Nassim Nicholas Taleb
I'd definitely add delusion to Mr. Taleb's list.
The money and asset management industries work overtime to confuse you about money. They take advantage of your misunderstanding of the time value of money, the power of compounding (both positive and negative), of your aversion to learning for yourself, of your childish need to be “right,” your aversion to even the word risk, and, most of all, of your conflicted, highly emotional connection to money.
It’s been an extraordinarily profitable way of doing business for many years.
You can do better.
If you'd like to improve your trading performance (in other words make more money), change the way you go about your business. Here are 7 areas worth your consideration:
- The amount of money you make on any one trade has nothing to do with whether or not you're a good trader. Zero… Zilch… Nada. Its purely incidental… or perhaps, coincidental. Being a good trader is a little like being good at card games. Black Jack… Poker… Professional card players aren't better or worse than anyone else at the actual games, they just have a better understanding of event probabilities. And they're FAR better at controlling what they lose (risk management). If you adopt nothing else from their good habits, take that.
- Every trade, win or lose, fundamental or technical, begins the exact same way. Whether a trader enters because his favorite indicator flashed a signal, the price/earnings (p/e) ratio reached a level indicating “value,” or the trader flipped the proverbial coin, each trade starts the same way. A trader perceives an opportunity, decides to take it and allocates a portion (or in the most foolhardy circumstances, all) of his capital to taking advantage of the trade. In every case, the outcome chooses itself… it has, at best, a tangential relationship to the reason for entering the trade in the first place. I know you thought your super secret methodology was the reason you’ve experienced a run of winning trades. Trust me… it isn’t. Write this down… “The market does what it does…” You can’t predict the market’s movements with a high degree of accuracy. Further, the longer the time period under examination, the harder it is to say with any certainty where a security or market will be at the end of said period. You can, however, do the same thing you do with respect to today’s weather forecast… take an umbrella.
- If you control your risk on a trade, you've done something magical. Most people pay attention to the shiny baubles that a big winning trade represents… never asking the seminal question… “how much did you need to risk to get that big win?” Made a few thousand dollars on Facebook? “Yay… look at me the big trader.” The BSD… Never mind that a modest downside gap at the outset would have destroyed your account. Just doubled up in GOOG and only need a small move to the upside to get back to even? Be sure to email me every time you take a trade because that martingale approach is eventually going to break you and make the trader on the other side of your trades a fortune. When you control your risk, you’ve taken the first and most important step to extending your time in the game. On the other hand, if you allow your risk to get out of hand (i.e., exceed reasonable levels) like the GOOG trader above, no matter what the reason, you have behaved irresponsibly. You will eventually be taken behind the wood shed... for a bit of re-education.
- Along with #3: if you’re willing and able to minimize the absolute dollar value of your risk on each trade, you have taken the second gigantic step toward consistently profitable trading. Don’t believe me? Think about the weird math of loss and recovery… I have several friends who watched their retirement accounts get halved during the Great Recession… those well diversified mutual funds took the elevator to the basement just as quickly as many individual stocks… more quickly than many.
- There's a big difference between absolute and relative return performance. Relative returns are those championed by Wall Street. They are the returns delivered by mutual fund portfolio managers in comparison to a given index... like the Dow Jones Industrial Average for example. Absolute returns are just that... they are the returns generated on your asset base without regard to the asset’s performance. For example, if the Dow Jones Industrial Average is down 10% for the year and Fund X is down 7%, Fund X is said to have relative outperformance if it is benchmarked against the Dow Jones. However Fund X’s absolute performance is still negative 7%. That’s why the running joke among traders focused (and paid) on absolute performance is that those evaluated relative to their benchmarks should be paid in relative dollars.
- If money is an emotional issue for you, you've just put your finger on a big part of the problem in your trading. No one who has an emotional problem with houses is good at building them. Put your emotional challenges where they belong, and focus on seeing your trading process as a tool to help you obtain more means.
- Like many important, professional endeavors, trading has its own vocabulary. It won't take you long to learn what the words long, short, bid, ask, risk, position sizing and expectancy mean. But it will probably take a substantial amount of time to make those and others related to trading a true part of your trading dna. Invest the time and effort. Understanding and incorporating the definitions and principles into who you are as a trader will allow you to “just play” at game time as opposed to constantly thinking about your next move.