A losing trade.

As a trader, just the thought probably sends shivers down your spine.  Right?

In fact, think about the last loss you took.  Or think about the last bad day you had.

How did it affect you?  How did you make sense of it?


From a rational, no-skin-in-the-game perspective, we all know that losses are just a part of the trading game. After all, if you don’t have losses, you’re not taking risk. And, if you’re not taking risk, you can’t win.

Yet, it’s not that simple. In fact, for most traders, the hardest part (by far) of trading is dealing with loss.

Clearly, losses are just a fact of trading life. The key issue is how we deal with and make sense of losses.

And, frankly, HOW you deal with your losses will be a MAJOR differentiating factor in whether you fail, have moderate success, or have an incredible career as a trader.

That’s the focus of this article.

First, I’m going to discuss several NEGATIVE ways traders tend to interpret and deal with losing trades. You will probably relate to at least a few of these.

Then, I’m going to discuss 8 SOLUTIONS so that you can re-frame and better manage trading losses.

 

Negative 1: The Shock & Surprise Effect

On an intellectual level, you know trading losses are inevitable. However, many traders take on a feeling of surprise (or sometimes even shock) when a loss comes.

Why is that? Why would it cause surprise? I mean, you placed a trade. Doesn’t that mean you accepted the risk?


Actually, there is a BIG difference between TAKING risk and ACCEPTING risk. When you’re surprised by a loss, it’s because you confused the two concepts.

You see, placing a trade is simply taking risk. Accepting risk (truly accepting it) would mean that prior to the trade you were fully comfortable with the dollar amount you were putting at risk in exchange for the quality of the opportunity the trade offered.

In other words, if you had genuinely accepted the risk, you would have decided prior to entering the trade that you were “OK” if you lost X dollars, knowing that amount of risk was worthy of the opportunity at hand.

Negative 2: The Loss Avoidance Effect (part 1)

Have you ever moved or cancelled a stop just before it was about to be hit? Most of us have a time or two. But, if this is a common habit, it’s ESSENTIAL that you dig into this issue because it can be an absolute account KILLER.

In fact, I would say this is the number one reason a trader would have a “catastrophic” day. For example, I’ve seen people turn what should be a $200 loss into a $5000 loss. I’ve seen people blow out their entire account. I’ve even seen people lose tens of thousands of dollars because they get “stuck”.

Why is this? Why would an otherwise intelligent person put themselves through this?


It’s very simple really. Taking a stop GUARANTEES you’re going to lose. And, even if it’s just a small amount of money on one individual trade, taking a loss brings up a lot of emotion (we’ll get to this later in the article).

Moving the stop, on the other hand, offers HOPE. Maybe, just maybe, this trade will turn around. Maybe, just maybe, you can get back to even. I mean, how many times does it feel like you get stopped out, only to see the market go back in your direction?  So maybe, just maybe, this will be one of those cases.

And the thing is, sometimes it even works! Sometimes you can get back to even. However, it’s feeding a VERY dangerous habit. And, eventually, it’s going to wipe you out.

Additionally, behavioral economists have determined that our brains typically assign 2.5 times the weight to a loss than to a gain. In other words, we’re “wired” to find less pleasure in gaining $500 than the pain we feel when we lose $500.

Negative 3: The Loss Avoidance Effect (part 2)

The most common type of loss avoidance (not wanting to take a loss at all) was discussed above.

However, there is another sub-set of this concept.

It’s trying to avoid anything but the smallest of losses. This manifests when traders only want to take (for example) a 2 or 3 tick risk on an ES trade…or when a trader moves their stop to break-even as soon as a trade goes just a few ticks in their favor.


Yes, doing this will avoid ever taking anything but a very tiny loss, and sometimes you can legitimately get away with a very tight stop, but the majority of the time this style will result in small losses piling up…which leads to a down-angle P&L statement anyway.

Negative 4: The Downward Spiral Effect

This is the negative I’ve most had to overcome in my personal trading. It’s when a bad decision (or bad results) compounds and leads to another bad decision…which leads to another bad decision…which leads to a a big losing day, which leads to a feeling of self-loathing.

It’s almost an out-of-body experience. The day ends, and it’s a feeling of “how did that just happen to me?”.

This typically happens when you’re entirely results-focused at a moment in time. So, for example, you take a loss. Then, the thought is simply “get it back”. That need to get it back can lead to forcing a trade. If that trade is also a loser, then the emotions start to heat up. Now, you REALLY have to get it back. Guess what? That can lead to more forcing of trades, which leads to more emotion, which totally spirals out of control.

Some traders experience this over the course of several days. So…bad day. Then another bad day. Then, the focus is “make it back” and it leads to another bad day. Next thing you know, you’re down a significant portion of your account.


Another manifestation of this downward spiral effect is over-trading or increasing position size. In other words, you take a loss, so now you double your position size. If that loses, you double again. Etc.

Why does this happen? A lot of times, it’s because you’re a competitive person. Maybe you’re a former athlete. Bottom line, you “hate” losing and you want to do everything in your power NOT to lose. While that competitive spirit is helpful in a lot of ways, this tendency is a double-edged sword.

We’ll discuss several solutions to this problem later in this report.

Negative 5: The Shut-It-Down Effect

Some traders, upon taking a loss, will simply go into a shell. They’ll avoiding taking a trade the rest for the day…or maybe the rest of the week…or in some cases I’ve heard of it lasting months or even years.


To a certain extent, it’s not a horrible plan. I mean, you’ll never have a “big” losing day if you shut it down at the first sign of trouble.

But, it’s ultimately not healthy to your trading. You want to be able to “pull the trigger” when the situation calls for it. You don’t want to pass on premium opportunities due to fear of loss.

Why is this?

Once again, it’s likely the emotional relationship a trader has with the concept of loss. We’ll discuss this in more detail later.

Negative 6: The Suppress & Re-Direct Effect

Some traders have a “suppression” instinct.  In other words, rather than feeling and processing their emotions…especially around the concept of loss…they tend to hold the emotions in.

Here’s the thing: at some point, there has to be a release. Usually it’s re-directed at the wrong thing. For some people, maybe it’s drinking or eating too much. Maybe it’s taking it out on your spouse or kids. Maybe it’s…who knows…there are a million options.


The point is, we’re humans. We’re emotional beings. This belief that as traders we have to “suppress” our emotions is garbage.

What we have to learn is to observe and then process our emotions so that rather than making unconscious (and typically negative) decisions, we come to our decisions from a conscious (and typically positive) place.

Solutions

So, you can probably relate to at least a couple of the “negative” reactions to loss above. If you feel like I’ve missed some, I’d LOVE if you wrote a comment below.

With that said, let’s look at some solutions. These solutions should be applicable for any of the effects above, though you might find some more relevant to you than others.

Solution 1: Assess The Type Of Loss

Generally speaking, there are two types of losses.

One is simply a loss based on the probabilistic nature of trading. In other words, you followed your plan and took a good trade. It just lost. That happens.  If the loss was this type of loss, then try to have a short memory and just move on. Try not to let it affect you at all.

If, however, you have trouble just “letting it go” then I highly recommend actively trying to “re-train” your brain.

It’s a little goofy (I’ll admit), but it works. Next time you take a “good” loss, literally celebrate. Stand up. Clap. Cheer. You get the point. Literally re-wire your brain that following your plan and taking intelligent trades is your job…and you just did your job well. The loss is just part of the job. Nothing more, nothing less.

There is another type of loss you have to be able to assess, however, and this one requires more self-awareness and introspection. If you took a loss because you took an impulse trade or because you deviated from your evidence or because you ‘forced’ a trade simply to get your money back, etc, etc, then you have a major issue that you have to deal with immediately.

You have to re-internalize who you are as a trader. You have to re-train your brain that YOU don’t take those kind of trades. You have to nip this problem as soon as it crops up. Otherwise, it spreads and it’s a killer.

They key point is to begin to understand the DIFFERENCE between a “good” loss and a “bad” loss. You want to learn to ELIMINATE the “bad” losses and CELEBRATE the “good” losses.

Solution 2: Fully Accept The Loss

Again, we all know we’re going to take losses when we trade. But, there is a big difference between knowing that losses will happen and truly ACCEPTING that you just took a loss.

Why is accepting a loss so critical? Because not doing so is usually the catalyst that pushes traders toward their worst habits. Not accepting a loss is typically what leads to either being afraid to take the next trade or being so intent on getting your money back that you force bad trades. Not accepting a loss is what can lead to the “downward spiral” effect.


How do you accept loss?

One, remind yourself that losing is simply part of the deal. That alone can sometimes snap you out of the trance.

Two, I recommend a pre-trade “exercise” of sorts. I realize this goes against the idea of “positive thinking” but I really think it’s worth it.

To do it, just before you place a trade, imagine a near future where you’ve just taken this trade and it was a loser. Really think it through and really try to “feel” the loss. Try to place yourself in that reality for a moment. Then, imagine what your thoughts will be at that time.

Are you going to look back and say “that was a good trade…even though it lost, I’d take it again”?  If so, you need to pull the trigger on this trade.

If, on the other hand, your thoughts are likely to be “why the hell did I just take that trade…it was so stupid” then it’s a clear sign you need to have the discipline to step away from this particular trade and wait for a better opportunity.

Solution 3: Understand Your Deep Emotions Around Loss

What are your emotions around loss? What does the concept of “loss” represent to you?

Think back to your childhood.

Was losing a little league baseball game a sin in your dad’s eyes? Were you told “losing is unacceptable!”

Did you ever lose a loved one?

Do you have the belief that losing = failure?

Do you worry what others will think of you if you “fail” at trading? What is your spouse going to think of you? What about the friends you’ve told?

What’s going to happen if you can’t “make it” at trading? Do you have to go back to the day job?

There are many other possibilities of course. The point is, there is a LOT of emotion that surrounds the concept of loss.

For some of us, these emotions get so powerful that it’s almost like the next trade is life or death. It’s like the next trade is a referendum on your entire life.

But think about that: If every trade is a referendum on your entire future, the pressure is overwhelming.

It’s nearly impossible to succeed under those conditions.

I liken it to walking across a gymnastics balance beam or walking across a wire.

At ground level, most of us could walk across a balance beam without even thinking about it. There’s no pressure!

Put that balance beam 10 feet in the air (where falling would cause an injury) and most of us would struggle.

Put that balance beam 100 feet in the air (where falling would be fatal) and most of us would completely freeze or panic.

It’s VERY important that you take some time (like maybe even right this minute) to think about these emotions…as uncomfortable as they may be. If you don’t understand these emotions, they’re going to keep popping up…and they’re typically going to cause you a lot of pain.

The key, as we’ll discuss below, is to re-frame and “de-energize” the emotions around loss.

Solution 4: Re-Frame The Meaning Of Loss

As mentioned above, loss in trading is typically representative of a bigger “hidden” meaning. And, after you become more aware of what that is, the easier it is to “re-frame” what loss NOW means to YOU.

Let me give you an example that’s helpful to me. I think of a loss as a business expense. Some people think of it as “tuition”.

By thinking of it as a business expense, it doesn’t have to carry so much emotion. It doesn’t have to lead to disaster.

 

I mean, if you owned a successful bakery, would you freak out about the cost of dough or the cost of ovens or the cost to power the ovens or the payroll cost or the advertising cost?

Of course not. You would know it’s all part of your business plan.

 

It’s the same here. Losses are expenses. Trading is a business. Expenses are unavoidable in business.

That particular “re-framing” concept of looking at losses as a business expense works for me. It will probably work for you. But, maybe there is a better example for you.

The key is actively and consciously re-defining the meaning of loss to yourself.

Solution 5: Remind Yourself Trading Is NOT An Easy Profession!

I think this is an important step. Taking a loss simply proves that trading isn’t always easy.

I mean, if you think you’re going to sit in front of your computer and click a couple buttons for an hour and walk away with 5K every single day, without exception, you’re not being realistic.

— >> Trading is hard.  And that’s a good thing!

After all, if trading were easy, then anyone could do it. And if anyone can do something, there is no longer any money to be made.

So, just remind yourself that it’s not always going to be easy.

And remind yourself that trading successfully requires a LOT of mental toughness. It just does.

Solution 6: Actually Learn From Your Loss
This is another simple, but still very important, concept.

If you look at a loss as a failure, there is not opportunity for growth.

If, on the other hand, you look at a loss as an opportunity to learn, it’s simply an investment in the future.

There is a BIG difference emotionally between those two options.

So, try to learn from each loss. Maybe it was just the nature of the game and it was an acceptable loss. However, maybe there was a lesson you could have learned. Maybe there is a clue you could use to avoid a similar loss in the future.

Solution 7: Plan Ahead For The Next Loss

You will have another loss. So, it makes sense to have a plan.

I call this a “fire drill” in fact.

 

It’s like when you were back in school and they made you practice a fire drill. It’s best to know what you’re going to do ahead of time so you don’t have to try to make tough decision under duress.
It’s the same thing in trading. Try to understand what might “set you off” or cause you to fall into a bad habit. That way, you can know what to do the next time it happens.

For me, it’s taking a couple losses in a row. This can have a tendency to put me in the “red zone” and if I’m not careful I can spiral out of control. So, rather than let that happen, I’ve built up the awareness (like a fire alarm in my mind) that tells me I need to take action. Typically a 15 minute walk will do the trick. If not, I have to leave for at least an hour.

Yes, I might miss a good trade while I’m away, but the most important part is that I’ve avoided potential catastrophe.

Solution 8: Focus

This might be the most important lesson of all. Almost all bad habits around loss are the result of a focus on making/losing money.

Gotta hit your daily goal? That’s a money focus.

Gotta get your money back after that loss? That’s a money focus.

Begging the market to turn? That’s a money focus.

You get the point.

The problem is, if you’re focused on money, you’re almost guaranteed to lose it.

The key is to focus on your PROCESS. The key is to focus on making the best DECISION you can, right now, based on the information you have.

Do that, trade-after-trade, day-after-day, and the results (the money) will take care of itself.

Conclusion:

I hope you’ve found this helpful. Hopefully you’ve found at least a few concepts or tactics that you can apply.

I’d love to hear your thoughts.

Did I miss any negative effects?

Do you have any other ideas?

Thanks!
Niels