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Saturday, October 01, 2005

Basics Principles of trading (Advertorial 3)

To operate effectively in any trading environment, you need rules and boundaries to guide your behavior. It’s a simple fact of any trading, no matter what "system" you’ve developed, that the potential exists to do financial damage to ourselves — damage that can be greater than we think is possible. There are many types of trades in which the risk of loss is unlimited. To prevent the possibility of exposing ourselves to damage, we need to create an internal structure in the form of specialized mental discipline and a perspective that guides our behavior so that we always act in our own best interests. This structure has to exist within each of us because the market doesn't provide it for us.

The markets provide structure in the form of behavior patterns that indicate when an opportunity to buy or sell exists. But that's where the structure ends — with a simple indication. Otherwise, from each individual's perspective, there are no formalized rules to guide behavior. There aren't even any beginnings, middles, or endings as there are in virtually every other activity we participate in.

This is an extremely important distinction with profound psychological implications. The market is like a stream that is in constant motion. It doesn't start, stop, or wait. Even when the markets are closed, prices are still in motion. There is no rule that the opening price on any day must be the same as the closing price the day before. Nothing we do in society properly prepares us to function effectively in an environment with no real boundaries.

Even gambling games have built-in structures that make them much different from trading – and a lot less dangerous. For example, if we decide to play blackjack, the first thing we have to do is decide how much we are going to wager or risk. This is a choice we are forced to make by the rules of the game. If we don't make the choice, we don't get to play.

In trading, no one (except yourself) is going to force you to decide in advance what your risk is. In fact, what we have is a limitless environment, where virtually anything can happen at any moment and only the consistent winners define their risk in advance of making on a trade. For everyone else, defining the risk in advance would force you to confront the reality that each trade has a probable outcome, meaning that it could be a loser. Consistent losers do almost anything to avoid accepting the reality that, no matter how good a trade looks, it could lose. Without the presence of an external structure forcing the typical trader to think otherwise, he is susceptible to any number of justifications, rationalizations, and the kind of distorted logic that will allow him to get into a trade believing that it can't lose… which makes determining the risk in advance irrelevant.

All gambling games have specified beginnings, middles, and endings, based on a sequence of events that determine the outcome of the game. Once you decide you’re going to participate, you can't change your mind — you're in for the duration.

That's not true of trading. With trading, prices are in constant motion, nothing begins until you decide it should, it lasts as long as you want, and it doesn't end until you want it to be over. Regardless of what you may have planned or wanted to do, any number of psychological factors can come into play ― causing you to be distracted, change your mind, or get scared or overconfident. In other words, you can behave in ways that are erratic and unintended.

Because gambling games have a formal ending, they force a participant to be an active loser. If you're on a losing streak, you can't keep on losing without making a conscious decision keep playing (and losing.) The end of each game causes the beginning of a new game, and you have to actively put more of your assets at risk by reaching into your wallet or pushing some chips to the center of the table.

Trading has no formal ending. The market will not take you out of a trade. Unless you have the appropriate mental approach to end a trade in a way that is always in your best interest, you can become a passive loser. Once you're in a losing trade, you don't have to do anything to keep on losing. You don't even have to watch. You can just ignore the situation, and the market can take everything you own.

One of the many contradictions of trading is that it offers a gift and a curse at the same time. The gift is that, perhaps for the first time in our lives, we're in complete control of everything we do. The curse is that there are no external rules or boundaries to guide or structure our behavior. The unlimited characteristics of the trading environment require that we act with some degree of restraint and self-control, at least if we want to create consistent success. The structure we need to guide our behavior has to originate in your mind, as a conscious decision that will guide your actions.

You Need Rules

Almost everyone who is interested in trading resists the idea of creating a set of rules. The resistance may be subtle, but it’s still there. People may agree that rules make sense, but most have no intention of consistently following logical rules. Why?

Most of the guidelines we live by was given to us as a result of our upbringing and is based on choices made by other people, like our parents, relatives, teachers, or friends. Our guidelines were instilled in our minds but did not originate in our minds. This is a very important distinction. In the process of instilling structure, many of our natural impulses to move, express, and learn about the nature of our existence through our own direct experience were denied. Many of these denied impulses were never reconciled and still exist inside of us as frustration, anger, disappointment, or guilt. The accumulation of these negative feelings causes may people to resist anything that keeps us from doing whatever we want, whenever we want to.

It may seem odd, but the very reason we’re attracted to trading, (the unlimited freedom of choice and decision-making inherent in trading), is the same reason we feel a natural resistance to creating the kinds of rules and boundaries that can appropriately guide our behavior.

The need for rules may make perfect sense, but it can be difficult to generate the motivation to create these rules when we've been trying to break free of them most of our lives. It usually takes a great deal of effort to break down the source of our resistance to establishing and abiding by a trading regime that is organized, consistent, and reflects prudent money-management guidelines.

You Have To Take Responsibility

Trading can be characterized as a personal choice with an immediate outcome. Remember, nothing happens until we decide to start; it lasts as long as we want; and it doesn't end until we decide to stop. All of these beginnings, middles, and endings are the result of our interpretation of the information available and how we choose to act on our interpretation. Now, we may want the freedom to make choices, but that doesn't mean we are ready and willing to accept the responsibility for the outcomes. Traders who are not ready to accept responsibility for the outcomes of their interpretations and actions will find themselves in a dilemma: How do you participate in an activity that allows complete freedom of choice, and at the same time avoid taking responsibility if the outcomes of your choices are poor?

The reality of trading is that, if you want to create consistency, you have to start from the premise that no matter what the outcome, you are completely responsible. Not the market, not the economy, not world events – you.

The way to avoid responsibility is to adopt a trading style that is, to all intents and purposes, random. Random trading can be defined as poorly-planned trades, or trades that are not planned at all. Random trading is an unorganized approach that doesn’t allow you to find out what works on a consistent basis and what doesn’t.

Randomness is unstructured freedom without responsibility. When we trade without well-defined plans and with an unlimited set of variables, it's very easy to take credit for the trades that turn out to our liking, because in our minds we used some kind of method, however poorly defined. At the same time, it's very easy to avoid taking responsibility for the trades that didn't turn out the way we wanted, because there's always some variable we didn't know about and therefore couldn't take into consideration beforehand.

If the market's behavior were truly random, then it would be difficult if not impossible to create consistency. If it's impossible to be consistent, then we really don't have to take responsibility. The problem with this logic is that our direct experience of the markets tells us something different. The same behavior patterns present themselves over and over again. Even though the outcome of each individual pattern is random, the outcome of a series of patterns is consistent and statistically reliable. That may seem like a paradox, but it’s a paradox that can be overcome with a disciplined, organized, and consistent approach.

Many traders spend hours doing market analysis and planning trades for the next day. Then, instead of making the trades they planned, they do something else. The trades they make are usually ideas from friends or tips from brokers. By making unstructured, random trades, they are able to avoid responsibility.

Why? When you act on your own ideas, you put our abilities on the line and get instant feedback on how well your ideas worked. It's difficult to rationalize away any unsatisfactory results, since they’re the direct results of your effort, logic, and ideas. On the other hand, when you enter an unplanned, random trade, it's much easier to shift the responsibility by blaming your friend or broker for their bad ideas.

The nature of trading itself also makes it easy to escape the responsibility that comes with creating structure in favor of trading randomly. Any trade has the potential to be a winner, whether you’re a great analyst or a poor one, and whether you do or don't take responsibility. It takes a lot of effort to create and follow a disciplined approach that will make you a consistent winner. It's very easy to avoid the mental work required to follow a disciplined, logical approach… and that’s why most people do.

You Have To Be In Control

Most of us are brought up so we'll function well in society, so we've acquired thinking strategies for fulfilling our needs and desires that are geared toward social interaction and acceptance. We don't just take what we want – we take other people into consideration, too. Not only have we learned to depend on each other to fulfill our needs and desires, but in the process we've acquired many socially-based techniques for assuring that other people behave in a manner that is consistent with what we want.

The markets may seem like a social endeavor because there are so many people involved, but they're not. While we may have learned to depend on each other to fulfill basic needs, the market environment is different: it’s every person for themselves.

Not only can you not depend on the market to do anything for you, but it’s extremely difficult to manipulate or control anything that the market does. If we've become effective in our personal lives at fulfilling our needs and desires by learning how to control and manipulate our environment, but as traders are in an environment that does not know, care, or respond to anything that is important to us, what does that mean? It means we’re in control.

One of the principal reasons so many successful people have failed at trading is that their success is partly attributable to their superior ability to manipulate and control their social environment. To some degree, all of us have learned or developed techniques to make the external environment conform to our needs and desires. The problem is that none of those techniques work with the markets. The markets don’t respond to control and manipulation, unless you're a very large trader.

However, we can control our perception and interpretation of market information, as well as our own behavior. Instead of controlling our surroundings so they conform to our idea of the way things should be, we can learn to control ourselves. Then we can perceive information from the most objective perspective possible, and structure our mental environment so that we always behave in a manner that is in our own best interest.

"What Takes Some Successful Traders A Lifetime To Achieve Could Take You Just A Few Days... Or Less!"

Get these reports for free

Advertorial 1 - Introduction
Advertorial 2 - The Basics of Analusis and Rational Trading
Advertorial 3 - Basic Principles
Advertorial 4 - Characteristics of Successful Traders
Advertorial 5 - Playing to Your Strenghts, Overcoming Your Weaknesses
Advertorial 6 - Winning Psychology
Advertorial 7 - Avoiding Common Pitfalls
Advertorial 8 - Sound Money Management
Advertorial 9 - Trading Systems
Advertorial 10 - Final Words


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