This morning I read an excellent post by Brett Steenbarger on his TraderFeed blog called “The Most Dangerous Word in the Trader’s Vocabulary.”
His post discusses a word which indicates that a trader is more concerned with his own market Fiction rather than the Truth of what that market is doing. I won’t tell you what the word is since you should read Brett’s post, however, I do want to talk about trading based on truth compared with trading based on fiction.
One of the dangers for new traders in a completely discretionary approach to trading is that the decision making process of discretionary trading can cause one to develop a focus on being right, on the reliability of one’s setups or high probability entries. For seasoned traders, who know that even the best setups go wrong at times, the high probability entry is seen as just that, an entry that mostly works; which implies that sometimes it does not.
For new traders, the times when the market does not move in a direction favorable to the setup or trade can be very challenging. They often equate an adverse movement with a breakdown in their decision making process. They fall victim to outcome bias and start judging their trading as poor when the outcomes are poor. If this was the extent of the problem things would not be so bad; however, it is the next step which can often be devastating to one’s trading account.
Many new traders, in an effort to protect their ego and psyche, start living in a fictional world where the market is supposed to respond to their clever analysis rather than doing whatever it actually does. In this fictional world, the market is predictable and reliable, therefore a good trader can always tell what the market will do. Trader’s who live in a fictional world, do not get out of the market when it hits their stop price, they move the stops to give the market time to correct to the “proper” level. They become married to their own analysis and ignore the truth of the market’s price action.
Seasoned traders, in contrast, realize that the market is the only truth. It does not matter what you may have planned, hoped, or decided should happen; the only thing that affects your account balance is what actually DOES happen. The market defines the truth. It is up to you to decide if you want to pay attention to this truth, or like many, decide to live in a world of fiction where great traders never have losing trades and where once you understand the markets, everything is easy.