I don’t know about you, but I’m sick to death of getting stopped out. I know that it can be a necessary evil … but there are other ways to trade. (Like binary betting, which I covered in detail at the end of last year.) But I’ve also been exploring a different solution …
Arbitrage.
I touched on this subject just before Christmas, and I know that many Maven readers were fired up by the thought of being able to use what’s often thought of as a high-end trading technique with a common-garden spread-bet account.
And I’m pretty excited about the strategy I’ve uncovered, too …
Arbitrage is the process of creaming off profits from hedged trading positions – so you’ll open two trades that have been carefully matched by the correlation of the two instruments.
Perhaps you’ll buy shares in Company X, and sell futures on the same shares …
Or you’ll by one gold-mining stock, and sell another …
Or buy EURUSD and sell GBPUSD …
You get protection from being long and short in very closely matched markets (if prices go up or down, one trade will make what the other loses). Your profits come from knowing which direction to place the long/short trades.
There are plenty of charts and pieces of software that you can find on the Internet to give you figures on the correlation of different instruments – and it’s exactly these correlations that an “arb” trader needs to be on top of.
If you’re a stats fiend, then this kind of number crunching will be right up your street. If you’re less keen on trawling through figures – you’ll want to find someone who’s prepared to do it for you!
Which is why, when I came across a new arbitrage system last year, that did all the hard work for you, and had simplified the entry and exit criteria down to the barest bones – my interest was piqued.
I’ve been following this system for some months now, with cracking results. I wanted to get over the Christmas period, which never gives the most accurate insight into trading performance, so I’ll be reporting on my findings very soon. Please watch out for my full review in the next week.
How to manage a losing trade
Of course, whether we use stop losses, or binary betting, or hedged trading … there will always be times when our trades go against us.
And how we react when trades go against us, highlights how we’re doing as traders.
I like to think that I’m a reasonably experienced trader … that I have a fair idea of what I’m doing. But still, this is what I sometimes do (less often than I used to!) when a trade goes against me …
(See if you can spot the error!)
… I follow my trading rules and enter a trade … the market quickly moves against me … I don’t like it, so jump out of that trade, minimizing my losses.
When I go back to check on how the trade would have gone … well, you guessed it … soon after I’d bailed out, the market turned back in my favour.
If I’d stuck to my trading rules, I’d have taken a profit on the trade, instead of the loss I’m looking at.
Why do I sabotage my own trading strategy?
Why, after all these years, do I still sometimes go into panic mode when a trade goes against me?
Let’s examine some of the thought processes while my open trade is showing a loss that lead me into my sabotage behaviour …
– I’m frustrated. Why is this happening to me? This always happens with these trades! (Invariably, when I’ve calmed down, I can clearly see that this doesn’t always happen.)
– I’m angry. This is someone’s fault – either the system developer has lied to me, or my broker is cheating me, or (worse still) it’s my own fault!
– And most debilitating of all is the feeling of doubt … perhaps this strategy doesn’t work … I’ve been wasting my time … perhaps I should throw it in the bin …
As you can see – just having a trade move into negative territory (something that happens so much of the time in trading) can send us spiraling into very negative thought processes.
So, what should we do when this happens?
The first thing to do is: NOTHING. Keep following the trading plan on the open trade. If our trading plan tells us to close – then do that. If it tells us to keep it open – then do that.
Trading decisions are a lot like revenge – best served cold.
Don’t make decisions to tweak a strategy or to throw it on the scrap heap while you’re in the midst of a losing trade.
Let the trade play out.
Look at the results in the cold light of day.
Then make your trading decisions.
Take a look at the trading track record and ask yourself the following questions:
– Is it proving to be profitable over the medium/long term? All trading strategies will have ups and downs, so can’t be judged without looking over the longer term.
– What kind of success rate should you be expecting? And are you achieving that success rate? Take a look at the historical success rate – does that seem in line with the results you’re achieving? (Bear in mind that you’ll need to use a strategy for a reasonable length of time to make this judgment call.)
– What drawdowns should you expect? Can you handle them? If a system tends to suffer big drawdowns, even if it’s profitable in the long run, it’ll be a roller-coaster ride for anyone who’s trading it. Do you have pockets deep enough (and a stomach strong enough) to take this?
– Have you tested the system thoroughly enough? If you’re suffering severe doubts about the validity of your strategy, perhaps you haven’t demo traded it for long enough to build up your confidence.
– Are you staking too high for your comfort? This is one of the most common reasons for throwing out an otherwise perfectly profitable trading strategy. If trades running into a loss are too uncomfortable, it’s very likely that you’re staking too high. Try reducing your stakes to steady your nerves.
And finally, before you make any changes to your trading strategy, test them thoroughly to ensure that you’ve “fixed” the problem, otherwise we can find ourselves flitting from one flawed system to another, never pinpointing what’s actually working and what isn’t.
