Trading for a living is fundamentally different from retirement investing, or trading for supplemental-income. There’s actually a little bit of pressure that goes along with attempting to make your living from trading, especially if you’re not starting with a huge wad of cash. So if you want to trade for a living, and you don’t have a gazillion dollars to fund your account with, read on to learn a few of the principles that I have used in order to make, and sustain a decent living trading currency.
#1: Take Profit
That’s what trading is all about. Period. Taking profit. You’re not losing money by taking profit. Your account is not big enough to absorb and sustain drawdown, yet you’re trying to pay bills so you’ve got to get paid. At this point, the direction your account balance moves is of much greater importance than the speed at which it changes. Not to mention, there’s some unbreakable and unwritten law of trading that says when your account balance goes down, it drops much faster than you can make it go up. Don’t test this theory, accept it and let it put the fear of God into you. The idea is to quit while you’re ahead, every time you get ahead. Do not concern yourself with how far ahead. Taking less profit more, results in more profit.
When your balance has grown to something more substantial, you can endorse concepts like “let your winners run”. For now however, you just can’t. Doing so will cost you dearly. There’s nothing wrong with the idea that the vast majority of your trades are closed at break-even or just slightly above. In fact, with a small account this is desirable. You’re taking trades, but not losing money. I’m a huge fan of 10 pips. I’m a bigger fan of 5 pips. 2 pips will do nicely as well. A pip in the books is a pip earned. A hundred pips in open PnL is worthless until you take it. Your chances of success go up proportionally to the age of your account. Every day, month, year that you trade without losing your account increases the chances that you’ll end up where you want to be.
#2: Size Matters
Trade size. What a debatable topic. Everything is relative. The viability of your “system” is relative to your capacity to implement it properly. The amount of income your pips represent is relative to your trade size. With a small account and a “must-produce” scenario, a constant trade size relative to account balance simply does not work over the long haul. At least not with the degree of efficiency required to pay the bills, leading instead to step-forward/step-backward, sideways behavior in your account. Don’t get me wrong, I’m not advocating trading as big as you can, this destroys accounts. I am saying however, that you’re not going to pay many bills trading micro-lots. This goes hand in hand with #1 above. If you put a couple of standard lots on a trade with a $5k account, you had better be taking profit quickly. Margin Calls suck. If you are intent on 20 pips, 50 pips or more, then your size needs to be much smaller than you want it to be. A mini-lot for every $10k in your account. This will definitely grow your account, but not if you need to pay bills with it.
#3: Do something else
90% of a day trader’s day is spent NOT trading. You need a finish line, every day. Whether you make money, lose money, or break even, there must come a time every day when you are finished. Don’t trade because the market is open and you want to make money, trade because an opportunity that you are prepared to capitalize on has presented itself. These are fewer and further between than most people think. You’re undercapitalized and over-leveraged. In this situation, an impulsive trade is like arming a nuclear bomb in your trading account. There will be no recovery after it blows.
A higher level of risk has been assumed by trading larger relative to your account balance than anyone ought to feel comfortable with. This elevated risk must be offset as much as possible by a) reducing the trades you take to only the absolute most probable to succeed, and b) limiting exposure time in the market. If you’ve been between 2 and 5 pips in profit for an hour, CLOSE the trade. You’re finished.
One of the things I love most about trading, is all the glorious time off. Your reward for doing a good job, is to take the rest of the day off. Your punishment for screwing up, is to take the rest of the day off.
Seriously, how awesome is that? Maybe it’s awesome, but it can also be very hard for some traders to accept. For some, the “call of the charts” is powerful and the opportunities they present quite difficult to resist. Know and understand however, that resisting the urge to trade constantly is one of the skills that will make you tons of money.
#4: Deny loss
When your stop loss gets hit, it’s over. That is a loss, and nothing can be done to mitigate its effect on your capital. As capital declines, so does the efficiency with which you can recoup the loss. Only in very rare occasions do I use a stop loss, and even then it’s usually an in-the-money stop. My prevailing viewpoint is that if I feel the need to have a stop loss, then my level of conviction in the trade is not high enough to warrant taking it. Stops can create a false sense of security in the trader, implying that “it’s ok to lose this much money”. It is not. Trading without stops promotes increased selectiveness and more thorough planning. Just because there’s no stop, does NOT mean you don’t need to plan and prepare for a trade to go the wrong way. Your job is not to be right, it is to be profitable. While being right tends to make profit a little easier to realize, it’s just as easy to lose money when you’re right, especially with a small account and stop losses.
When a trade goes bad, there are options. Options that can save the money this trade is putting at risk.
Roll it over. The very first thing to determine, is whether or not you’re actually wrong, or if it just looks that way at the moment. Could you be early? Adding to a losing position is not the cardinal sin we are led to believe. Sometimes it’s just foolish, but skill in this regard can not only save you thousands in losses, but also earn you incredible profit.
Hedge it up. Hedging allows you to stop the bleeding and assess the situation calmly without actually taking the hit to your account. Often times both positions can eventually be closed in profit. US traders cannot hedge directly in the same account, but you can certainly open a trade in the opposite direction in another account, or use a proxy-instrument as a “soft-hedge”.
Wash it clean. You’re carrying a loss that’s out of hand. It’s not coming back, or if it is it’s just too long from now and you’re account can’t deal with it. If you’re not subject to FIFO regulations, washing is a rather simple affair. Hedge the trade and begin trading “inside” the loss. Take small trades and tiny profit. Each time you take profit “inside” this loss, close a portion of the original trade that is equal to the profit. Consider the following as a quick example:
1st trade 1 standard lot goes negative.
2nd trade 1 standard lot opposite direction – You hedge it at -10 pips for a running drawdown of -$100.
Now the washing begins. The idea is to make $100 before closing both of the above trades.
Wash: 3rd trade .5 lots, profit taken at 5 pips for $25.
Rinse: Close .25 lots of the original position and the hedge for a loss of $25. You have just washed 25% of your bad trade.
Repeat: do this 3 more times and you’re back to even.
Why not just close the position in the first place? Well, maybe you should. If you’re stuck with FIFO you’re going to have to. In this case you’re going to have to earn every dime you lost at the time the trade closed back before you’re even. Washing as described above though, keeps the loss capped while at the same time giving the original trade time retreat closer to your opening price. While not guaranteed, this means it’s possible for the amount you must wash to shrink while you’re washing it.
The bottom line is that you cannot afford to accept defeat. Unexpected consequences bring unexpected opportunities. Keep your eyes peeled for these when things go wrong, and no matter what, keep calm. Only action can help you, reaction will tend to make things worse. If you don’t think you can calmly handle things like adding to a loser, or washing trades, then it is paramount that you avoid these activities and simply close trades before they can get away from you. Often times though, just knowing there are options is enough to make the situation a little easier to handle.
#5: The Kung Fu of it all
At some point, we all want trading to be a “paint by numbers” endeavor. It simply is not. Trading is rife with subjectivity, and markets behave irrationally all the time. At its very core trading is somewhat counter-intuitive and in any case, an argument for any other case may be made. To succeed at this, you’re going to have to break the rules at times. You’ll need to discard conventional trading “wisdom” and all-to-familiar platitudes at the door. You’ll need to do it differently than everyone else, most of them are losing money. Sometimes it’s easy. Sometimes it is excruciatingly difficult and painful. Sometimes it’s pointless to argue with your chart, and sometimes it’s your gut you can’t ignore.
Good Kung Fu (and trading) requires harmony and balance in all things. Your trade size must be in harmony with your available capital as well as your profit target. Your dedication to following rules must be balanced with a willingness to break them. Your opponent cannot be knocked out. Understand that you must break him over the duration of the bout with well-placed and perfectly timed jabs. Search for weak spots and then go to work on them. When you find something that works, put a lever on it. When the market counters your moves, it’s up to you to counter the counter. Don’t complicate your existence. During this account-building phase, live simply. It is always easier to spend less than to make more. Also work simply. You’ll need to put considerable effort into keeping your trading as simple as possible. If you’re relying on 39 indicators and a math equation that crashes any computer more than 2 months old for a 5 pip trade, well, you’re toast.
Above all, you must remain realistic with regard to your trading. If you have expectations, trust me, they’re unrealistic. Throw them out. Don’t expect to make a lot of money, or lose a lot of money. Don’t expect things to be easy, don’t expect them to be hard. Expect them to simply be. When they do get hard, when things go bad, quit. Be done for the day. Or week, it doesn’t matter. You cannot allow trading to grind on you, to wear you down, because it can literally wear you out.
Kung Fu is dynamic, fluid and highly adaptable. The trader must also be dynamic and adaptable. Remember that everything is relative. As your account grows, you must also adapt your trading to remain in harmony with your growing balance. You can’t trade a $100k account the same as a $5k account, and you certainly can’t do the reverse. As your account grows, you will want to decrease risk relative to your equity. You’ll have the opportunity to broaden your approach to trading, and employ more quantifiable strategies. You can put on some longer-term trades and begin looking for bigger rewards.
You don’t even have to be good at this to grow a small account into a big one. You just need a good set of symbiotic principles to guide you through a repeatable process of accumulation. Growth is a side-effect.
At the urging of Mr. Booker and The Traders Podcast, as well as a shock-and-awe campaign unleashed on my Twitter account that would make H. W. Bush proud, I offer more of my views on the concept of allowance, as introduced in my Don’t Push the River post. In Episode 238, Rob asks if the idea of constant improvement is a myth, and whether or not it gets in the way of achievement. Oftentimes the result of efforts to constantly improve are seemingly opposite of what is desired. While the very concept of constant improvement seems counter to allowance, the two coexist and function quite harmoniously together. I am definitely a “constant improver”, and when I find a way to improve, I allow that improvement to remain constant. In simpler terms, when I find something that works, I get out of it’s F’ing way. I do not, ever, try to ‘fix’ or improve it. It works remember? The degree to which it (whatever it is) works, is largely irrelevant.
Rob gives an excellent example of a common trader pitfall. You have an trading system that is profitable, but you really want more trades than it produces. You set about your efforts to increase the number of trades the system takes, obliterating any profitability the approach had to begin with. Usually, the whole thing gets tossed out as fast as mucking with it vaporized your equity. From profitable “trader” to “veteran new guy without a plan”.
Instead, I say this: If you’ve got a trading system that’s profitable… Wait. Stop. Stop right there. If you have a trading system that’s profitable, then well, you have a trading system that’s profitable. It works. Forget how well it works, or how often it works. Get these irrelevant illusory measurements out of it’s way and allow it to do its thing. If you’re not satisfied with the number of trades it’s taking, then by all means, go about your search for additional trades; but do it while leaving this thing alone! At the very least it’ll give you some padding as you spend your precious capital on your continuing search for more frequent trades. Think in addition to, rather than in place of.
Here’s a personal example. I am a short term trader. I mean really, really short term trader. Many of my trades last only seconds. This is the way I like it. I like to be out, so I trade on 1 and 5 minute charts. However, I’ve got a particular setup on the one our chart that I take whenever I see it. I do so knowing full well that it’s probably going to take a frigging week to play out. That’s the thing. It plays out. Nearly always, it plays out. In this case, whether I like a trade that lasts a week is irrelevant. I’ve seen it work enough times, why would I not allow it to make a deposit into my account? It’s not a matter of do I want to trade the 5 minute or 1 hour chart. It’s not a question of scalping versus swing trading. It’s a matter of allowing myself to benefit from something I know works.
Everyone knows I’m a huge proponent of process. Allowance is definitely not a definable process or procedure, but it’s the final ingredient to any process. The last step in every procedure.
There’s actually a process for process:
- Design the process
- Follow the procedure
- allow for results
It’s really easy, and only natural for human beings to intervene between steps 2 and 3 of the “Process Process”, in an asinine attempt to elicit results that exceed what is expected or reasonable in accordance with the procedure.
My idea of allowance, is actually an augmentation to a very deliberate approach to life. It is a perspective. I endeavor to have a very specific reason and intent behind every action I take. Again while this may seem a little bipolar, there is a Yin and a Yang to it, a careful balance. I take deliberate action, then allow the result to unfold. What this means is that I don’t worry about too much. I’ve mixed all the ingredients and I’ve put it in the oven. The only thing left to do is allow it to bake. We have much less control over our own existence than we would like to believe. In other words, while we may have some degree of say in where we travel on the road of life, we are most assuredly NOT in the drivers seat. Life can be a crusty old cabbie that doesn’t take direction too well at times, so I prefer to just give him a general direction and let him take me for a ride, enjoying the scenery along the way.
When you accept that you’re not driving, you can take your hands off the wheel, and your eyes off the road. With a little freedom to look around, you begin to see all kinds of “points of interest” along the way that you were oblivious to before. It is exploring these opportunities along the way that will lead you out of your comfort zone. Out here is where all the magic happens, out here is where you’ll allow all sorts of new and fortuitous experiences into your life.
Allow change. You deserve it.
Change can be a real bitch. We desperately need it, we’re decidedly terrified of it. It’s what you seek, and it’s what you run from. Human beings thrive on change, yet we seek to insulate ourselves from it at ever opportunity. I am certain that there’s something you’ve wanted for a long, long time, that you don’t have. Maybe you’re even beginning to give up, to just accept that you’ll never have it, or aren’t meant to, don’t deserve it, aren’t qualified for, etc..
Your actions communicate your intent. There’s no magical force out there that wants you to fail. Earl Nightingale points out that we will always gravitate to our dominant thought. If this dominant thought is wanting, you create more wanting. Never exiting the state of want, and never recognizing what you have. Try taking a good hard look at what you’ve got as opposed to what you want. If you allow, whatever you’ve got tends to grow and change into things you may not even know you want yet.
A fantastic post Mr. Campbell. There’s some high level Pip-Fu in here. Indie-fish unite (for margaritas and music)!
I’ve been reading this book by Malcolm Gladwell titled David and Goliath…. The book attempts to bring to light the perceptions of advantages and disadvantages and how being the under dog may actually be the best starting position in any competition or pursuit.
The most interesting part of the book to me was chapter 3 which discussed in depth the theory of small fish:big pond vs. big fish:small pond. More specifically, was there an advantage to either and the example the book laid out was college selection. Was it better for a science major with above average test scores to to enter an Ivy league school, the little fish big pond, or take those same test scores and enter a “lesser” school but in doing so be the big fish in a smaller pond.
So which is better?
It’s best to weigh all of our options before I decide so…
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I’ve experienced a bit of blow-back from my Take your profit and run post here. First, let me tell you, this is awesome. I love feedback, it’s how I grow. I especially love contrarian feedback. It get’s even better when that contrarian feedback comes from other traders. Apparently most traders don’t do too well, so when people disagree with me in trading, or business in general, I take it as a sign I’m on to something.
After publishing “Cut your losers fast, and let your winners run (right into your stoploss)“, I was told it was the best advice I’d ever given. Then I was told it was the worst advice ever written. I was called a genius, and I was called an idiot. Multiple times in multiple ways. Some readers were relieved to read that someone else was content with single digit pips, others felt dumber after reading it.
Which camp are you in? Is this guy Matt, who actually trades, with real money, to pay real bills and support a real family with two real kids about to go into a very real college, an idiot or a genius? I’ll tell you right now that a genius I am not. It seems to me that being a genius would be a lot more work than I’m really interested in. I’m not an idiot though either. I understand simple concepts like 4 is bigger than 3, and they’re both bigger than zero. I also understand that this is about as much understanding as I need to make a living trading. Most importantly however, I understand that what I’m trying to do is make money. I’m not interested in being a “bad-ass trader”. I don’t care about picking a trade from top to bottom, or calling a high to the pip. I don’t care about timing entries and exits perfectly or setting personal pip records with each trade. All I care about (in trading anyway), is making money.
Yes, money is made in this business by letting losers stop out and letting winners go to their targets. Money is also made in this business by closing the losers before they become losers, and closing your winners before they hit their targets, because, well, it’s time to go to dinner, or go outside, or write a blog post or… For me, winning is just a side-effect of not losing. As long as the balance isn’t going down, it’s going up, and it’s easier for me to influence the speed at which it goes up with size rather than distance. Again, I am not after pips, I am after money.
I’ve lost track of this before. In a past-life I was so consumed with “learning to trade”, that forgot about making money. I’d take trades I didn’t want to, because the “rules” of the “system” I was using said to. I’d pass up opportunities the “system” said were not opportunities. I’d create rule after rule, attempting to refine and improve the “system”. What I didn’t realize, was that with each rule, I was also creating an expectation. In case your own trading account has not slapped you with this realization yet, the human psyche is particularly vulnerable to expectation, especially when they are not met. These expectations blur the line between what we want and what we need. Do you need a hundred pips, or do you need a thousand dollars? If you need a thousand dollars, would you reject a $20 bill? Do you want bragging rights or do you want more money in your account than yesterday?
In the end, whether I am a genius or an idiot, is irrelevant. What’s relevant is that I make money, I sleep like a baby, and every day is awesome.
One day, K’ung Fu-tse was standing at a distance from the pool’s edge when he saw an old man being tossed about in the turbulent water. He called to his disciples and together they ran to rescue the victim. But by the time they reached the water, the old man had climbed out onto the bank and was walking along, singing to himself.
K’ung Fu-tse hurried up to him. “You would have to be a ghost to survive that,” he said, “but you seem to be a man, instead. What secret power do you have?”
“Nothing special,” the old man replied. “I began to learn while very young and grew up practicing it. Now I am certain of success. I go down with the water and come up with the water. I follow it and forget myself. I survive because I don’t struggle against the water’s superior power. That is all.””
I don’t know about you, but my life is a lot like that waterfall, and the raging waters beneath it. You can fight the current until your exhausted and smashed against the rocks, or you can kick back and allow it to carry your where you’d like to be, or at the very least a great deal closer to it. As with the rest of life, this too is reflected with considerable magnification in trading. That price chart is a river baby, and what’s driving it is a force of nature way beyond your influence.
We all deal with experiences that are difficult. Sometimes it even feels like our entire world is crumbling around us. Somehow, against all odds we persevere. We get through it. We look back, and usually, nearly every time, we realize the whole ordeal wasn’t quite as bad as we thought it was. In fact, natural optimists that we are, we usually even find a “silver lining”. We may even feel a sense of pride in how the situation was handled, often with the realization that we are in a better position afterwards than we were before. We continually marvel at how things end up working out in the end. Until the next crisis, when we again hurl ourselves into a pit of despair to wallow for a time in in self-pity, frustration and anger.
I say stop it. Get off this merry-go-round and take a red pill. That is, accept the reality that you have a lot less control over your own existence than you want. Even more so than your existence in general, you’ve got absolutely no input on which direction that price chart is going, or how far. Now, this doesn’t mean you can’t have what you want, it just means you don’t get it just for wanting it. You’ve got to make a plan, and take action (preferably a series of simple and repeatable actions we like to call process).
You have a want, a desire, a place you want to be. You make a plan. You take deliberate action according to this plan. Now what? Nothing, that’s what. These actions have communicated our intent to the universe. Now it’s time to push that want, that desire, that place you want to be out of your mind. Earl Nightingale reminds us that we always gravitate to our dominant thought. If our dominant thoughts are of wanting, we create more wanting. We will not have, but remain in a state of want. Expectation creates more expectation.
The Chinese have a saying, “Don’t push the river”. Bruce Lee put his own spin on it when he said “Be like water”. You’re mom even told you when you were a kid, “honey, just go with the flow”. This doesn’t mean to be a cork in the river, utterly at it’s mercy. It does mean to understand the flow and work with it to maximize it’s usefulness to your own ends. Let the current do the work, harness it’s limitless power rather than subject yourself to it.
Have a little faith that things usually work out for the best, but this time don’t wait until after to find the silver lining. Take a deep breath and trust the plan you’ve made, and the action you’ve taken. All that is left is to get out of the way and allow the results to happen. You can either trust what you cannot see, or struggle against it. You’re not driving, so instead of fighting with the driver about the destination, kick back and enjoy the scenery along the way, knowing that no matter where the driver takes you, it’s going to be closer to your destination than you are now.
In Jet Li’s Fearless (what an amazing film), our hero has an wonderful conversation with his adversary about varying grades of tea. During this exchange, the point is made that when one is in a good mood, the grade of the tea is irrelevant. If the grade of the tea is irrelevant, a low grade cannot deteriorate ones mood. The tea is just tea. It is we, who grade it high or low, good, bad or somewhere in between. The fact is the tea has no concept of good or bad, high grades or low grades. It is perfectly happy being tea. In years of drought, it doesn’t bother fighting to produce epic quantities of tea leaves. It is perfectly content to work with what it’s got at the time.
This concept is repeated as much as any in trading circles.
“Cut your losses early, and let your winners run.” This comes from statistics that indicate most traders take their profits before they’ve reached their potential, but hold their losers open much longer; presumably with hope it’ll return to profit (or a more reasonable loss).
Looking back now, it is this trader’s opinion that this statement is quite the double-edged sword for a trader struggling with a diminishing account, or grow a small one (or a big one for that matter). The problem is that nowhere in this concept, of cutting your losses and letting winners run, is there any determination of the traders ability to recognize what’s reasonable in terms of taking profit. I’d wager that a hefty portion of struggling traders who are given this advise, only need the advise in the first place because they’re not accurately determining reasonable and attainable profit targets.
As a retail trader, it is important to remember that there’s nothing to actually “win” in the traditional sense of the word. The game is never “over”, with winners and losers. In fact, throw out that concept of winning and losing all together. There are no winners and losers. There are those that quit when they were ahead, and those that didn’t. I hear you, and you’re right. You’re never going to make any real money trading if you never take more than a pip or two. However, you’re never going to make any money at all until you stop losing it. A trade that spends all day at 80 pips profit, just to stop out at -20 because some banker got up on T.V. and shot his mouth off, doesn’t make money. Not to mention, how the trader feels afterwards, which is infinitely worse than had the trade stopped out at -20 immediately.
I found, that when I quit trying to “win money”, I immediately began to earn it. If you must employ the concept of “winning”, define a win as anything that is not a loss. When we realize our income is not satisfying our financial obligations, we often look for ways to save more, rather than earn more. The reason for this is simple. It is far easier to spend less than it is to earn more, and the results of spending less can be immediate and lasting. Earning more, on the other hand, often requires additional investment of time and money, leading to results that may or may not materialize at some arbitrary point in the future, at which time the increase in revenue may or may not translate into a solution to the original problem.
In Episode 149 of The Traders Podcast, I discuss the idea that success (at least my own) in trading has been a “side-effect of not losing money”. Contrary to what that nagging subconscious tells you when you see it on your charts, taking 7.4 pips of profit at the very beginning of a 200 pip rally doesn’t make you a doofus. It makes you a rock star. Do you know how many traders had their lunch stolen on that same move?
I catch flack for it all the time from other traders, but I can’t even remember the last time I let a trade go to it’s profit target. It’s even rare for me to let a trade get into the general vicinity of where I think it could go. If I open my platform, and see a green arrow on the chart, chances are I’m going to close it. You can laugh with me as I take it to the bank, but I recently closed a trade at 18 pips of profit, that went right through my “target” more than 100 pips further, within minutes of me closing the trade. I know that’s the exception though, rather than the rule. More often, if price hits a target that big, it means hours or days of meandering. I’m not the kind of trader that deals with that well. I’d gladly pay that 100 pips, for the opportunity to take 18 pips of profit and go fishing.
“Capital preservation” has been written about enough, but not taken seriously enough by many traders. This, is my job description. Take trades, don’t lose money. I no longer have pip-goals for days, weeks or months. Any time achievement of these goals is called into question, it drastically effects my ability to actually achieve it, and I’m sure this is so for many other traders as well. The bottom line is that the equity in your account is going to change. Before you focus on how fast it changes, make sure it’s changing in the right direction. Start laying bricks. Harness the power that comes from taking profit. Follow the advice of cutting off your losses quick, but don’t be afraid of taking fast, easy profit. Easy is what you want trading to be right?
Take that easy money for one reason. It’s easy. 10 pips pays the bills, 1000 pips pays for Prozac. Quit trying to wrestle a living out of the market, and instead be gracious about what it hands you.
I’d love to hear what others have to say on this subject,