Friday, October 24, 2008

Five Trading Behaviors I'm Seeing Among Traders Making Money Now

As I'm writing this, the ES futures are lock limit down and my email count is off the charts. Lots of fear, not much greed: fear, not only for one's trading, but for retirement savings and the economy. Most of people's money is tied up in some combination of stocks, bonds, and residential real estate. That means that many, many people are worth 25+% less than they had been just a year or so ago.

It is difficult to insulate those fears and concerns from one's trading. And yet, I do hear from traders who are making money in these markets. There *is* volatility, and there can be opportunity. Here are ten factors that stand out among the traders I talk with who are making money in the current environment:

1) Patience - The ones who are afraid of missing moves, who chase moves as a result, are getting hurt. The ones who wait for clear signals and good reward-to-risk opportunities can take advantage of the volatility. The successful traders aren't afraid of missing a move; they know, in this volatile environment, other opportunities will arise.

2) Position Sizing - Trading smaller when markets are moving more means that one or two losing trades won't knock you out for the day or the week. The successful traders tell me they're making plenty of money with smaller size simply because we're moving triple digits in the Dow just about every day.

3) Resilience - When you're wrong in these markets, you can really be wrong. My first trade yesterday lost over 20 S&P points; I wound up the day solidly in the green. By managing risk, you also manage emotions and can stay in the game. The successful traders are in there, making trades. They get off the canvas when they're wrong and they play defense, even as they look for opportunity.

4) Minimizing Distractions - One thing I noticed is that the successful traders in this environment have taken active measures to protect their personal finances. The less successful ones have been distracted by losses they're incurring outside of trading. It is difficult to focus on trading if you're worried about unemployment or loss of savings; addressing personal security helps maximize focus during trading.

5) Self-Maintenance - It's easy to get run down following markets through the day, every day, and then tracking them overnight and overseas. One troubled trader told me he was living, eating, and breathing trading. That is a risk factor for burnout, lessened concentration, and bad decision making. The successful traders aren't afraid to step away from the screens; once again, they know opportunity is not going to go away.

I'm finding that execution is the better part of success in these times. If you have a good idea, but the timing of your entry is wrong or your position is too large, you're likely to get stopped out at the worst conceivable time. By waiting for markets to put in a seeming high or low, waiting for a bounce or pullback that can't make a new price extreme, and *then* getting into a position, you can minimize the heat you take on trades. That, I'm finding, is half the battle.


itrade4real said...

One of your best posts ever, especially regarding sizing!

Johan Lindén said...

"By waiting for markets to put in a seeming high or low, waiting for a bounce or pullback that can't make a new price extreme"

The problem is that these pullbacks or tests of recent lows will not always come, and people are afraid of missing those times.

But it is a matter of how much risk one is willing to take. I rather miss a trade than take a trade without a good entry/stop loss.

Adam said...

Brett ~

Thank you for another of what I call your “public service” posts, one with a message pertinent under any market regime, one all of us should take to heart. I’d like to add a few remarks.

As seismic market events began unfolding in earnest, my models stopped returning meaningful signals. To continue trading in the way that works best for me (highly quantitative, heavily back-tested), I had no choice but to trade using current models, knowing I would lose. This wasn’t easy, yet there was a benefit.

By following signals returned by the models, and radically reducing position size, I was able to analyze the models’ performance under the current regime and begin making changes ~ once I had a statistically significant number of trades. This took time and money.

By narrowing the resolution of holding periods to intra-day, the majority of my modeling (with additional tweeking) again became relevant. Why? Because markets are fractal (read Benoit Mandelbrot). This also had the benefit of eliminating overnight exposure, which has another benefit:

By eliminating the distraction of overnight exposure, I’ve been able to light up my screen each morning fully rested. There are other things we can do to eliminate distractions: Turn off your television.

Television is loud, full of jarring jump cuts and saturated colors. No doubt this provokes autonomic responses unhelpful in trading. In any event, TV’s market commentators are merely financial entertainers inserted to interrupt commercials. My wife and I haven’t owned a television for at least a decade.

Last night I was in conversation with the organizers of a professional event before it got started. They asked me to make a few remarks toward the end. Stepping to the podium, I could many pairs of anxious eyes in the audience. Everyone’s feeling the uncertainty.

I spoke about Ted Williams, the most robust batter in baseball history. Williams discarded the strike zone and ignored umpire calls, instead creating his own personal batting zone. This was an area divided into 77 sub-sectors each the size of a baseball.

Through many trials, Williams determined that the probability distribution of him getting a hit was best in only nine of those zones. Using tremendous discipline in his set-up, he would only swing the bat if a pitch was in one of those nine zones. The results are recorded in baseball’s Hall of Fame.

If there was ever a time in market history when we all need to be Ted Williams, it’s now.


tom brakke said...

While my work and writings (at the research puzzle) are primarily for those at investment firms with longer timeframes, I'm impressed with how frequently your advice applies as well to them as to traders. Sound principles travel far.

dgoverde said...


This really is a fantastic post. The sizing question is one of the more difficult questions to answer in trading, but also one of the most important. It doesn't always pay to increase your stops and reduce position sizes. With careful analysis, you'll find that doing so will improve some strategies, but won't help, and can even hurt others. But it's THE crucial question to answer when volatility increases. Well done, my friend, well done. Also, Adam, I liked your Ted Williams anecdote. Fascinating stuff.