That really is a challenge, because sometimes the trade idea itself will be wrong. In such a situation, it can be difficult to distinguish between normal adverse movement and just plain being wrong. The fear of failure and loss makes it easy to cut the winning ideas short or stop out of eventual winners. As I recently tweeted, conviction in our trades matters little if we lack the courage of our convictions.
So how do we deal with this discomfort and overcome the fear of failure? Here are three approaches:
1) Adjust the Trading - We're accustomed to thinking about how our mindset affects our trading, but how we trade also impacts our psychology. When we extend our holding period, we are increasing the variability of our returns. In essence, holding trades longer is sizing up. If we trade too large over a longer holding period, the adverse movements may not be tolerable. We need to size positions so that they will matter if they work out, but won't debilitate us if they don't. We can't win the game if we can't stay in the game. A second trading adjustment is that I will put on small size initially and only add if I see growing evidence that a top/bottom has been put into place. I'm not trying to call precise tops and bottoms. If I am anticipating a good move in the market, I don't need to capture every tick. Finally, I find it helpful to distinguish between the trade and the idea underlying the trade. The trade is simply a way to structure good risk/reward in pursuing the opportunity of the idea. If the trade doesn't work out, I want to stay on the front foot intellectually and ask myself what I would need to see to re-enter the market. That's only possible if the initial trade is sized moderately, giving room to re-enter. In short, we want to trade with full awareness of the possibility that this particular trade may not work out, so that stopping out is not failure, but an opportunity to reevaluate the idea.
2) Adjust the Body - I'm a big fan of using deep breathing and visualization exercises to prepare for adverse outcomes. The idea is to visualize what we're afraid of in vivid detail (getting stopped out, for example) while we do two things: a) breath deeply and slowly and keep ourselves calm and focused; b) continue the visualization to include how we would deal with the stop out, how we would talk to ourselves, etc. This trains mind and body to not overreact to setbacks, normalizing our responses and making it easier to accept losses as part of a bigger picture of winning. Performance anxiety occurs when fear of outcome interferes with the process of doing. If we can train ourselves to not overreact to negative outcomes in our pregame preparation, that training carries over to our actual performance. When trades move against us, we can take deep breaths, place ourselves in a state incompatible with anxiety, and then visualize how we will deal with the situation. The key is normalizing setbacks so that they don't feel like catastrophes.
3) Adjust the Attitude - It's important to get to the point where it's possible to embrace our losses, because those can be our greatest learning opportunities. Our losses are there for a reason. They can teach us to become better. Perhaps we need to improve our trading ideas. Perhaps we need to improve how we express those ideas as trades. Perhaps we need to improve our sizing and management of the positions we enter. Perhaps it's our lifestyle and states of mind/body that need work. What can we take away from losing that will bring us to winning? If we can use our losses to study our game in greater detail and make incremental improvements in our processes, then those losses are no longer threats. They are our teachers. We won't overreact to losses if we can embrace them. We are fallible. We will fall short at times. Those can be great opportunities to start again, smarter and wiser.
Very often, traders will have good ideas but will set stops so close that they never participate in the anticipated movement. They are playing to not lose, not to win. Their journals reflect frustration, not learning. It's one of the paradoxes of performance that we are ready to win when we are no longer threatened by loss.
Further Reading: Keeping Spirits Up When Drawing Down
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