Why do we REALLY Lose at Trading?

2009 forex forecasts Boris Schlossberg

“You miss 100% of shots you do not take”. That’s a famous Wayne Gretzky statement that many trading gurus like to quote. I’ve used it myself in past columns as way to motivate traders to take on risk.

There is just one problem. It’s probably the dumbest trading maxim you will hear.

You see, trading is not like hockey or almost every other human activity out there. It has negative costs attached to every failed action.

What’s the worst thing that happened when Wayne Gretzky missed a shot? Did it ricochet off the boards? Hit the glass? Ended up in a goalies glove? To Gretzky, the downside of missing a shot was minuscule. Now imagine if every time Gretzky missed a shot, every time Lebron hit the rim, every time Messi sent the ball wide of the net, the opposing team got a point.

That’s trading.

That is what makes trading so unique and challenging. We lose not because we can’t take being wrong, but because it’s truly painful when we are.

But here is where things get really interesting.

What the most common thing we do when someone punches us?
Punch back!
So the moment we lose on a trade, we instantly get into a brawl with the market. Our trading turns into “Slap Shot”, which was a great movie, but I think we would all agree is not a good way to live life.

We can deny this all we want. We can call it “trade adjustment”. We can call it “maintaining our thesis”. But in actuality it’s just a schoolyard fight and whether we are thirty or eighty we still look like idiots rolling around on the ground trying to subdue the market which will always be stronger and meaner and dirtier than we are.

In the end, we are just left with a black eye, a puffy lip and a sense of humiliation as the money in the account is gone.

So what can we do to prevent this?

I wish I had a magic answer -- but I don’t. There is no perfect way to overcome this problem, but there are two practical solutions to that go a long way to helping contain it.

Trade smaller
Trade less

In FX one of the absolute best ways to avoid a losing spiral is to trade with no leverage at all. That means for every $10,000 in your account your trade size should be 10,000 units or less. Although FX appears to be wild and crazy, the asset class is actually the least volatile major market in the world. It rarely moves more than 1% per day. What makes it so dangerous is the high leverage that can magnify those moves by a factor of 100 or more. Losing 100 pips on no lever trade doesn’t feel like a punch in the face, more like a slight pinch on your arm and you will be much less likely to lash out at the market and want to “punch it back”. You are always much cooler and calmer when losing large amounts of pips on small leverage rather than losing a small number of pips on large leverage -- and keeping your cool is half the battle.

The other half has taken me a very long time to realize. The basic fundamental rule of the market is -- the rarer the trade, the better the trade. It seems to so obvious in retrospect yet few people appreciate that fact.

Imagine the reverse. Great trades are common! If that were true we would all be billionaires by Tuesday. In fact, if you study the actions of great traders throughout history, guys like George Soros, John Maynard Keynes, and even Warren Buffett. They resemble nothing more than the hunting habits of a lion. Basically, they spend 90% of their time doing NOTHING. And only pounce when the conditions are ideal for a score.

As day traders in FX we can’t be that choosy, but we can still be selective. If you are trading with the trend, only buy higher lows, sell lower highs. If you are fading the trend, stay as close the daily ATR as possible. You’ll be amazed at how much more accurate you will be. Instead of making 10 trades per day, do just 2 and your overall pip score will likely increase.

None of this, of course, will make you an absolute winner. You still need a strategy, an edge, an execution structure and risk control rules. But all those things can be worked out. 99% of us never get the chance to find out if we can succeed because we lose it all in a stupid schoolyard skirmish with the market. Let’s do less of that.

How Losing Makes You Win

Boris Schlossberg

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How much money should we lose?

That’s not a question that most traders ask before they press the buy/sell button, but it is perhaps the only question you need to answer if you want to trade well.

Nobody ever starts trading because they want to lose. Everyone gets involved in the markets because of the tantalizing prospect of big wins. But the reality is that most traders lose big precisely because they never think about losing properly.

If you are day trading like we do in the BK chat room, losing is simply part of each day. The more trades you take, the more stops you’ll have. That’s just the nature of the markets. The key is always to control the losses.

The first and easiest way to do that is to automatically wrap each trade with a stop and a take profit using the simple buy/sell scripts I shared a few weeks ago. Doing that will ensure that you don’t have a “dangling” order whose loss can quickly grow out of control due to some “news bomb”.

One of the most common mistakes traders make is that everyone wants to fight sentiment. When markets turn against you the universal instinct is -- “it will come back”. And 8 out 10 times it usually does. But the 20% of the time that it doesn’t, comprises 100% of the cases of all blown accounts. Having an auto stop attached goes a long way towards avoiding that nasty scenario.

The other great risk control tool is simply size. Size however is not just a function of your risk tolerance but of the frequency of trading as well. A trader who has a 10,000 account and trades once a day at 10:1 lever factor could trade 100,000 units of currency. The very same trader who day traded 10 times that day would only be allowed to trade 10,000 units per trade in order to maintain his leverage factor. This is something that most rookie traders miss completely. If you day traded 10 ten times at 100,000 units each -- your total turnover would be a 1M and you would have basically levered 100:1. (Yes I know that mathematically that is not quite true, but for trading purposes it’s much closer to the truth than not, which is why everyone should think of leverage this way)

My own personal preference is to trade no more that 1 times my equity on any given trade (that includes all the add-in positions I may employ). Generally, my starting trade on my 25,000 IRA account is 5,000 units which may be too conservative for some but suits me just fine, since I expect to make 20 trade each day (there is that frequency lever multiplier).

The very last question you want to ask yourself is how much am I willing to lose each day? Again that is a function of personal preference, but my hard rule is never more than 1% of the account. So far, I have not come close to hitting that limit (mainly because my initial opening size is small) but if I ever do -- I will close all positions and stop trading for the day.
A 1% equity stop on your account may not seem like a lot, but if your goal is to make 10 basis point per day than it is just right. In fact that is a very good rule of thumb to use. Take your daily goal target (assuming it is realistic of course) and multiply that by 10. Put a hard stop on your equity at that level and never, ever, question or doubt that move. Any loss that takes more than 10 days to recover is going to be a very difficult task to achieve. Don’t make trading any harder than it is.

Know your losses ahead of time and you will set yourself up for the wins.

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NZD/USD Rally Could Lose Momentum Soon

NZD/USD Rally Could Lose Momentum Soon

Chart Of The Day

NZD/USD Rally Could Lose Momentum Soon

The New Zealand dollar was the best performing currency of the day. In the short span of 7 trading days, NZD/USD has risen from 63 cents to 66 cents. No economic reports were released overnight but NZD is still riding on yesterday’s Global Dairy Trade auction high. Milk prices increased for the fourth auction in a row, solidifying expectations that dairy prices have bottomed. As New Zealand’s most important export, this recovery cuts the need for further easing from the Reserve Bank of New Zealand because the drop in prices was the primary motivation for their decision to lower rates 3 months in a row between June and September. If prices continue to stabilize, the RBNZ will be done for the year.

Technically resistance in NZD/USD is at 0.6710, the August high and we believe that the rally could extend to that level but further gains may be difficult. The 100-day SMA also sits right above current levels. If NZD/USD manages to rise above 0.6750, the next stop should be 0.6870, the 50% Fibonacci Retracement of the 2009 to 2014 rally. Support is at 64 cents, the 61.8% Fib of the same move.

Trade Like a Gambler Or Lose it All

Boris Schlossberg

Let’s not beat around the bush -- trading is gambling pure and simple. If you haven’t realized that by now, if you continue to labor under a some naive illusion that the market can be “understood” through analysis -- be it technical or fundamental -- well you are on your way to the poorhouse sooner than you think.

Trading is not investing. Never has been. Never will be. It’s not about achieving long term growth but about harvesting short term gains. Those gains are function of two things -- how good are your tactics are and how strong is your risk control.

In short, do you approach markets like a professional gambler or like a sucker on weekend trip to Vegas?

I bring this up this week because my friend John Netto -- who is a professional trader -- was in town this week to give a presentation at an institutional conference on the similarities between trading and sports betting. He was kind enough to share his PowerPoint with me and I was blown away by the content.

Mind you I haven’t watched professional sports in fifteen years. I couldn’t tell the difference between the Red Sox and the Redskins much less tell you who won the Super Bowl last year, so John’s presentation on the nuances of teaser bets was a massive challenge for me to understand.

After several hours on Wikipedia and various football betting sites I was finally able to put together his line of thought. But that is really beside the point. What struck me about John’s presentation was just how scientific it was. He had done a massive amount of historical research about both the distribution of winning margins in the NFL as well as the teams most likely to beat the spread over decades of play.

In short his whole approach to gambling had nothing to do with who was “hot” this week or what he “felt” about any given team. Like a true professional he couldn’t give less of a f* about any individual outcome. His process was based on large sample size, clear historical record and a few intelligent filters to improve the handicapping. Furthermore, he couldn’t care less how his bets did on any given week or month. He was looking at the system as a whole and like any good gambler/trader he was focused on number of occurrences.

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The single biggest challenge I have in educating retail traders is to get them to think about number of occurrences rather than individual winning or losing trades. The focus on the most recent past is very natural and human. It only takes three negative outcomes for most of us to give up on an activity. But that is why most retail traders lose. They think like casino suckers not professional gamblers. That’s why the first step to becoming successful in the market is to change your perspective on the game. Do it now and you will thank me later.

How To Lose Like a Winner

Boris Schlossberg

Yesterday I got a call from a trader who was short USD/JPY from 103.50 and had build his position to such a size that he needed to drop more into his FX account. What to do? Well I never give out individual investment advice but I tried gently to walk the guy off the ledge by making him focus on his “uncle” point.

“You need to ask yourself what the maximum you are willing to lose and stick to that number,” I told him.

He thanked me profusely, but I hung up the phone with a sinking feeling that he was going to ignore my advice and hold on until the trade either retraced or he got margined out.

Its easy to make fun of such typical retail trading behaviour but the truth is -- ALL of us have done this many times. We’ve all been in a trade gone wrong, refused to get out at a loss, added to the position and then applied the worst trading strategy of all -- HOPE.

Ironically enough at the time of the phone call I myself was nursing two runaway positions that were against me, but my situation was radically different from the trader who called me. Experience taught me to lose like a winner.

Let me run you through the trades to show you what I mean. Yesterday, which was the biggest day of decline for the EUR/USD in more than 3 years I decided, that the move was overdone and got long the pair a bit below the 1.3000 mark. Now this trade was based on nothing but “feel” and was basically probative.

My other “brilliant” trade idea yesterday was to short AUD/NZD from around 1.1230 -- because it was “way overbought”.

When you are trading your “gut” then the single most important thing to do is to throw as little money at the market as possible. When you don’t have a clear target or a well defined stop small size is crucial. My initial foray was only 1/3 my equity on a notional basis that means I was at 1/3 to 1 leverage ( that’s right, I was trading LESS than cash on cash).

Because I really didn’t know where the top or the bottom were in these trades I was prepared to add a few times BUT -- and this is absolutely crucial -- I was only going to add the exact same size of my opening trade rather martingaling the position. In other words if my initial trade was 10,000 units any future adds would be no more than 10,000 units per trade. Martingaling (the art of adding progressively bigger size to your position in order to reduce your breakeven point) is the crack cocaine of trading. It may work once or twice, but it will ALWAYS bankrupt you in the end.

Lastly, instead of reacting to every tick against me, I stayed patient and watched the price flow carefully only adding to my longs and shorts after meaningful moves of at least 20 pips or more. By the end of the day I inventoried enough product that I was near breakeven on my EUR/USD but still out of the money on my AUD/NZD and this is where the bittersweet experience from the school of hard knocks came in handy.

If you want to lose like a winner you need to do two things. You need to be brutally honest with yourself and you need to manage your losing trade, rather than desperately hoping for it to turn into a profit. As I said earlier HOPE is not a trading strategy, even though it is the most popular strategy around.

Once you realize that the trade is not working your focus should shift to minimizing losses rather than maximizing gains and in the case of both EUR/USD and AUD/USD I quickly adjusted my exit points, getting out of my euro’s for a small gain and AUD/NZD for a small loss. Overall I managed to escape the day just slightly up, but even if I was slightly down I would have considered it a good day because I controlled my risk by losing like a winner.

So here is the summary of what I did.

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1. When entering an undefined trade -- always start very small. Use no leverage whatsoever.
2. If adding to the trade never martingale
3. Add at spaced out intervals so that the breakeven point on your inventory is as close to market price as possible.
4. Have a time stop on your trade and be honest enough to recognize that it is not working.
5. At that point change your mindset from seeking profit to minimizing loss and work hard at closing out the position as quickly as possible.

Why Everybody Loses Money and Nobody Can Lose Weight

Boris Schlossberg

You see that picture below? That has been my main meal everyday Monday through Friday since November of last year. That’s about 150 days of eating nothing but salad and sardines. Net result? I lost five pounds.


That may not seem like much but I think this experiment in eating speaks volumes as to why most people fail at both trading and dieting. One hundred and fifty days of eating the same thing is a long time -- yet that is what it took for my body to finally slim down. I am way past forty, my metabolism moves at a snails pace and changes in my biochemistry are radically different from my 17 year old son who would probably lose 5 pounds in a week if he was forced to eat like I do. In short I am a low volatility market and therein lies the essence of this story.

Whether it be diets or trade strategies how many times are we pitched the ridiculous notion that we can achieve success instantly with no effort or investment of time? Lose 10 pounds in 2 weeks on the bull-t, bull-t Miami diet! Earn 1000 pips in a month on my bull-t, bull-t new indicator that will catch every 5 minute turn in the euro!

It’s all nonsense yet we fall prey to it all the time because we want easy, quick solutions to all of life’s problems. But of course in real life bull-t diets and bull-t trading systems do not work. Is it any wonder that most people lose money in the market and almost no one can lose weight?

How many of you would be willing to trade a system for 150 days straight without any discernable profit? Yet in these low volatility markets that is indeed what must done. We all want instant gratification, especially when it comes to trading which appears to be such an instantaneous business. But in truth gratification in trading as well as in dieting is a grind achieved one small pip and one slow pound at a time.

There is one other thing I forgot to mention. I actually like sardines. I don’t mind eating them every day. That’s real reason I was able to lose weight. You need to find a set of behaviors that are acceptable to you so that you can remain on a consistent path to success.

If someone told me that the only way to lose weight was to eat cottage cheese, I would probably never hit my target. Similarly if someone tells you that “the only way to make money in FX is to trade for the long term” -- and you are a person who gets antsy after being 20 pips in the money -- ignore the guru’s advice. Like all such advice it is mainly bull-t. Find a day trading method that you like and keep doing it over and over and over and over and over and over and over again.

To master anything, you need to first like doing it and then do it for much longer than you think is reasonable before you begin to see positive results. That’s true whether you are trying to diet or trying to trade.

Win, Lose or Draw – The Road to Successful Trading

Boris Schlossberg

The other day Bob Pisani who has been covering markets for more than 20 years from the floor of the NYSE was ruminating about why investors fail and his conclusion was that most investors never stick to their original strategy. Bob was talking in particular about Bill O’Neill who founded Investors Business Daily and who is known as the father of momentum stock trading.

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O’Neill had two very simple rules. If the stock fell by more than 8% from your purchase price, you sold it regardless of any macro or micro conditions that may have caused the fall. If the stock had quarterly earnings growth of 25% or more -- it was candidate for a buy regardless of current valuation.

There were several other criteria that O’Neill used, but Pisani’s point was that it really didn’t matter if O’Neill was right or wrong in the short term. He was consistent with his trading and in the long run that mattered much more.

We all know that when it comes to investing the single best strategy is to buy a very low cost index fund with the same amount of dollars every month. Any investor who followed this strategy from 2000 onward through two brutal bear markets would be much better off than sitting in cash and would be way ahead of most hedge funds who jumped in and out of the market trying to outsmart it.The problem is that very few investors have the strength of mind to remain consistent in the face of risk and to follow the rules.

As traders we fall prey to the same human weakness. Very few of us can follow a strategy consistently through its inevitable drawdowns. Yet if we try there is tremendous value to be gained. First and foremost you becomes a realistic rather than an idealistic trader. If you trade a high frequency day trading strategy long enough you learn that there are days, week even months when you will constantly lose money. Although most us can appreciate this truth intellectually, few of us can accept it emotionally.

That’s why trading a system consistently win lose or draw can be the best training experience for a trader. Once you have gone through the rollercoaster ride of rising and sinking account equity, you can begin to accept your losses with poise, and that is the first step towards becoming a winner in the market.