The Mental Battle…

July 30, 2008 at 10:08 am Leave a comment

By FX Insights

The Mental Battle…

From the time we started the FX Insights community for traders we’ve talked at great lengths about risk management, money management, learning the underlying fundamentals that move the market, etc. One area of trading we’ve not really covered is the mental aspect of trading this market. 

If you practice strict money management and don’t over-leverage your account, the market will not be able to take your money. If the market cannot “physically” take your money by you over-leveraging your account, it will try to “mentally” take it from you.

With the euro making a 1,000+ pip move against the dollar with almost no correction, I know for a fact these extreme market conditions are mentally beating up traders. When a strict money manager looses the mental game to the market they will begin making trades and decisions they wouldn’t usually make under “normal” market conditions. 

There have been a few occasions during my trade career that I’ve allowed the market to beat me mentally and each time it’s been costly. So based on my own personal experiences of allowing the market to get the best of my mind, here are a few signs you may want to watch out for… if you notice some of these same patterns or characteristics in your trading, you may be letting the market get the best of you mentally…

1. Deviating from your risk/money management plan… for example, if your risk management plan calls for you to use no more than 6%-8% margin at any one time and you find yourself “doubling down” to make up for your negative entries, the market is mentally deceiving you. It’s very easy to fall into the trap of thinking, “I can just make one more 2% entry…” because that one more entry will turn into two more, than three more, than four, and then you find your margin is squeezed and you are at the mercy of the market. 

2. Not cutting a loosing trade… while I do not advocate using stop losses, there is a point where I’ll cut a trade for a loss. The market will try to win the mental game by telling you to “just hang on a little longer, that position will come positive soon.” Knowing when to cut a loosing trade has been one of the hardest aspects of trading I’ve had to learn. Cisco is the master when it comes to cutting for a loss and then going the opposite direction to make double or triple of the loss he took. The more I’ve learned to read price action, establish tops/bottoms, and follow the market fundamentals, the more I’ve learned when it’s time to cut for a loss and take that freed up margin to go the opposite direction to cover my loss plus add profit. 

3. Trading counter-range… this simply means taking a long position at the top of a range or taking a short position at the bottom of the range. When the market has you beaten down mentally, you can be easily tricked into taking a counter-range trade because it deceives you into thinking, “ok, this thing is not going to stop running and is going to move another 100 pips before stopping…” The market does not move in a straight-line. Even with the EUR/USD running on a multi-year uptrend, it still corrects down. 

I remember one time in the spring I had a short position, it was on a Friday and the euro was doing its normal Friday thing of moving up all day. I panicked and cut my short for a loss on Friday afternoon thinking it was just going to keep moving up and up. By early Monday morning the euro had corrected down from the top of the range, and that loss would have come back positive and I could have closed it for profit. But because I didn’t understand the euro’s patterns and price action and I lost the mental battle, I took an unneeded loss. 

So this Friday we closed the trade week 2 pips shy of the all-time high. What would the smart trade be? Taking a long at 1.4392 because you think it’s going to move another 150 pips when the market opens at an all-time high? Or, taking a short because we know Friday’s are typically the euro’s strongest day, and because we know it typically makes at least a 50 pip correction when the euro hits an all-time high? If I was mentally beaten to the market, I might have taken a long thinking “it’s never coming back and I better get in now.” What I did was close all of my longs except for my best entry knowing there is a high probability we’ll have to at least go back to the 1.4300-1.4320 level. 

4. Not sticking to the basics… when I’ve mentally yielded to the market, I forget the basics and I deviate from my game plan. For me, forgetting the basics means overleveraging my accounts, not analyzing price action, not forecasting the market with the fundamentals, not communicating with my teammates, having a negative mental attitude towards my own abilities as a trader, and placing trades for the sake of being in the market just “hoping” those trades might make me some money. 

One of the keys to winning in this market and to hanging on to your profits is: consistency. One of the things I think that makes Cisco a great trader is the fact that he’s consistent in all that he does. He’s disciplined to the point where he remains consistent to his game plan no matter what the market throws at him. I cannot tell you how to trade your account. No one can or should tell you how to trade your account. That is something you need to determine on your own. Once you’ve established a winning game plan for how to trade your account and trade this market, the best thing you can do is to stay consistent even when the market is waging mental warfare with you. 

Winning the Mental Game…

How you win the mental war is something you’ll need to figure out on your own. Just as I cannot tell you how to trade your account and manage your money, I cannot tell you what you’ll need to do to win the mental game of trading. Only through time, experience, and suffering the pain of loss and the pain of trading this beast of a market will you be able to build your mental defenses and your mental “strike force” to combat the market. 

When we started training with Cisco last fall he put us through some interesting “mind games” the first few months. It wasn’t to be mean or malicious but more of test to see if we mentally had what it takes to trade this market. 

Suffering through drawdown is a great way to see the true measure and true character of a trader. I know a few traders who’ve totally lost it to drawdown and to the volatility of this market. It’s a shame to see those who could have been great traders loose the mental battle to the market. 

Right now, I think our FXI community is stronger than it’s ever been. We’ve had a lot of traders come and go over the past few months. Some have moved on with success while others have gone by the wayside. But it’s very encouraging to me because the core group of active traders we have now are clearly hungry to learn the market and to put in the time and energy it takes to be great at trading this market. 

This market isn’t for everyone. No matter what level of trader you are, it takes mental strength and disciplined consistency to win. 

-FX Insights


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Trade Team Update – – 7/29/08 Confessions of a CRAP Trader

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