by Mark Douglas
Learning more and more about the markets only to avoid pain will compound his problems because the more he learns, the more he will naturally expect from the markets, making it all the more painful when the markets don’t do their part. He has unwittingly created a vicious cycle where the more he learns, the more debilitated he becomes; the more debilitated he becomes, the more he feel compelled to learn. The cycle will continue until he either quits trading in disgust or recognizes that the root cause of his trading problems is his perspective, not his lack of market knowledge.
WINNERS, LOSERS, BOOMERS, AND BUSTERS
It takes some time before most traders either throw in the towel or find out the true source of their success. In the meantime, some traders manage to get enough right about trading to enter into what is commonly referred to as the “boom and bust cycle.”
Contrary to what some of you may have inferred from the example of the novice trader, not everyone has an inherently negative attitude and is therefore doomed to lose consistently. Yes, it is true that some traders do consistently lose, often until they lose everything or quit trading because they can’t tolerate any more emotional pain. However, there are also many traders who are tenacious students of the market and have a sufficiently winning attitude going into trading so that, in spite of the many difficulties, they eventually learn how to make money. But, and I want to emphasize this, they learn how to make money only on a limited basis; they haven’t yet learned how to counteract the negative effects of euphoria or how to compensate for the potential for self-sabotage.
Euphoria and self-sabotage are two powerful psychological forces that will have an extremely negative effect on your bottom line. But, they are not forces you have to concern yourself with until you start winning, or start winning on a consistent basis, and that’s a big problem. When you’re winning, you are least likely to concern yourself with anything that might be a potential problem, especially something that feels as good as euphoria. One of the primary characteristics of euphoria is that it creates a sense of supreme confidence where the possibility of anything going wrong is virtually inconceivable. Conversely, errors that result from self-sabotage have their root in any number of conflicts that traders have about deserving the money or deserving to win.
It’s when you’re winning that you are most susceptible to making a mistake, overtrading, putting on too large a position, violating your rules, or generally operating as if no prudent boundaries on your behavior are necessary. You may even go to the extreme of thinking you are the market. However, the market rarely agrees, and when it disagrees, you’ll get hurt. The loss and the emotional pain are usually significant. You will experience a boom, followed by the inevitable bust.
If I were to classify traders based on the kind of results they achieve, I would put them into three broad categories. The smallest group, probably fewer than 10 percent of the active traders, are the consistent winners. They have a steadily rising equity curve with relatively minor drawdowns. The drawdowns they do experience are the type of normal losses that any trading methodology or system incurs. Not only have they learned how to make money, but they are no longer susceptible to the psychological forces that cause the boom-and-bust cycle.
The next group, which consists of between 30 and 40 percent of the active traders, are consistent losers. Their equity curves are mirror images of the consistent winners’ curves, but in the opposite direction—many losing trades with an occasional winner. Regardless of how long they have been trading, there’s much about it that they haven’t learned. They either have illusions about the nature of trading or are addicted to it in ways that make it virtually impossible for them to be winners.
The largest group, the remaining 40 to 50 percent of the active traders, are the “boom and busters.” They have learned how to make money, but they haven’t learned there’s a whole body of trading skills that have to be mastered in order to keep the money they make. As a result, their equity curves typically look like roller-coaster rides, with a nice, steady assent into a steep dropoff, then another nice, steady assent into another steep dropoff. The roller-coaster cycle continues on and on.
I have worked with many experienced traders who have put together incredible winning streaks, sometimes going months without a losing day; having fifteen or twenty winning trades in a row is not unusual for them. But for the boom and busters, these streaks always end the same way—in huge losses that are the result of either euphoria or self-sabotage.
If the losses are the result of euphoria, it really doesn’t matter what form the streak takes—a number of wins in a row, a steadily rising equity curve, or even one winning trade. Everyone seems to have a different threshold for when overconfidence or euphoria starts to take hold of the thinking process. However, the moment euphoria takes hold, the trader is in deep trouble.
In a state of overconfidence or euphoria, you can’t perceive any risk because euphoria makes you believe that absolutely nothing can go wrong. If nothing can go wrong, there’s no need for rules or boundaries to govern your behavior. So putting on a larger than usual position is not only appealing, it’s compelling.
However, as soon as you put on the larger-than-usual position, you’re in danger. The larger the position, the greater the financial impact small fluctuations in price will have on your equity. Combine the larger-than-normal impact of a move against your position with a resolute belief that the market will do exactly as you expect, and you have a situation in which one tic in the opposition direction of your trade can cause you to go into a state of “mind-freeze” and become immobilized.
When you finally do pull yourself out of it, you’ll be dazed, disillusioned, and betrayed, and you’ll wonder how something like that could have happened. In fact, you were betrayed by your own emotions. However, if you’re not aware of or don’t understand the underlying dynamics I just described, you’ll have no other choice but to blame the market. If you believe the market did this to you, then you’ll feel compelled to learn more about the market in order to protect yourself. The more you learn, the more confident you will naturally become in your ability to win. As your confidence grows, the more likely that at some point you will cross the threshold into euphoria and start the cycle all over again.
Losses that result from self-sabotage can be just as damaging, but they’re usually more subtle in nature. Making errors like putting in a sell for a buy or vice versa, or indulging yourself in some distracting activity at the most inopportune time are typical examples of how traders make sure they don’t win.
Why wouldn’t someone want to win? It’s really not a question of what someone wants, because I believe that all traders want to win. Yet, there are often conflicts about winning. Sometimes these conflicts are so powerful that we find our behavior is in direct conflict with what we want. These conflicts could stem from religious upbringing, work ethic or certain types of childhood trauma.
If these conflicts exist, it means that your mental environment is not completely aligned with your goals. In other words, not all parts of you would argue for the same outcome. Therefore, you can’t assume that you have the capacity to give yourself an unlimited amount of money just because you have learned how to trade and the money is there for the taking.
A futures broker at one of the major brokerage firms once commented that when it comes to his customers, he lives by the motto that all commodity traders are terminal, and it is his job to keep them happy until they’re gone. He said this facetiously, but there is a lot of truth to his statement. Obviously, if you lose more money than you make, you can’t survive. What’s less obvious, and one of the mysteries of being successful, is that if you win, you may still be terminal; that is, if you win and you haven’t learned how to create a healthy balance between confidence and restraint, or you haven’t learned how to recognize and compensate for any potential you have to self-destruct, you will sooner or later lose.
If you are among those in the boom-and-bust cycle, consider this:
If you could redo every losing trade that was the result of an error or recklessness, how much money would you have now? Based on these recalculated results, what would your equity curve look like? I’m sure many of you would fall into the category of consistent winners. Now think about how you responded to your losses when they occurred. Did you assume complete responsibility for them? Did you try to identify how you might change your perspective, attitude, or behavior? Or did you look to the market and wonder what you might learn about it to prevent such a thing from happening again? Obviously, the market has nothing to do with your potential for recklessness, nor does it have anything to do with the errors you make as a result of some internal conflict about deserving the money.
Probably one of the hardest concepts for traders to effectively assimilate is that the market doesn’t create your attitude or state of mind; it simply acts as a mirror reflecting what’s inside back to you. If you are confident, it’s not because the market is making you feel that way; it is because your beliefs and attitudes are aligned in a way that allows you to step forward into an experience, take responsibility for the outcome, and extract the insight that’s been made available. You maintain your confident state of mind simply because you are constantly learning. Conversely, if you’re angry and afraid, it’s because you believe to some degree that the market creates your outcomes, not the other way around.
Ultimately, the worst consequence of not taking responsibility is that it keeps you in a cycle of pain and dissatisfaction. Think about it for a moment. If you’re not responsible for your results, then you can assume there’s nothing for you to learn, and you can stay exactly as you are. You won’t grow and you won’t change. As a result, you will perceive events in exactly the same way, and therefore respond to them in the same way, and get the same dissatisfying results.
Or, you might also assume the solution to your problems is to gain more market knowledge. It is always virtuous to learn, but in this case if you don’t take responsibility for your attitudes and perspective, then you’re learning something valuable for the wrong reasons—reasons that will cause you to use what you’ve learned in inappropriate ways. Without realizing it, you’ll be using your knowledge to avoid the responsibility of taking risks. In the process, you end up creating the very things you are trying to avoid, keeping you in a cycle of pain and dissatisfaction.
However, there is one tangible benefit to be gained from blaming the market for what you wanted and didn’t get. You can temporarily shield yourself from your own harsh self-criticism. I say “temporarily” because, when you shift responsibility, you cut yourself off from whatever you needed to learn from the experience. Remember our definition of a winning attitude: a positive expectation of your efforts with an acceptance that whatever results you get are a perfect reflection of your level of development and what you need to learn to do better.
If you shift the blame in order to block the painful feelings that result from beating yourself up, all you’ve done is put an infected Band-Aid on the wound. You may think you have solved the problem, but the problem is only going to resurface later, worse than before. It has to, simply because you haven’t learned anything that would cause you to make the kind of interpretations that would result in a more satisfying experience.
Did you ever wonder why leaving money on the table is often more painful than taking a loss? When we lose, there are any number of ways in which we can shift the blame to the market and not accept responsibility. But when we leave money on the table, we can’t blame the market. The market didn’t do anything but give us exactly what we wanted, but for whatever reason, we weren’t capable of acting on the opportunity appropriately. In other words, there’s no way to rationalize the pain away.
You are not responsible for what the market does or doesn’t do, but you are responsible for everything else that results from your trading activities. You are responsible for what you have learned, as well as for everything you haven’t learned yet that’s waiting to be discovered by you. The most efficient path to discovering what you need to be successful is to develop a winning attitude, because it’s an inherently creative perspective. Not only does a winning attitude open you up to what you need to learn; it also produces the kind of mind-set that is most conducive to discovering something no one else has experienced.
Developing a winning attitude is the key to your success. The problem for many traders is that either they think they already have one, when they don’t, or they expect the market to develop the attitude for them by giving them winning trades. You are responsible for developing your own winning attitude. The market is not going to do it for you, and, I want to be as emphatic as I can, no amount of market analysis will compensate for developing a winning attitude if you lack one. Understanding the markets will give you the edge you need to create some winning trades, but your edge won’t make you a consistent winner if you don’t have a winning attitude.
Certainly one could argue that some traders lose because they don’t understand enough about the markets and therefore they usually pick the wrong trades. As reasonable as this may sound, it has been my experience that traders with losing attitudes pick the wrong trades regardless of how much they know about the markets. In any case, the result is the same—they lose. On the other hand, traders with winning attitudes who know virtually nothing about the markets can pick winners; and if they know a lot about the markets, they can pick even more winners.
If you want to change your experience of the markets from fearful to confident, if you want to change your results from an erratic equity curve to a steadily rising one, the first step is to embrace the responsibility and stop expecting the market to give you anything or do anything for you. If you resolve from this point forward to do it all yourself, the market can no longer be your opponent. If you stop fighting the market, which in effect means you stop fighting yourself, you’ll be amazed at how quickly you will recognize exactly what you need to learn, and how quickly you will learn it. Taking responsibility is the cornerstone of a winning attitude.
CHAPTER 4
CONSISTENCY: A STATE OF MIND
I hope that after reading the first three chapters you are getting the idea that just because you are acting in the capacity of a trader, doesn’t mean that you’ve learned the appropriate ways to think about what you do. As I have already stressed several times, what separates the best traders from everyone else is not what they do or when they do it, but rather how they think about what they do and how they’re thinking when they do it.
If your goal is to trade like a professional and be a consistent winner, then you must start from the premise that the solutions are in your mind and not in the market. Consistency is a state of mind that has at its core certain fundamental thinking strategies that are unique to trading.
Experiencing a few or more winning trades can convince almost anyone that trading is easy. Recall your own experiences; think back to those trades that brought a stream of money flowing into your account when all you had done was make a simple decision to buy or sell. Now, combine the extremely positive feeling you get from winning and getting money with no effort, and it’s almost impossible not to conclude that making money as a trader is easy.
But if that’s the case, if trading is so easy, then why is it so difficult to master? Why are so many traders at their wits’ end, grappling with the obvious contradiction? If it is true that trading is easy—and traders know it is because they’ve had the direct experience of how easy and effortless it is—then how can it also be possible that they can’t make what they’ve learned about the markets work for them over and over again? In other words, how do we account for the contradiction between what we believe about trading and our actual trading results over time?
THINKING ABOUT TRADING
The answers are all in the way you think about it. The irony is that trading can be as much fun and as effortless as your experience of it has been on occasion; but experiencing these qualities consistently is a
function of your perspective, your beliefs, your attitudes, or your mindset. Choose the term you are most comfortable with; they all refer to the same thing: Winning and consistency are states of mind in the same way that happiness, having fun, and satisfaction are states of mind.
Your state of mind is a by-product of your beliefs and attitudes. You can try to create consistency without having the appropriate beliefs and attitudes, but your results won’t be any different than if you try to be happy when you’re not having fun. When you’re not having fun, it can be very difficult to change your perspective to one where you, all of a sudden, start enjoying yourself.
Of course, the circumstances of your situation could suddenly shift in a way that causes you to experience joy. But then your state of mind would be the result of an external shift in conditions, not a result of an internal shift in your attitude. If you depend on outside conditions and circumstances to make you happy (so that you always are enjoying yourself), then it is extremely unlikely that you will experience happiness on a consistent basis.
However, you can greatly increase the possibility of your being happy by developing fun-type attitudes and, more specifically, by working on neutralizing the beliefs and attitudes that prevent you from having fun or enjoying yourself. Creating consistent success as a trader works the same way. You can’t rely on the market to make you consistently successful, any more than you can rely on the outside world to make you consistently happy. People who are truly happy don’t have to do anything in order to be happy. They are happy people who do things.
Traders who are consistently successful are consistent as a natural expression of who they are. They don’t have to try to be consistent; they are consistent. This may seem like an abstract distinction, but it is vitally important that you understand the difference. Being consistent is not something you can try to be, because the very act of trying will negate your intent by mentally taking you out of the opportunity flow, making it less likely that you will win and more likely you will lose.