your trading will be because once you start focusing on just making points -- the profits will accrue naturally.

BorisScalps.4.01.18

Snow Days and Trades (Or How to Avoid a de Blasio)

Boris Schlossberg

As I write this, on FOMC day, New York City public schools are closed. The weather forecasters predicted a massive snowstorm (12 inches!) and yet at 10 o’clock in the morning the flakes aren’t even sticking and all we have is slush on Broadway.

Still, I completely understand why Mayor de Blasio made the call, although disgruntled parents will now hold him in even greater contempt for messing up their workweek.

The storm was initially forecast to hit at midnight but didn’t arrive until 8 in the morning so making a last minute decision was impossible. The city hasn’t had many snow days this year, so there was room in the budget as well as in the school calendar to call one. Yesterday marked Spring Equinox -- so really how many more snow storms can there be? Better safe than sorry. Snow day it is.

Notice that in all that chain of reasoning the one question not addressed -- will it actually snow storm bad enough to close schools?

As human beings, we make decisions for a whole host of reasons that have nothing to do with the problem at hand. We are always surrounded by exigent circumstances that muddy up our logic and often produce suboptimal results.

How many times as trader did you pull a trigger on an idea because you were bored and “it was good enough” or you had a good day and built up a nice P&L, and then made a spec trade that wouldn’t pass muster under normal circumstances? Now that it was on the books you watched it with all the possessiveness of jealous lover, convinced that it was the best idea ever.

We THINK we make the trades for the right reasons, but I bet that at least 30-40% of the time we are in the trade for every other reason except the one that matters. There is not much we can do about it. It’s human nature. As Jeff Goldblum and Kevin Kline said in the Big Chill,

Goldblum: I don’t know anyone who could get through the day without two or three juicy rationalizations. They’re more important than sex.
Kline: Ah, come on. Nothing’s more important than sex.
Goldblum: Oh yeah? Ever gone a week without a rationalization?

We can, however, at least be aware that we are often lying to ourselves when we are trading. That could help us to avoid making too many “de Blasio’s” going forward.

BorisScalps.3.23.18

Jack of No Trades Master of One

Boris Schlossberg

Do less. Do it much more intensely.

That was the advice I read in a self-help article the other day, and the idea hit me like a Mike Tyson power punch.

Those of you who know me, know that consistency is not my strong suit. I get bored in an instant, distracted by new ideas all the time and am constantly in search of new trading systems to replace my current ones.

Over the years, I’ve received scores of emails from traders across the world thanking me for trading systems I have long forgotten about while attaching proof of unbelievably long profitable trading runs

I was happy that people traded well off my strategies but I was also frustrated feeling like a hamster on a flywheel -- lots and lots of creative energy, but little progress.

So a little while back I decided do a trading cleanse. No more side hustles. No more experimentations with indicators. No more 5-minute scalps with complex multiple entries or 4-hour swing setups across the 28 combo pairs.

Instead, I would just trade my core price flow strategies that I have been trading on and off for more than a decade.

I can’t say it easy. Some days I am bored out of mind and it takes serious discipline to stay on target. But…

The more I focus on one set up -- just one set up -- the more knowledgeable I become. I am able to read market flow with much greater clarity. I am able to step back from making mediocre trades and I am able to understand the weakness in the setup.

This is critical. Because the skill value of a trader is not in creating a strategy, but in knowing when NOT to use it.

All trading strategies fail. That’s why there has never been an automated EA that could make money in perpetuity. The success of the strategy is always dependent on the ability of the trader to use it properly.

By focusing on just one strategy, I am -- often against my own will -- becoming more and more skillful at all facets of its execution.

Bruce Lee once said, “I fear not the man who has practiced 10,000 kicks once, but I fear the man who has practiced one kick 10,000 times.”

He was spot on.

BorisScalps.2.23.18

Mine is Small – How About Yours?

Boris Schlossberg

In trading size matters, but in the exact opposite way that it does in real life.

I am often asked by traders what is the proper leverage -- 100:1? 200:1? And I am always amused by their shocked reactions when I tell them that I trade at 2:1 lever size. That’s right for every $5000 worth of capital, my opening trade size is no more than 10,000 units. Now I may hold 2 or 3 trades at once and perhaps several positions in the same trade, but my OVERALL leverage NEVER, EVER exceeds 10X my equity, In fact, 95% of the time I try to contain my open positions to no more than 5X of my equity at any given time.

That’s a lesson I learned from the school of hard knocks after having burned more accounts than I care to count on lever factors that may seem quaint to most of you (10:1, 20:1).

The single truest fact in trading is that large size kills. There is a reason why FX dealers extend such high leverage to their customers. The law of large numbers assures them that 99% of traders will lose all of their capital due to margin calls.

Keeping the lever factor to just 2:1 on any opening trade will ensure that your account will not blow up due to one badly timed trade, but it will in not you profitable. It could just keep you afloat longer, but you may still drown due to a death by a thousand cuts if you take random, impulsive trades.

My 2:1 lever is actually reserved for my best trade ideas -- the “true” trades -- for those of you who have been reading my columns of late. For everything else -- the let-me-try-this-cause-I-am-bored trades I use a size that is 1/10th my “true” size which for a $5000 account amounts to just 0.01 lots.

Those are not serious trades -- and that’s precisely the point. I found out from my past experience that it is the frivolous trades that suddenly turn deadly serious as you battle for the value of the account. Trading 1/10th size never puts me in that unnecessary situation, while allowing me to blow off steam or try new setups with minimal risk.

So I leave you with this final tidbit of advice. Metatrader defaults its size to 1.00 lot or 100,000 units. If you are not careful, you can point and click and execute a trade size much larger than you intended. To avoid this problem forever go to Tools>Options>Trade Tab and change the default volume to 0.01. You can always increase the size manually later on, but if you do this now -- you will never be subject to that sinking feeling of -- what did I do now?
Screen Shot 2018-03-09 at 4.37.48 PM

Just as in cooking, you can always add salt, but you can’t remove it. In trading, size can always be added but once the trade is done -- you can’t be undone once the button is pushed. So stay small, stay safe and trade well.

Success in Trading Depends on These Two Completely Different Factors

Boris Schlossberg

This week I read a story about Canadian businessman who bought some low volatility ETF products backed by nothing but margin.

“Harvey Hajiyan, a 35-year-old financial adviser who lives in Toronto and has been investing for more than a decade, assumed stocks would continue to grind higher this year, similar to the gains the Dow and the S&P 500 had posted for much of the past two years without a pullback.

“All of the strategists agreed the market would go up,” said Mr. Hajiya.

At the end of January, he placed an ill-timed bet and used only margin to fund a large position in the ProShares Short VIX Short-Term Futures exchange-traded fund (SVXY), which rises as long as stock prices remain stable. When the S&P 500 fell into correction territory to erase one of its best starts in years, Mr. Hajiyan’s investment in the ProShares fund tracking expected market swings was nearly wiped out, forcing him to liquidate hundreds of thousands of dollars of securities to answer the margin call.

“I was in denial,” said Mr. Hajiyan after he realized he lost about 600,000 Canadian dollars (US$472,260) worth of his C$1.1 million investment portfolio.”
Mr. Hajiyan’s story isn’t unique. Financial media was full of tales about people funding their Bitcoin wallets with credit card debt at the peak of the mania in December.

All of this made me realize that that success in trading depends on two completely independent factors -- good habits and good systems. The irony of trading is that of those two factors good habits are the only thing that we can control, yet most traders pay only lip service to good habits and spend 99% of their time searching for good trading systems.

But systems always fail -- it’s the nature of the market. In the end, the one thing that separates the long-term winners from everyone else is good habits. George Soros has been trading for more than 50 years. Perhaps no trader has as good a record over such a long time span as Soros, yet if you deconstruct his success it’s only partially due to his system of reflexivity. Soros has been able to survive for so long because he only takes risks with “house’s money”. In other words, when he bet big it was always with accrued profits for that year. For example, his massive One Billion trade against the Bank of England was done with the fund’s year to date profits. If he lost he would have just had the same capital he started with. But if he won -- which he did -- he was able to double his yearly return in just a few weeks. Betting with house’s money is just one of many good trading habits that we can all learn and apply.

In the end, good habits never die, but good systems always do. Next week I’ll post a list of 10 best trading habits I learned from the school of hard knocks. Until then … trade safe.

How Cheating Makes You a Better Trader

Boris Schlossberg

From BBC.com

“Marissa Sharif, an assistant professor of marketing at The Wharton School at the University of Pennsylvania believes that cheating can help you reach your goals.

An all-or-nothing approach to goals is all wrong, Sharif’s research suggests. She says we should instead be building ‘emergency reserves’ into our goal-setting process.

In one field study, 273 people used a smartphone app to count their steps for a month. The first group was asked to reach an individualized specific step goal, for example, 7,000 or 10,000 steps per day, seven days a week. A second group needed to hit their goal on five days or more. A third group targeted their steps over seven days, but with two ‘emergency skip days’ per week (that didn’t roll over). A fourth group’s skip days were spread across the month.
The people who were allowed cheat days reached their step goal more days per week on average than those without them. They also took more steps on average.

Sharif says this type of cheating works in two ways. First, people resist using up their reserves, in case they’re needed later. They also feel bad about wasting them in a non-emergency scenario. Second, if you do need to use your ‘cheat,’ you feel less guilty about falling off the wagon in the first place and are thus less likely to give up on the overall goal, she adds.

This ‘cheating’ mindset helps people to keep sight of their longer-term vision, says Leena Rinne, productivity expert at US consultancy FranklinCovey. “While goals are initiated by making a choice to achieve something, it’s the choices in the moment that get you there. And, one of those choices is to allow yourself some ‘emergency reserves’.”

This week I ran an interesting poll on my Twitter page which collected nearly 400 answers. I asked, “For traders what’s worse -- being impatient with wins or impatient with losses?” The responses were almost split down the middle with the latter just edging out the former by 53% to 47% and I’ve got to say that I strongly agree with the majority in this case. It’s worse to be impatient with your losses and the reason has a lot to do with Ms. Sharif’s research.

First of all, I think we can all agree that being impatient with your wins or losses is bad. But that’s really not the point. We are not trying to achieve an ideal. We are trying to find practical ways to generate profit as real flawed human beings. And if that’s our goal then letting your losses run to their stops is actually better than cutting them short.

The reason, of course, is that the more we cut our losses short, the more losses we will have. Only someone who has never traded in the markets is under the illusion that having tiny stops and large targets is the way to trading riches. If you have a 10 pip stop and a 100 pip target your chance of losing is 95% or more. You chance of winning is about as good as lotto. Markets simply don’t give you money for nothing. Prices ebb and flow all day -- FX dealers do their best to make sure of that because that’s how they make their money. Add on top of that the general randomness of newsflow and your chances of timing a 10/100 trade are virtually nil. Maybe you’ll get lucky for the first few times but eventually, the market will just grind you out with a thousand paper cuts. Try it for a month and see for yourself.

But cutting losses short is not only bad math, it’s also bad behavior. Remember, what Ms. Sharif’s experiment proves -- if we give ourselves a small reservoir of failure we are much more like to continue our tasks. The single biggest problem with being impatient with your losses is that it will quickly drain the reservoir of failure. In my experience, most traders can only tolerate 3 stops in a row. By the fifth consecutive stop they begin to question the whole enterprise and by seventh most quit.

That’s why if you are going to cheat in trading, it’s much better to do it on the profit side. It’s better to take profits early (even though that is of course not optimal) simply because it will encourage you to stay in the game. And the longer you stay in the game, the better you’ll become at reading the market and the better trader you will be. Being patient with losses will not guarantee profits, but it will buy you time and build the emotional reservoir to persist in your pursuit of trading mastery.

PS -- let me just be perfectly clear. Being patient with losses DOES NOT mean letting losses float indefinitely. It simply means not closing out prematirely before trades hit their stop.

Forget Right or Wrong – Here is the Only Thing That Matters in Trading

Boris Schlossberg

Wudda Cudda Shudda. A retail trader’s favorite pastime. If only I “wudda” taken that trade, I “cudda” made massive pips. I “shudda” just traded. What an idiot I am.

If you haven’t had that internal dialogue with yourself you clearly haven’t traded for long enough. Of all the things that frustrate me about trading the “wudda, cudda, shudda” game is the worst. You never, ever learn anything from it. You wind up feeling miserable and helpless and most importantly annoy everyone around you, who no doubt find your endless whining to be worse than whatever trade setup up missed.

The other day, however, it suddenly hit me as to why we continue to play this useless game. It all has to do with how we view our trading. Without even realizing it we view each trade we take in moral terms. The trade is either right or wrong. If we win the trade is right. If we lose the trade is wrong. It doesn’t matter if the trade made sense or not, all we care about is that the trade is a winner.

And that is exactly how we turn trading into gambling and lose all of our money in a month. Allow me to explain.

Last week, I was chatting with Rob Booker and we talked about how new traders just want the price action. They don’t care to learn about market structure, trade management, risk control or market news. They just want to trade, trade, trade. As a result, they become “liquidity fodder” (my new favorite term). Their stops or margin calls become the smart money’s take profits. It is essentially socially sanctioned theft -- just like Las Vegas.

But here is the thing. If you judge your trades on a right and wrong spectrum you’ve just become “liquidity fodder” because you have turned a probabilistic enterprise into a binary game. We all know intellectually that strategies are simply probability paths across time and price. But if you judge each trade as an isolated right or wrong incident you have basically stopped trading and started playing FX roulette.

Black or red.

I can’t tell you how many times I have seen traders quit a set up after they lost 2 or 3 trades in a row because of this right or wrong paradigm.

So how about this. How about, instead of using a false moral dichotomy we start treating trades as true or false. This is a lot harder than it sounds. In order for the trade to be judged true, it must follow every single condition of your set up. The outcome doesn’t matter at all. The only thing that matters is that the trade is true to your setup principles.

As I said this is a lot harder than it sounds. Once you start classifying trades as true or false you’ll notice how many times you cheat, rush and generally ignore your set up. Staying true to your rules means sitting on your hands above all else until every single variable lines up. But the benefit of this approach is tremendous. One, you’ll start to be much more selective in your trades. Two, you’ll stop crying like a five-year-old girl every time the trade does not work because you’ll have the confidence that it was a true setup. Three, and this is by far the best part of the process -- you will see success. Even when you pass up on “true” setups you will be pleasantly surprised that most of them work out exactly as you thought.

So take a deep breath. Stop acting like “liquidity fodder” to the market. Take control of your trading and change your mindset.

No more right or wrong.

Only true or false.