Hi traders,

This post is about trading psychology and how I'm trying to approach the markets from a statistical point of view. The last couple of weeks I've had a challenging time in the markets, and was in a drawdown. I hadn't broken any trading rules as such, but I'd made a few errors/bad judgements & I just wasn't able to get any momentum compared to previous months where I was having all green weeks.  I turned up at the market yesterday Tuesday Feb 25th after a gym session. I was trading $WAFU on my paper trading platform, & I hit my max loss of -$300 on the day.

In the real life trading, I would have a stop loss on my broker set for -$300 so I now would have been locked out of trading for the rest of the day. But on the paper platform, it doesn't offer this option. I proceeded to trade, in an attempt to get even or back to green. I got aggressive and ended up losing thousands (in paper money). There was no real world damage done but it's worth reflecting on all the same, because I have been trading steady lately so it was a bit worrying to see me throw caution to the wind.

What is interesting was my state of mind, and most of you have heard of the renowned trading psychologist Mark Douglas who says to achieve the status of a professional trader we must learn to trade from a carefree state of mind. 

 https://www.youtube.com/watch?v=kqjhByxyiXM

So, me, in my naivety, felt so 'carefree' after the gym (maybe some kind of post-gym high) that I thought 'Oh hey, I must have entered the state Mark Douglas was talking about' and I started placing my trades  ..... but ultimately it turned out I was ''carefree'' to a point of it being reckless.  

After my gym session and the crazy trading, the question is: Was I in a care 'free' state of mind or a care 'less' state of mind?  There is a difference. And I realise now that I was in the latter, a 'careless' state of mind.

Tim Sykes often talks about 'trading scared so you're not scared to trade'. Mark Douglas says we need to be in a carefree state of mind. This kind of seems to be a contradiction, right? ...

Is it possible to reconcile what Mark Douglas says: 'Trade from a carefree state of mind' with what Tim Sykes says: 'Trade scared so you're not scared to trade'. ?

Yes. I think it's possible, because both of them are talking about the same thing. Both Mark and Tim are alluding to the same concept, just addressing slightly different parts of that concept. So what is the concept then? Well, ultimately it's about thinking in probabilities and not getting hung up on any one trade if it goes against us. And that we must guard against trading errors, in order for your edge to play itself out.

Anyone who has read Mark Douglas' books or watched his seminars on Youtube knows that the state of mind Mark Douglas is describing, is being carefree about 'whether or not your trade is a winner or a losing trade'. If you don't care about your next trade being a winner or a loser, or, lets say, you don't even care if you end up with a green day or a red day, or a green or a red week/month, then you will abide by your pre-defined risk on each trade that you take (this assumes you have made a trade plan i.e. stop loss level OBVIOUSLY!). I need to also add that this assumes that you have established 'edge'.. backtested or kept track of approximately 20 trades of a particular setup and determined you can reliably profit from trading that setup over an average 20 trade series. You know that if you lose today, its no big deal, you try again tomorrow. If you lose for a few days in a row, it's no big deal, eventually your edge will reveal itself in profits.  As long as you stick to your trading plan each and every time you choose to trade.

So, you may have a string of losing trades but are undeterred and unaffected by a string of losses because you know that statistically this is part of the game.

https://pbs.twimg.com/media/CYMe9T8WYAA9awT.jpg

So, you can feel aggrieved by the market and peeved, yet it doesn't affect you to the point where you ignore that stop loss/oversize/overhold/revenge trade/overtrade etc.  At the very least, when you do start to engage in that behaviour, you catch yourself quickly, exit any impulsive trade decisions, and step away from your computer.

So, Mark Douglas is right. The individual trade's outcome doesn't matter. And there is no way of knowing whether or not the trade we enter is going to be a winner or a loser. We are literally  carefree about the individual trade's outcome. 

So how can Tim Sykes also be right: 'Trade scared so you're not scared to trade'. How can you be carefree and scared at the same time?!!

What Tim Sykes means by 'trading scared' is that we should be ultra-conscious of our risk level and hyper-aware of the potential of something bad suddenly happening. Therefore you will trade better because you are ever-ready to cut the trade if it goes against you. You trust yourself to get out of the trade at your pre-defined risk level when you are wrong. You need to be scared that you don't stick to your plan. You must enter the trading battlefield with sufficient readiness (scared) to bail if the move goes against you. (The most logical way to do this is to set an automatic stop loss with your broker, however with certain types of trades - especially the OTC market it is better not to have an automatic stop level because there can be wild wicks, so we need to be mentally ready to manually stop out).

Very often in the markets, especially the extremely volatile pennystock market, the speed of the action catches us out. If you know within yourself that every time you trade, you are scared (aka, on high alert/readiness and will always jump out and not become a bagholder/be squeezed), then the ONLY thing you need to be scared about is if you somehow don't take that loss, because that then becomes a trading error.

Trading errors will negate your trading edge & can open the pandora's box into all the destructive trading ailments: revenge trading, bagholding etc. So you should be scared of becoming too complacent & allowing the door to disaster be opened.

But you're not scared if your stop is hit because you've a strategy with an edge already established. You're carefree about your stop being hit and you are scared of yourself holding beyond the stop. Once you know you will do a good job of playing defence, you know what to expect over a series of about 20 trades.

 

Summary

What's been challenging for me has been when the market is sluggish or I am sluggish or I get a bad run of trades. If this lasts a couple of weeks or more, I can get to a point where I'm almost like 'screw it' and I get careless. Its almost like I find the situation intolerable, anxiety builds and I lose patience. It's like a pressure valve that finally blows, and I break my trading rules. 

Its the nature of the beast that in order to execute the trade plan we may need to be in a heightened state of alertness. Day trading (especially pennystocks) is not the type of game you can enter in on a post-gym high and mistakenly believe you are just being in a carefree state of mind like the professionals. The professionals are in a carefree state of mind but that doesnt mean that they aren't with their finger on the mouse button staring with intensity at the charts, ready to bail if the price action takes a nosedive. Mental complacency on just one trade can be enough to destroy weeks, even months of consistent, edge-driven trading. We need to play a strong 'defensive' game to make a success of day trading.

My winrate lately is about 55% which, according to this graph,

https://pbs.twimg.com/media/CYMe9T8WYAA9awT.jpg

gives me an 80% chance of having 4 losing trades in a row over a 50 trade period. There is a 57.5% chance I will take 5 losing trades in a row. So I need to expect that! The only way that I'm not going to take 4 losing trades in a row is if I find a strategy with a higher win rate. I have to accept that I will probably lose 5 trades in a row, and maybe win the next three and for all I know the next 6 could be losers (31% chance within a 50 trade series). That's 14 trades, 3 winners and 11 losers. I need to have enough emotional resilience to withstand these outcomes and not let it affect my trade plan and process.

So, for me, I feel like I need to improve my 'wait it out' power. It can be so demoralising to see weeks of great trading results and then find yourself in a slump and see your profits being slowly chipped away day by day. The natural response is to become anxious. Then we often get aggressive with size/over trade/baghold/take boredom trades etc. in an attempt to lessen that anxiety.

But in trading, a natural trading profit curve doesn't just go straight up. 

It can help to have a broad range of strategies and ideas for different market environments. If you are anything like me, I always feel the urge to be involved in some trade or another. 

Every day, there are opportunities, but there can be some days when the opportunities are not great or my reading of the market is off. Often, there is a lot of random action and I get confused. Sometimes I'm sick and not fully alert. In this situation I think its best to get up and go for a hike or visit some friends. Even take a week off. Usually, after some time, a series of trading opportunities arise that are more to my liking and I can make money 'relatively' easy. I think maybe the patience 'muscle' gets overworked and I just need to get away from it when I'm feeling the impatience build.

 

Conclusions:

In trading, slumps are inevitable. Its all part of the test of the game: The real challenge is can we stay patient and continue to stick to our process. We all want a steady income stream but trading doesnt work like a job where we get a weekly paycheck.

I'm focusing on waiting patiently for these right opportunities, and not blow up my account in the meantime through careless trading.