Rather than review the trades this evening, I wanted to comment on the emotional challenges inherent in this approach to trading.
Today, for instance, we are adding to a trade that has moved against us. This is, I find, difficult. And even more difficult if we move to “doubling down” by adding a third position to a trade. After 4-5 years of trading these strategies, you’d think I’d be over it. But I’m not. Every time a trade doesn’t immediately turn around in my favor, I feel anxious when I have to add to the trade — no matter that a decade’s worth of backtesting clearly demonstrates this approach gives us a profitable edge.
When several of us were first trading these strategies, we almost needed an emotional support group. We had all seen the backtesting results, the patterns of wins and occasional loses. But now, trading it in real time, it was quite a different story. We were literally on the phone or email with each other asking, “Are you seeing this? Are we really going to add to this trade?!” And yet the trades worked again and again and again. And I began to develop more emotional distance from the trades. If I had a number of trades going I could calculate which needed to be added to, calculate the number of shares, and place the orders — almost without thinking about it. It was a cognitive “game” — that just happened to result in my trading account methodically increasing in size.
Of course, it’s always a good news / bad news story. On the 4 out of 10 trades that reverse immediately, I’m at my lowest exposure (2%, let’s say). So I get immediate relief, but am irritated the “bet” wasn’t larger. When a trade requires the next level of commitment (another 3%, let’s say) then I’m pleased that I’m building a bigger position on what is likely to be a profitable trade. But my dominant emotion is usually a little anxiety — no matter how many times I’ve been through this scenario before.
And of course there is some good reason for this anxiety. Once I begin adding to a trade I know there is a chance that it will be the 1 in 10 that loses money. Only now, it has become a 1 in 6 chance that it will be a loser. I’m down to only 84% chance of winning. No wonder I’m nervous.
But really…REALLY?! Down to “only” 5 out of 6 winners?! Who am I kidding? There was a time when I made decent money trading options and winning only 60% of my trades — but made more money on winners than I lost on losers. There are many traders who are profitable only winning 40% of their trades, but cutting their losses quickly.
So I realized that a system that wins most of the time removes some of the trading callouses we build up when only a percentage of our trades are winners. Now I get relaxed as trade after trade is exited with a profit, or at least no loss. I had 18 winning trades in a row beginning some time in January this year. When I was posting all my trades on Twitter and StockTwits I once went to 30-something trades without a loser. And THEN there is a losing trade! I almost had to shut down my office for a few days, because of the shock. My stomach tells me the trading gods have decided to finally come for me, and will make me pay back everything I ever won. I’ve lost my trading toughness by having so few losing trades.
This is why, I suppose, Linda Bradford-Raschke (featured in one of Jack Schwager’s “Market Wizard” books) once said that she thought no human being could actually trade a mechanical system — they were just too painful to endure. And that is true to some extent of the methods I use. They STATISTICALLY work. They have worked in the 7 years of backtesting we had available when I began trading them. And they have worked in the 4-5 years I have been trading them in real time with real money. And whenever I have a loss, I have to go back to the numbers to reinforce my belief. In fact, sometimes I just have to go back to my own numbers. I had a loss sometime this year which threatened (as usual) to emotionally wreck me — until I looked at the previous week: I had in fact just closed 5 winning trades the week before. One loss, and my mind was blank.
But your bank account doesn’t care about how a trade “feels”. Just as the cards don’t care if YOU think you’re feeling lucky when you head to the blackjack table. It’s all about the numbers. And the numbers just keep reinforcing the same story — keep making these trades, and you will find that this particular trading methodology will be the most dependable money maker in your trading account every month.