Tuesday, September 06, 2016

Trading Psychology and Trade Management

Your trading psychology--its best and worst aspects--reveals itself in the heat of battle, when positions are on that will make a difference to your profitability.  If you want to understand the mindsets of traders, watch them at two times:  when markets aren't trading and when positions are on.  It's when markets aren't trading that we observe work ethic, productivity, creativity, and the ability to generate ideas.  It's when positions are on and P/L is moving that we observe focus, discipline, and the ability to act upon well-crafted plans.

In the last post, we took a look at cognitive processing during the life of a trade.  We enter a position when we see a shift in flows, such that there is a waning of buying or selling and evidence that sellers or buyers are beginning to take control.  That ongoing updating of odds that a market will move your way doesn't end when orders are filled.  Rather, there is continued updating of probabilities and an openness to exiting positions if flows shift adversely and adding to positions if odds of success continue to rise.  This is the period of trade management:  active, real-time decision-making to minimize losses and maximize gains.

In the heat of battle, some traders lose their focus and engage in little constructive trade management.  They may become passive and stop looking for opportunities to scratch a trade gone wrong or add to a winner.  They may become emotional and wrapped up in each tick, eventually overreacting to small moves.  They may become risk averse, never looking to get bigger and exiting on the first whiff of movement against them.  They may become too aggressive and overtrade, adding to positions at poor levels.

It's when trades are on that our mindsets are likely to shift, our bodies are likely to go into fight or flight mode, and our trading psychology is likely to come out.  The skilled trader sustains the mindset during the trade that was key to planning that trade.  The skilled trader knows that as much P/L comes from managing the position as entering it.  A review of your trade management will likely serve as a useful review of your trading psychology and identify what you do at your best and what you need to do to get to that next level of performance.

Further Reading:  What Distinguishes Winning Traders