Sunday, July 15, 2012

Trading and Donald Rumsfeld

Here's a couple of famous quotes from former US Secretary of Defense, Donald Rumsfeld, which can easily be applied to trading, and in particular, to the core element of risk management:

"There are known knowns; there are things we know we know. We also know there are known unknowns; that is to say we know there are some things we do not know. But there are also unknown unknowns - the ones we don't know we don't know."

"I would not say that the future is necessarily less predictable than the past. I think the past was not predictable when it started."

Trend following as a basic method of trading, and the risk controls included within it, allows you to control your risk without restricting the potential for future profits -  we want the 'unknown unknowns' to be on the positive side, not the negative. So, we keep our losses small, and let our profits run. All the charting indicators and oscillators in the world will not help you avoid those scenarios where the unknown unknowns go against you. You will also find that, in the majority of cases, the unknown unknowns for some reason occur in the direction of the trend. And when they DO go against you, that's where your risk control comes to the fore. If in doubt, go back and look at some historical charts like 1929, 1987, 2000, and 2008 for starters.

Trend following is also a robust method - what should work on equities should also work on crude oil, on the DAX, on the grains and on EUR/USD. The future can never be predicted, and even with the benefit on hindsight, you would not have been able to tell which trend signals would have worked out or failed. That is part of the nature of trend following. All you can do is follow the signals, take your positions and see what unfolds.

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