How many traders have snatched profits in their trading careers? How many of you have closed trades based on your P&L as opposed to closing based on your charts? Have you closed a trade to ‘protect’ your profits all the while being almost certain that price will still move further in your favour? Conversely, how many of you let losses run to your full stops (or maybe even further!) when you know you are wrong but are ‘hoping’ the market will turn?
We all do it. I did it. A lot. Even the best traders will most likely at some point have battled through this problem. No one is immune to it. In my early days of trading I didn’t actually even realise just how much it was costing me.
When I started keeping statistics of my trades (more on this later!) I found that on some months I was costing myself as much as 30-40% in terms of the number of pips I should have banked if I let the trades hit my targets in comparison to what I actually did bank. Winning periods were greatly reduced, breakeven periods could have been small winning periods and losing periods would have been greatly reduced.
So why do traders suffer from huge tension when it comes to letting profitable trades ride?
One hugely influencing factor is the phrase ‘A trader can never go broke taking a profit’ that has been consciously or subconsciously planted into a traders mind. Whilst a profitable trade is always nice to have, everything needs to be taken into context.
For example, if you have a risk reward of 2:1 (risk 2 to make 1) with a win rate of 75%, then for every 4 trades you take, you will lose £2 and make £3. Thus you will come out ahead. However what happens in this situation if you start taking profits early. Even with the same win rate, if you only take 2/3’s of your initial target (£0.66) then over 3 winning trades, you will break even. If you snatch profits even quicker, at say half of your initial target, then now you lose £2, and only make £1.50, despite having such a high win rate.
Let’s flip it around. Say you have have a risk reward now of 1:2 (risk 1 to make 2) with a win rate of 50%. Over 4 trades, you lose £2 and make £4. If you snatch your profits at 75% of initial target, now for the risk you initially took, your reward is only £1.50. If you snatch your profits at 50% of the target, now you’re only break even on what should be a hugely profitable outcome.
Usually traders will recite a mantra of sorts trying to convince themselves they will not snatch profits, let the trade ride out. They will have rules and sections dedicated to this issue in their trading plans, however more often than not, despite their best intentions they still close the trade well before they should.
So why do we do this?
The answer lies in essentially the way our brains are wired to operate. Many, many generations ago, our ancestors may have been in a forest gathering fruit and vegetables for the family. Suddenly a hungry bear appeared, and was rather interested in all the food that had been picked. At this point, the humans have 2 choices. They can either run away, fleeing for their safety and leaving the food for the bear, or they can fight, and try and save the fruits (quite literally!) of their labour. This response is more commonly known as ‘fight’ or ‘flight’.
This response is created virtually instantaneously, immediately influencing our emotions, feelings, thoughts and fears. Furthermore, research has shown that human beings can have as many as 60,000 negative thoughts a day, and this totals to 80% of our total daily thoughts (so leaving only 20% as positive..!).
So why are these two points significant?
Human beings are naturally wired to focus on the negative in their surroundings more so than positive aspects. It’s not to say that one cannot shift this with practice, but here we are just referring to a natural tendency. The reason for this is pretty obvious, in that a negative situation or potential outcome is a greater danger to us than any positive situation or potential outcome. Thus every candle against our direction of trade on the charts represents ‘danger’.
To put it into perspective, let’s say you take a trade with a 50 pip target. The price moves to +25. At this point, how many traders would think ‘what if I lose this 25 pips’ as opposed to ‘what if I gain another 25 pips’?
Traders will tend to focus on the former, the potential to lose the 25 pips that the market has moved in their favour. Thus this thought process now registers a threat in their minds, a threat of loss. Traders then experience fear, feelings of loss, negative emotions, panic and fear that the trade will reverse and go against them and in most cases will make an impulse decision to close the trade.
This is one of the main reasons traders struggle to become profitable. Humans are constantly fighting this wiring in the brain that has been there for thousands of years. It’s like trying to make your way forward whilst battling a gale force headwind.
So this doesn’t sound too great! Is it possible to change this?
Yes of course, and this is proven by the successful traders showing that with a correct understanding of the issue, it can be done. What you need to do is essentially reprogram your neuro-associations that you currently hold in relation to fear of loss and uncertainty when it comes to holding winning trades. But before you can reprogram you mind, you first need to understand what associations you currently have in place and understand why they have formed, and how they serve and impact your life both in and out of trading.
Only after this can you begin to create new associations for yourself and create more positive behavioural patterns.
If you would like to understand more about this and would like assistance in breaking negative associations and replacing them with more productive ones, please get in touch with us to book in a private coaching session where we can help you.
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God bless, and happy trading!