If you are making the mistakes where you’re losing more money than you should have, and you’re also making the mistakes where you’re not making as much money as you could have – then you’re probably only breaking even in your trading, or you are losing consistently, and it’s kind of frustrating to you.
Mistake One
The first category of mistakes are those that we get punished for. Those kind of mistakes where we are punished by losing money or we lose more money than we should have. Most people will learn from those mistakes over time – or they just quit trading because it’s not working for them.
Mistake Two
The other category of mistakes is even harder to identify because those are the category of mistakes that we don’t get punished for. That is, when we make this mistake, we simply don’t get the benefits we should have. We many never become aware of this mistake, because there is never a signpost that pops up to say ‘You didn’t get all these extras!’.
Why We Make Mistakes
The reason we make these two categories of mistakes is fear and greed.
The successful trader feels fear and greed, and the unsuccessful trader also feels fear and greed as well. The difference is, the successful trader feels fear and greed at opposite times to the unsuccessful trader!
Mistakes When Losing
Let’s say we have two traders that go into an identical trade that moves against them; that is, they buy the same item at the same place at the same time and the price goes against them.
Right away, the successful trader is fearful of losing money – and so he sells out of the position quickly. The unsuccessful trader starts to get greedy because he sees that the price is now lower than it “should be” – and it’s even a bigger opportunity to ‘buy the dips’.
‘So if I bought 100 shares at 100 units of price and the price is now 80 units, then I could buy another hundred shares and I would average out the price… therefore I would have two hundred shares at an average price of 90, so really I’m only down 10’, and, such a trader might rationalize; ‘When the price rebounds I’m going to make it killing because I’m into this position that was a great bargain!’
However, this trader is at a very high risk position now. If the price should continue to go down – the trader now has a bigger position when he’s losing. As the price goes down, he finally gets to where he’s feeling so much pain that he has to get out of the position, and ends up with a much bigger loss than he should have. Naturally, this trader will feel discouraged and kind of panicky when he trades another position.
Mistakes When Winning
Let’s go to the second example where both traders buy the same item, at the same time, at the same price – and it goes with their expectations so they’re both profitable.
The successful trader now feels greedy – because he’s been proven correct – any buys even more of the item or even more shares, so has a larger position.
The unsuccessful trader, however, may be fearful of losing his profits and quickly cashes in the position – too soon. As time goes on the price continues to go in the direction they wanted, the unsuccessful trader now will feel even more anxiety watching the price go… and yet they still may not realize that if they had put a larger position on – they would have made even very much more money in their successful trades.
And so many traders gets killed in the market – by making mistakes that cause greater losses and making mistakes that reduce their profits.
We will study the theme of these two trading mistakes throughout the book, and reflect on Risk Control Rules that will help the unsuccessful trader correct both of these mistakes so they begin to take those smaller losses sooner, and hold those bigger winners for longer.