Wednesday, October 1, 2014

Golden Key to every Trader's Dilemma

I was thinking of a common dilemma which most of us have faced at one time or another: You have a position that is going against you, but you still believe in the trade. On one hand, you don't want the loss on the position to get any worse, but, on the other hand, you are concerned that as soon as you get out of the trade, market will turn in favor of the liquidated trade (my personal experience!)
This conflict can cause traders to freeze and do nothing as their losses mount.

One of the most effective ways i have learnt over time is this:
If the market is moving against you, liquidate half of your position. You can always get in back once the movement turns in your favor. If you do that twice, you've liquidated three-quarters of your position. Then what's left is no longer a big deal (as compared to the original size of the position and corresponding loss.)

Taking partial loss is much easier than liquidating the entire position and provides a way to act rather than delay what you should do. Yet, most of us can't (or don't) do this. Why? Because partial liquidation absolutely guarantees that you will be wrong. If the market reverses, then you shouldn't have liquidated anything, and if it continues to move further against you, then you should have just liquidated the entire position. No matter what happens, you will be partially wrong.

The need to be 100% right prevents many of us from considering partial liquidation. Unfortunately, by trying to be 100% right, many of us end up being 100% wrong. And as I understand, that is not why we are here, to be 100% right, but to earn!

So the next time you are in such a situation, remember a third possible choice: partial liquidation!

P.S.
Trading holidays are coming, and for me, they are times to introspect and evolve as a trader, and as a person. Wish you the same, my friends!

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