As F. Scott Fitzgerald so perceptively noted, “personality is merely a series of gestures.” Our internal strengths and weaknesses are only publicly manifest by our actions. In trading, ignoring what we think is prudent – fading the obvious – is often the best directional decision. Seasoned traders will refer to it as the “hard trade.” Here are some useful insights I’ve gathered through self-examination:
Perhaps No Element of Speculation is Harder Than Staying with a Winning Position
Every now and then – with the past two months and certainly more frequent than usual – a move occurs so quick and so out sized that I scratch my head wondering at not only who is still milking the trend but in the seemingly late stages, but who is pressing it even further. A perfect example is this recent break in oil. Many of us shorted oil at various stages thinking the parabola was over done.
Certainly many of those shorts on the way up were losers. Nothing wrong with anti-trend fades as long as we use tight stops. But when the market finally rolled over after besting $140 a barrel who could envision a collapse of $100 in just over four months. Is there a discretionary trader alive who can short oil at perhaps even at the all time high prices and stay short catching the last $40 of the move? Often our brains aren’t the best chart.
A Major Affliction of Traders – Really All Decision Makers – is Recency Bias
We tend to weigh what just happened as a better probability bet than considering a wider sample of possibilities. In itself, homage to fresh information isn’t a bad thing. After all, quickly identifying the pertinent, dominant market pattern is a key to success. The trouble though for traders is trying to decipher when a trend hasn’t just retraced but flat out reversed. In a recency biased mind, if a market climbs three fold over a few years with only token rotations off successive new highs, then we’ll become conditioned to cover shorts or initiate longs on those shallow pullbacks.
How to Determine the Trend is Changing
When a market is rallying – and some of these stock, currency and commodity markets were rallying for years – it requires a flexible historian to consider that one of these breaks could be dramatically more significant than normal. A trend changer. How do we know? The simple definition of abnormal is deviance from the normal. If you trade EUR, then you should know that it had been three years since the EUR had rotated more than 700 pips off a high or equally long since a violation of the 55-day moving average occurred. The moment the Euro violates those criteria, a light should click on causing you to consider, “maybe we’re in a new world.” Certainly some participants will be repositioning in accordance to the new dominant fractal and the effect of their selling may produce a plunge in prices.
Getting the Most Out of Moves of Historical Magnitude.
If you’re short and the market begins a breakdown uncommon to recent activity – bearish action- then give your shorts added benefit. Move your stop down to a key moving average that has also began its descent. As much as possible don’t cover into short term weakness unless you’re agile enough that you’ll reload on either a bounce or breakdown.
You should treat a cover much like you would a new counter direction position. The old adage is true that “no position is a position” but no position on a winning call is then by the same logic a de facto loss. In the midst of a big historic move traders think a few common thoughts. “The market has gone too far too fast – if I go with the trend this late in the move I’ll probably get stopped out – I can easier identify support as the market breaks than identify resistance on the retracement bounce.” Recognize those thoughts as rationalizing your failure to make the elusive hard trade.
Taking Profits After a String of Losses
A hurdle we must all fight is the yearning to take too soon a profit following a string of personal losses. Chances are if you make a series of attempts selling a bull market, a few of those shorts had some level of quick lived profitability. Equally probable is that after the ensuing stop out you chided yourself for not banking a profit when you had the chance.
That mental conditioning will effect your management of what ultimately becomes the true reversal trade. Because adverse ticks in the past led to further upside action you’ll now view retracements against your still profitable short as harbingers of those prior losses. These are exactly the times you need to pay extra attention to emotional impulses attacking your trading plan.
Stop Taking Revenge
A natural human reaction to the disappointment of leaving money on the table is to trade in the opposite direction of your original position. If you were short at great levels and booked a premature profit you may risk emotional destabilization if the market continues its plunge without you. Too often we try to eliminate the feeling of frustration at missing the move by attempting quick counter direction fades. This class of revenge trades will be among your primary capital burners. We know statistically the trend is our friend yet we all too often lose money trying to pick short term tops and bottoms. Is it because we’re argumentative contrarians? Surely independent thinking traders are too frequently wise guy but usually we do things with a certain statistical reasoning in mind. Just keep an open mind to all possibilities.
As Jesse Livermore said, “it wasn’t my thinking that made me money but my sitting.” Great trades are hard to come by. Recognize those rare opportunities, maximize their potential and make quantum leaps in your returns.
Kurt J. Eckhardt has been trading since 1982 when he began his career as an active floor trader in the CBOT Treasury Bond pit. Kurt is President of Eckhardt Research and Trading and its subsidiary Agility Trading. Agility offers both individuals and funds cutting edge technical strategies along with high performance instruction. For more information go to www.agilitytrading.com or email Kurt at email@example.com.