Wednesday, February 10, 2010

Weathering the Inevitable Storms in Trading

A little while ago, something very unusual happened to my trading: I had five losing trades in a row. That might not seem like a big deal, but from a purely statistical vantage point, it is. After all, if you average only 50% winning trades, the odds of five consecutive losers by chance is only a little more than 3%. If you average 60% winners, the odds come closer to 1%.

So, yeah, if you trade often enough, the string of losers will happen. But this wasn't chance, and I wasn't trading my usual.

I recognized this midway through the "slump" and cut my size. By the fifth loser, my account was down less than 2.5%. Within a week's time, I recouped almost all the money, milking two nice trades during a high volatility period.

There is absolutely nothing exciting about my trading. I'll look for one or two moves in a day where I see very good risk/reward. I don't trade every day; only when conditions are right and when I can be fully focused on what I'm doing. I'll size my trades so that five losers in a row won't lead me to get carried out--and won't throw me into a tizzy. If I make 1% on my cash per month, I'm a very happy camper.

I don't ever go all in, and I don't go for home runs. That keeps me on a very even keel, and it keeps me loving the game and continuously learning. It's amazing how much you can absorb when you're not worrying about P/L.

Here's an excellent New York Times story of a skier who approached his performance discipline very differently and what he's now doing about it. He approached life with an all-in mentality and it led to bitter losses. Now he's back competing, but in a very different mode.

At some point, you're going to lose...and lose again...and lose again. So much of success boils down to being able to not only survive those times, but learn from them.



John Gilner said...

Dr. Brett, your honesty is reassuring, thank you for sharing your experiences and the related lessons with us. So many out there in the "world" of trading spin their skill and experiences without shining a bright light on a balanced and truthful portrayal.

positiontrader said...

Dear Dr. Steenbarger,

The same thing happened to me two weeks back and I had my worst drawdown in over a year. It all changed last Friday though. I thought it would take me a series of winners or a huge winner to get out of the slump but surprisingly, it was the trades I did not make that got me out of it!!

Finally acting on the repeated advice in your book about starting a trading journal, I started a trading blog in the first week of January and I must admit, it has helped. Starting it is the hardest part and then it pretty much becomes a routine. Thanks!

Jay said...

Yes, must learn from loss. I had 17 consecutive loses a few weeks ago. My friend who doesn't trade but was great in baseball, said he would give up. I followed it a week later with 13 gains in a row. But I don't believe him since a hitting average that is good is actually pretty low. After the 13, I finally realized I know what I'm doing. I analyze every trade. Today on NQ I got stopped out on a 2m bar (mistake bc my plan says to use a 5m) but the entry was pretty slick. 10:42am 1740.50 NQ. As TRIN fell and NYSE TICK was making a new high. My account was too low and therefore I was too risk averse. LESSON LEARNED. - nqtraderjay

Ziad said...

I think it really depends on who you are and what your objective is when it comes to this issue. If you're just trying to make a safe, smooth, decent return on your cash, then yes this is the way to think. However, if your goal is to be a world class trader- among the best- then such a conservative attitude won't cut it in my opinion.

I think where traders get it wrong is confusing account volatility with risk. This isn't "risk" in the truest sense of the word. Risk, to me, is risk of ruin. If you have a demonstrated positive edge to your trading across varying market conditions, and you have a risk of ruin that is virtually nil, is it truly "risky" if you have large account volatility? I would argue otherwise. The only risk here is emotional risk. That's what account volatility is to me when a trader has a persistent edge and no risk of ruin due to correct overall position sizing. It's only emotional risk because under such conditions the drawdowns will be recovered and new equity highs will be made. Just like you recovered 2.5% in no time, an aggressive trader can recover 15% or more in no time. Same thing, just amplified. The only issue is whether the trader can stomach the drawdowns.

And so if you think in this way, then you also realize that to be a true world-class trader, you must train yourself to stomach the drawdowns that come with pushing for the big returns. That's what it's all about. All the greats we hear about were aggressive. They didn't become great and make countless millions by being conservative and being happy with small rates of return to avoid account volatility. Later on when they created hedge funds they may have started really caring about minimizing drawdowns because you can't raise investor money with big drawdowns, but in general most of these guys weren't afraid to risk big when they had conviction, and that's what made them the huge money and that's how they became legends.

As for the skier, I think the message from that article is distorted in this context. He had exactly the same attitude as all the greats have in all sports. Not afraid to put himself on the line and risk painful failure to achieve great things. However, he was also immature and had drinking problems, and those were his real vices- not his all-in mentality in his sport. If he had landed that jump, he would have been called a hero and been exalted for his great boldness and skill. And rightly so. It wasn't this that was his downfall, it was his lack of self-awareness and maturity.

As is with traders. The greats that make millions have an all-in mentality, but this is tempered with prudence and self-awareness and isn't the same as being careless and risking ruin. All-in in this case means being willing to bet big and stomach big hits in going for stellar returns, while at the same time keeping true risk- the risk of ruin- at an extreme minimum.

That, to me, is the essence of trading in the big leagues, or being in any kind of big leagues. You don't get there taking the cautious comfortable route. You get there by being willing to handle adversity that others can't, while doing it with an air of prudence. And THAT is what I'm aiming for, and what I think every trader chasing greatness has to aspire to.

Ziad said...

And as a testimony to the wisdom and unlimited power of having an all-in mentality, I submit this incredibly inspiring video that a friend of mine so appropriately happened to post to his blog:

madi said...

Thanks for your honesty Brett. Your blogs are always refreshing.

The past two days have got me in a spin. I usually trade quite well, but traded poorly. My stops were constantly hit and then the trade would inevitably continue in my original direction. Consequently, I over-traded.

I spoke with a trader who has been trading for 20 years. I showed him my trades for the day. He said that he doesn't use stops!

At this moment, I'm under going a trading strategy existential crisis. How wide do my stops need to be when trading the ES? I usually set them a few of ticks outside a support or resistance level and try to place my trades close to those levels. This guy said he just doesn't use stops at all!! He said that my way of trading was a "sure way to a slow death."

It would be good to hear from you, Brett, and others on this topic...without hearing a stock answer from one of the fifty or so trading books that I've read and studied.

Also, I'm thinking that I shouldn't trade tomorrow. I'm generally fairly centered, so I don't know if this is really what is best for me. I don't want to make a big deal of this. I don't want to enter into a trigger pulling problem by making too much of this. Also, I'd be afraid of missing a big day since today is an inside day.

Thanks for listening.

Radek Dobias, H.B.Sc., M.W.S., B.Ed. said...

So much of one's success is tied to not giving a shit about making tons of money or "losing", simply doing the task for the joy of it.

Look for your set-ups, pull the trigger, hope for the best, take what comes, and be happy about your life.

NQ Trader Jay said...

madi - Yes use stops if that is in your trading plan. My plan comes from a company that will be in NY at the expo this weekend. While they have expensive seminars, they also have cheap DVD's and one really cheap paperback book that I have that is worn out.

I use a stop that basically tells me that if this stop hits, then the reason that I am in this trade is over. It has to be that technical. The market can turn fast and without a stop, you can lose more than it is worth and more than where the trade is obviously no longer valid. I have done it, many, many times, and I lost thousands in a day back in 08 with no stops on the russell 2000 futures contract. Now all of last year I haven't lost as much as my 2 worst days in '08.

I see Dr. Brett won't be in NY this weekend :( but in the next Expo in CA.

Great blog, here, and I just found out how to see the blogs of you folks commenting. Click on ur name, duh. Nice to see them. - nqtraderjay