Wednesday, May 04, 2016

Stress testing yourself and your method - sowing the seeds of future success

These days, I always try to look at things from a positive point of view. Where others can only see the negatives or downside, I try to look for the potential upside or opportunities which may arise.

Attaining that mental state was not easy to achieve. In my early days as a trader, I struggled to keep my emotions and approach to risk under control - particularly when things went wrong. Things would get flung across the room, combined with a lot of negative talk and shouting, which can easily damage your self esteem. To change from a negative to a positive mindset took a lot of effort, but it has been crucial in helping me get to where I am today.

Now, whenever I encounter a run of losing trades, or when market conditions are clearly not favourable towards my own style of trading, I try and view that as an opportunity to lay the groundwork for future success - and you should too.

Making money when market conditions are favourable to your style of trading is relatively easy. The difficulty arises in keeping the bulk of those returns when conditions change.

You can also easily rack up losses by continuing to take new positions when things are clearly against you and your chosen method.

When such conditions arrive, I always try and look at those periods where I can work on my risk management, my psychology and emotional control, my patience and my discipline. 

In other words, those periods are when my method - and myself - are ‘stress tested’ for any weaknesses. I know that, if I can control those aspects when the things are difficult, then once the market state changes then things will be a lot easier. 

The people who maybe take excessive risk when the conditions are in their favour, or who don't have clearly defined rules, or who overtrade, run the risk (excuse the pun) of losing any gains when the going was good very quickly.

Most traders tend to bin a perfectly acceptable method when the market conditions go against them, or after they suffer a run of losing trades. That is the period when you need to study and pay the closest attention, not only to see how your method performs, but also to see how YOU perform. Can you stick to your rules? Can you avoid overtrading or taking 'revenge' trades to make up for the inevitable run of losses? Can you avoid making emotion-driven decisions?

You can learn a hell of a lot more about your method and yourself as a trader when times are tricky. But to do that, you need to have patience, discipline, and an unwavering commitment to what you are trying to achieve. If you can't, then you can easily end up residing with the vast majority of traders who end up losing overall.

It also takes a particular type of person who can acknowledge and accept that conditions are against him, and that stepping to the sidelines, or reducing their overall risk or exposure is a viable and prudent option. That is generally earned through bitter experience, but they are able to take it on board and factor it into their future trading.

Some successful traders who I follow on social media have mentioned recently this very thing. They know they have little or no edge in the current market, and are content to wait it out. Meanwhile, the 'get rich quick' brigade will simply carry on trading with little or no regard as to what is happening.

They won't be keeping track of their performance and various metrics. They won't be reviewing trading logs or charts of previous trades and looking for ways to improve. They won't lighten up their exposure. No, they will simply carry on opening trade after trade, trying to recoup losses and potentially end up digging a bigger hole for themselves.

In Stock Market Wizards, Jack Schwager conducted short follow up interviews a couple of years after the original meeting with each of the featured traders. In the majority of cases, their performance had suffered as market conditions changed. As a result, some had refined their approach, or had lightened up their exposure until conditions started to move back in their favour. If these Wizards can do it, why can't you?

It is these phases where you can work on these or other issues, or maybe refine your method. And the fruits of that work will make you a better trader going forward. So don’t get frustrated or angry – look at these poor or non-performing phases as an opportunity. That is exactly the time when you are sowing the seeds for future success.

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