Not all trades work out as anticipated, even when they appear to have all the characteristics of a solid trade setup. Remember, we operate in a probabalistic field. No matter how good the setup, there is still a probability that some trades will not work out.
Last week I was looking for gold futures (YG) to rally. We had many positive elements in our favor. The market had sold off sharply at the end of February, and was now showing signs that the selling was abating. The hourly chart had been making higher highs, and recent price action (at A) appeared to be a shake out followed by a strong rally (B).
The next day saw a light volume pullback to C and an intraday spring at C. This was followed by a rally to the top of the downtrend channel at D. As the trading day in the US came to a close, gains were being held. Overall, the market looked poised to at least test the recent high, and possibly go higher.
That was not to be.
Overnight, the market did rally higher, but came to a standstill at E. It was unable to climb above the last significant swing high on the hourly time frame. The next morning, it was clear that the market was likely making a lower high at E. Although we had not yet broken the lows of the day before at C, the way the market reacted down to F indicated that the move was not corrective and that supply remained dominate.
When the probabilities are clearly not working in our favor as here, we exit the trade. Traders who entered long on the spring and who were holding overnight had an opportunity just before the US open to exit with either a small loss or breakeven. Clearing the decks on a trade that isn’t working – even with a small loss – allows us to refocus on the market and look for the next trade. Now alert that the sell side was where money could be made, traders had an opportunity to initiate a short on the 5- or 10-minute chart as the market became overbought as the morning rally ended (not shown).
What makes a good trader good is the ability to recognize when a trade is not performing the way it should. This flexible mindset is what helps you cut losses early.
This is a great post because it demonstrates how we can learn from our losses. New traders especially do not recognize this opportunity to grow.
As we know, losses are part of the game, our goal is to keep them small relative to our winners. Easier said than done, but it’s possible. I say focus on managing risk and as you develop this ability, winning trades will take care of themselves.
Again, great article for people trying to learn how to trade. This is a prime example of how newer traders should evaluate their own performance.
Thanks Marc. I appreciate your comments. It seems like it is the hardest thing for traders to learn, but also the most important. You are absolutely right on managing risk. We have to be willing to take the small loss in managing risk. Well said.