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.

The Worst Mistake in Trading

Boris Schlossberg

So you a got a great setup going. You are banking pips each and every day. You decide to drop more money into your account, you increase frequency and … you lever up! Because it’s time to stop being a wussy! It’s time to make it rain!

I give you two, three days -- a week at most -- before your fantasies of “bricks on bricks on bricks” blow a hole through your account big enough to drive a double-wide through. You just made the worst mistake in trading -- you forgot about the Hidden Risk Relationship.

In any financial transaction you can achieve leverage two ways. The more common way that most of us are familiar with, is to simply borrow against collateral. That’s what margin is and we are all aware of its dangers. At BK we have a saying 4X for forex. It’s a shorthand for the maximum amount of leverage you should employ on any trade. It may seem ridiculously conservative to most traders, but if you want to stay alive in this game for more than a month then using 4 times your account size is about all you should do.

But if you are day trading. And I mean really daytrading where you do 5 to 10 trades every single day then 4X for Forex is way to aggressive.

But let me explain to you why. It has to do with the 2nd way to achieve leverage which is through turnover. If you ever worked retail you are well familiar with both concepts. You could borrow lots of money and stock the store with many items. Or you can flip over your inventory three times per month like Zara and achieve amazing leverage on your capital.

So when you are daytrading 10 times a day you are effectively flipping over your inventory. A lot. Which actually means you should use LESS leverage rather than more. Let’s say you use our 4X for Forex formula and you trade 10 times per day. That’s effectively 40x lever factor as you flip over 4X your equity 10 times per day. Do you think there is a chance that in doing 5-15 trades per day you could lose 3 or even 4 times on some days? You bet. At even a 25 basis point stop you are now down 4% in just one day. Do that a couple of days in a week and suddenly you are down 10% without even trying.

There is another reason why high leverage and high frequency do not mix. Revenge trading. No matter how much you promise yourself you won’t do it. You will. You’ll hit a couple of bad trades in a row. You’ll get pissed, and you’ll want to “get it all back” in one fell swoop. But if you are already trading on leverage that means you will have to lever up 10x, 20x to make up that one trade that brings you back to even. That is prescription for disaster. On the other hand, if you are trading at no leverage, even a few revenge trades won’t hurt you too badly. Certainly they won’t damage you permanently.

So the Hidden Risk Relationship comes down to frequency versus leverage. The more you do of one, the less you do the other. There is good reason why HFT funds trade only a couple of hundred shares per position. They understand that that returns are a function of frequency not leverage. It’s time that retail traders learned that lesson as well.

The Worst Trading Habit That Makes You The Most Money

Boris Schlossberg

Ever since I first picked up a trading book -- more years ago than I care to admit -- the one undying advice of conventional wisdom was “Let your profits run and cut your losses short.” I would venture to say that this “kernel of brilliance” is responsible for more losses than any other trading tenet ever devised.

In actual markets there is absolutely no way to let your profits run while cutting your losses short. You either cut your profits or cut your losses, but you can’t have it both ways. That’s because markets -- and especially speculative markets like forex -- almost never move in one direction.

Anyone who has ever been able to “let his profits run” is simply a lucky idiot who like a befuddled lottery winner guessing a random number, just happened to catch that one big breakout and then was stupid enough to believe that it would continue without retrace and then was lucky enough to have that once in decade occurrence actually happen and lastly -- and this almost NEVER happens -- was smart enough to exit before the whole trade went right back to where it started from.

Don’t believe me? Go ahead keep making bets with 3 to 1 4 to 1 5 to 1 payouts and we can talk again when your account equity is down to 10%.

Now “professional gurus” would be horrified at my blasphemy. They would tell you that one of the worst things you can do as a trader is to cut your profits short. After all, how are you supposed to pay for all those stops?

The problem with professional gurus however is that they are great at trading the left side of the chart.They are awesome at picking prime examples of trends AFTER they take place, but I have yet to see any of them succeed in my domain -- at the right side of the chart where fear and uncertainty control every tick and real capital is won or lost on your tactics rather than your theories.

In that world -- the real day trading world of the markets -- taking your wins too quickly is one of the most profitable things you can do.

Why?

Because successful day trading is not about making money. It’s about NOT LOSING money. There are three basic classes of day trades. There are trades that make money right away -- anywhere between 1 and 30 minutes in duration. There are trades that lose money right away usually in the same short period of time. There nothing much to do about either one of those types of trades and you just take them as they come.

There is however a broad middle ground of trades that appear to be uncertain as to whether they want to be winners or losers and this is where all the bad habits of impatience actually pay off big.

Now as traders whether we are Hindus in New Delhi, a Jews in Tel Aviv, a Moslems in Dubai, Chinese in Singapore or just jolly old rogers in Melbourne -- we are in fact all Anglo Saxon at the core. What I mean is that if we live in the advanced industrialized world we have all internalized the Protestant work ethic and with it the core belief that we must sacrifice in order to succeed.

Generally that’s a great rule to live by -- except when it comes to day trading. Good things do NOT come to those who wait. We must not endure pain in order to make profit. The speculative markets flip all those long ingrained behaviors on the head.

You got out of the trade a bit early and gave up 10 more pips of upside? Who cares. There is another trade right around the corner. In the meantime, you know what you also did? You got out of trade that could have turned sour and made a 5 pips instead of losing 100. You know what you also did? You freed your capital to look for other opportunities instead sitting in front of the screen paralyzed like a deer in headlights, hoping -- nay praying -- that you can get back to even while other traders are banking profits elsewhere.

The most important thing that you did was NOT invest. Not invest your time. Not invest your money. Not invest your psychological capital. By selling too early you became a true day trader rather than a quasi investor.

Learn the Day Trading Skills That Will Last a Lifetime

So go ahead -- get out too early. Give up the profits. Once you start doing that on a regular basis the only thing you’ll regret is not picking up this bad habit earlier.