Why the Most Successful Traders Have the Most Losses

Photo by Gilly on Unsplash

Everyone knows the trading axiom: ‘cut your losses and let your profitable trades run’. Yet so many traders have a hard time sticking with it.

In fact, this issue has its own name: the disposition effect. Several studies have found that investors have the tendency to hold onto losing positions longer than winning ones. Their loss aversion leads them to take risk-seeking actions.

Many profitable approaches to trading (including the Duomo Method — the one I use) take advantage of asymmetric opportunities. This means the amount you’re putting at risk if you lose is lower than the amount you’re set to gain if the trade succeeds.

In practical terms, this means the price needs to move further for you to exit the trade with a profit than it does for you to exit with a loss. Inevitably, this means you are most likely going to encounter more losing trades than profitable trades. However, the expectation with this sort of approach is that you will succeed often enough to be net profitable overall; you have some sort of edge in the market.

But trading in this way can only succeed if you execute each trade according to your overall plan. If a trade is in profit, you have to leave it alone until your system dictates that it’s time to exit. You can’t hesitate and close a trade early just to avoid missing out on the gain.

Likewise, if a trade is moving against you, you can’t adjust your stop loss to avoid it being triggered or convert a short-term trade into a longer-term investment just to avoid the dreaded loss.

Easier said than done

The problem is, a lot of traders can accept and understand this conceptually, but struggle when they have to execute it. It’s fine when things are going well, but as soon as they go through a losing streak, they begin to deviate from the plan. Unfortunately, losing streaks are not just likely — they’re expected.

The traders that manage to succeed are the ones who can overcome their instincts and prioritise being profitable over being ‘right’. In most situations in life where there are two outcomes: win or lose, we will strive to be the winner. As a trader, you have to abandon the need to be a winning trader in favour of being a…