Forex Trader Mentor

Newsletter  # 14

7th July2006

It has been a long time since I sent out the last Newsletter. I apologise about that, but I have been busy. The mentoring has occupied a lot of my waking hours and, of course, the market. Over the last few months, we have seen a market that really and truly is busy going nowhere. OK, we are seeing a general weaking trend in the dollar, but there have been many false starts.

The market was affected by news items that caused sharp up or down movements and then a return to where they were previously. It seems that the 'news traders' are really proving to have an effect on the market. This has had a bad effect on the trend traders, because the sharp movements can easily stop you out of otherwise good positions.

May was a month where this was happening a lot. I felt it on the 'model' EUR/USD portfolio, where the Fibonacci system just rolled over and died! I suffered a frightening 14% drawdown, which was at the very top of the win/loss probability calculator range. Nothing worked - despite good signals, I was getting stopped out. Luckily, I relied on the calculator and stuck to my system.

When I say 'model' portfolio, it is one that is based on all possible trades; that is, one where you would basically have to be awake 24 hours a day. In practice, that is impossible, unless you are working in a team with someone or can reliable have a broker execute your system. Does that exist? I have not heard of any very reliable services - maybe someone can tell me their experiences?

The GBPUSD portfolio has performed the best of the two, mainly because, in my opinion, cable is better suited to the Fib system. There are good movements after news events and these are quite frequent. Despite short-term choppiness, there are micro-trends that last a couple of days and stretch to 2-3 big figures.

The EUR/USD portfolio has not performed so well, and as I said, suffered from a massive drawdown in may. Happily, we have made up the loss. All the trades have been recorded and captured graphically, and I will be using them in training.

One thing I have noticed and subsequently modified in the system, is the trigger: Mark McRae originally said that the price had to be on the 'right side' of the 60 EMA. The trouble is, as I have observed, is that being too much on the right side can be detrimental. What I mean is that if the signal is too far under the 60 EMA (on a short trade), it usually fails. Why? Because the market tends to resolve to the average (naturally enough). So now the system shows a 'no trade' when the moving average is above the intial pivot point (on a downtrend).

It is fine that my clients modify the rules, as long as they apply them consistently. One such 'mod' has been to stop out the trade, if the price crosses the 60 EMA when a trade is 'live'. This requires manual intervention which could lead to becoming influenced by market events, so it is only for the experienced traders. Otherwise, when you put on a trade, set your stop and your limit orders and turn off the screen. 

(note: the graphs above represent a hypothetical trading portfolio and are not to be construed as actual results of trading. They are for training purposes only and what is more, past performance is no guarantee of future performance)

Trading Psychology -Part 2

(Part 1 appeared in Newsletter #12)

Trading Rules

There is a paradox with trading than many people cannot come to terms with, namely that although there is fantastic freedom in trading forex, one has to have a firm set of rules.

It is more important to know that you will always follow your rules than it is to make money. Otherwise, if you don't follow your rules, you will give your money back to the market.

Unrealistic expectations

Why do new traders have such unrealistic expectations about trading profits? Many of you will have had success in other areas (otherwise you would not have the financial resources to start trading). This gives you confidence in your ability to conquer this new environment where profits apparently come fast and easy. First, the idea that it is easy is the biggest single reason new traders fail, but not having the ability to control the environment (like they have been used to in their business) is also a major cause.

There are three concepts to get your head around -time, effort and expertise. The latter requires a lot of the first two, but compared to the normal efforts to work, these are at odds to expertise.

What is an unsuccessful trader?

There are 3 types of unsuccessful trader

1. One with a lack of skills

2. One who has limiting beliefs

3. One with lack of self discipline.

Limiting beliefs

I think it is odd that many traders I have known are incredibly sure that the rate is going up or down until the time they put on a trade and then they doubt it. Why is this? Its is because they suffer from fear - the fear of being wrong and the fear of losing money.

Trading fears

The large majority of trading errors come from traders' attitudes about being wrong, losing money, missing out and leaving money on the table.

How to trade

Before you start trading for real, you must get the principles into your head. You must build your self-trust so that you can operate in the unlimited world of the forex market. You must learn to execute trades perfectly. You have to train your mind to think in probabilities. You have to create a strong, unshakeable belief in your ability to be consistent,

There follows a subjective stage, for which mentoring will help tremendously and this is where your adherence to the above and your susceptibility to mistakes is monitored.

When you start trading and building consistent results, you enter an 'intuitive' stage in your development

Trust your system. It will give you a return over a several trades if it is one where the odds have been tested.  Be detached from the need to predict what the market will do next. It can do anything.

Set your trading rules for entry and exit. Predefine your risk. Know in advance the conditions that will trigger you to get out of a trade. By predefining and cutting your losses short, you are learning the best way to let your profits grow.

Execute your trade without fear and immediately an opportunity, signalled according to your system, exists. If it doesn't work, you will be out with your loss. Never mind. Look for the next signal and view that trade as a completely independent result.

This is actually one of the most difficult things to learn but it must be stressed that it is one of the most fundamental. I have met lots of analysts who could accurately tell where the market was headed, but could not execute the trade (through fear). They could not 'pull the trigger'.

You don't have to be right on every trade! Let your system do its stuff and exit the trade when it has reached the risk reward level that you defined. If it doesn't, well that’s tough this time around.

Big Lesson 2: Take responsibility. You are the one calling the shots here. When you want to enter and when you exit and how long you want to stay in. You cannot blame anyone, not the market, not the other traders, not the weathers, your luck -anything but yourself. Taking responsibility is a function of self-acceptance.

The more you experience in trading, the more you will see that trading is a mental exercise. It is not you vs. the market - It's just you!

The market

Forget about patterns repeating themselves exactly. Each single pip movement in the forex market is a unique event. Different traders with different amounts and different degrees of fear are causing them to act in one way or another at any particular time. Ok, a technical analysis pattern can indicate a certain stream of repeated events taking place, but trying to find out what happened leading up to the present moment to determine what the market will do next is 'mission impossible 

What I am saying here is that your system is a way of creating order for your mind in this sea of unpredictability, rather than a prediction of where the market is going. Allowing you to see a recognisable pattern

I will give you an example. In London, at a place called Hampton Court is a famous maze. A maze is a puzzle laid out in the form of paths separated by high hedges. There are many 'blind alleys', but there is a way to the centre and a way out. I remember being desperate as a child not being able to find my way out of the maze. (They even have attendants to go in at closing time to lead people out!) My maths teacher told me the 'secret' and since then, I have never had a problem with a maze. I have since been back and have helped people in and out. The secret? Just follow the right hand wall religiously (along all the blind alleys). You will find your way in and out of the maze. Amazing.

The same goes for the market. If you have an edge, something that improves your odds, you can deal with any situation.

Fear and Greed

The forex market is all about supply and demand. From a human perspective, this supply and demand is based on fear and greed. Why did our stone-age ancestors hoard away food for the winter? Fear of dying of starvation. Easily turned into greed - the need to have more than one's fair share. So the forex market is a place where the majority of participants are driven by fear - the fear of losing their wealth, the fear of missing opportunities, the fear of not making their budgets, the fear of losing their jobs if they make the wrong hedging decision. Other traders act as a force on prices in very logical ways, when you comprehend the logic of their fears. If you can transcend your own fears, you will see how the market truly works from another perspective.

Fear works at a personal level. For example, the fear of executing trades. Painful memories generate fear. To trade without fear means trusting yourself to accept any information the market is offering about itself and to trust yourself that you will allows act in your own best interests without think about it, immaterial of the conditions.

To be a successful trader you must trade without fear. When you use fear as a resource, you will create the conditions you are trying to avoid. Evolving beyond your fear is the best way to learn how to predict market behaviour

Over confidence

Traders who experience several winners in a row tend to get reckless. You need to limit yourself with self trust. Accumulating massive wealth quickly can lead to anxiety and frustration if you don't have the skills to keep it.

Self improvement

You have got to be open-minded about change and not resist learning. You will have to learn that the market is always right, and you can profit from that rightness by refusing to see its behaviour from the viewpoint of a rigid mental structure.

Release yourself from the fear of being wrong and see the market’s behaviour objectively. The danger here is that being afraid of being wrong will have the effect of making you wrong.

Open your mind and try not to block. Remember that to identify or change anything in your mental environment requires that you want to.

It is vital that you stay focused on mastering what you need to learn and not the end result, making money. This is because making money will be a by-product of what you know.

Mistakes are OK. How else are you going to learn? Nothing to be ashamed of or angry about.

The most important is that you commit yourself  to your education as a trader.

Getting what you deserve

Trading is all about accumulating money and all traders give themselves exactly what they deserve. To do this, you have to learn how to value yourself and believe that you deserve what you want and deserve what you get. Everything we do contributes to or detracts from our sense of self valuation.

Think in Probabilities

"But I do!" I hear you say. Sorry, but I beg to differ.

A probabilistic trading mind-set is made up of 5 fundamental truths:

1. Anything can happen

2. You do not need to know what is going to happen to make money

3. There is a random distribution between winners and losers for any given set of variables of the improved odds defined in the system.

4. These superior odds are simply an indication of a higher probability of one event happening rather than another.

5. Each moment in the market is unique.

Your expectations will be in harmony with the psychological realities of the forex market environment when you take these 5 truths on board.

Consistency

Putting on a winning trade or even a sequence of winners takes no skill whatsoever. What requires skill is the ability to get consistent results and avoiding giving your winnings back to the market.

Consistency is the result of having a carefree - confident but not euphoric - and objective state of mind. The goal is to open your mind to perceive and act on whatever the market is offering you in any given 'now' moment. Remember that now is the only moment that could ever count for anything. What is past is past and what will happen will happen.

An objective state of mind is where you have conscious access to all you have learned about the nature of market movement without it being blocked or changed by your pain avoidance mechanisms.

Euphoria

I bet you know or have heard or read of someone who appears to be able to 'walk on water' when it comes to trading. I have people call me and tell me that since they started trading, it just cannot go wrong.

Having a few good trades in a row can convince anybody that forex trading is easy.

I tell them to be careful - perhaps they should take their original capital out and invest it in something they can't liquidate quickly, such as property. Why? Because when you are ahead in a big way, you are least likely to be concerned with anything that might look like a problem. The problem here is that the care fee attitude leads to slap-happy trading, especially to traders with little experience.

They often have problems when they start to lose money, often because instead of trading 1 lot, they are trading 10. This is why it is important to set a budget.

The four worst things a trader can say:

Should have, would have, if only and could have. Yes, anyone can make money 'trading backwards' or 'trading in the rear-view mirror'. But life ain't like that. What has happened (or not happened) is history and you have to move on to the next trade. Forget about analysing the market behaviour for your mistakes (although you can benefit from analysing your own mistakes). Whatever you could have done, you can't do it now and conversely, you can't make something happen in the market in the future. Forget it! (Unless you have $5 billion to sell or buy). So there can only be the 'now' moment, for good or bad. Accept that and you're on your way.

Risk Management for online forex traders

Risk Management is traditionally thought of as having a complex statistical model to estimate your probability of loss under current market conditions.

I would like to introduce you to my definition of risk management. YOU are the biggest risk, so risk management is all about your actions.

One more time, we will go over it.

1. Use your system to find a profit opportunity

2. Define your risk for this trade

3. Enter the trade at exactly the point signalled.

4. Put on your stop.

5. Define your profit target.

6. Don't give a hoot on where the market is going. You know your risk. It is the cost of finding an opportunity.

7. Don't try and be 'right' of try to wish events to unfold in your favour.

8. Be objective - if the market information gives indications about itself that your trade is not going to work, close out the position. There will always be a point where the odds of success are heavily diminished compared to the potential profit of the trade.

9. Whatever happens next -you don't care! That was that trade-no retributions, no throwing out the system

10. Otherwise, go with the flow. Of course the trade is going to meet your target. Reached it? Yes? Does the market indicate that it could run to the next target? OK, set a trailing stop and sit back.

11. You deserve to make profit, so of course the trade is working for you. Your system produces a consistent edge, so whatever happens, it will make money over the long term, especially that you are following the rules.

12. Remember, you or anyone else in the market does not know what is going to happen next, but can you smell the fear of the other traders? Let them pretend to know what is going to happen next and make the screw ups that are going to give you money.

13. Made your money? Yes, that's what you expected, right. OK, look for the next opportunity, according to your system. Congratulations, you can now say that you are a consistently successful trader.