Forex Trading – Death by a Thousand Cuts

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Forex Trading – Death by a Thousand Cuts

Death by a thousand cuts – I love that analogy but experiencing that is really painful! There was a stage in my career where I actually experienced it and reading the book «Hedge Fund Market Wizards» by Jack Swagger it just brought back the memories of it so I thought I’d share it hoping it might save you the pain!

So let’s get into it, let me explain:

You get into a trade, for example’s sake let’s say «short», and it begins moving against you. You’re disciplined, you’re strong, you’re patient and you won’t get out just because its moving against you. You’re willing to give it time to work. OK, so it creeps up and stops you out. Fine, its just a trade. You don’t feel bad about it, however you still have the same trade idea and feel that the stoploss positioning was incorrect. So you re-enter the trade! Then… You get stopped out AGAIN… You «rinse and repeat» a couple of times with the same result. This is the experience called «death by a thousand cuts». Its not that you’re fighting the market, its that price is still within your «short sell zone», however you’ve kept your stops too tight! You haven’t let your trades breathe.

So now that we’ve identified the problem, lets find the cause then look for a solution. In most cases the cause of this is that we do our risk management based our pain threshold. What does that mean? It means we place our stoploss at a level where, if price gets there, we get out because we cannot take more pain rather than it being a technical level which would invalidate our trade idea. Read that again, place your stoploss at a technical level that will invalidate your trade idea, rather that naively risk managing it to what your pain threshold is. The market doesn’t care about your pain treshold.

So whats the solution? Take the following approach to your trading:

  1. First decide the level where it would invalidate your reason for being in a trade if price ever got there. You were plain and simple wrong. Then count the number of pips between your entry and this level.
  2. Then work out how much of your funds you’re willing to risk on this idea.
  3. Divide the risk capital by the number of pips and you’ll get the risk per pip.

So to conclude, don’t base your money management on your pain threshold, base it on clearly defined technical levels which will invalidate your trade idea.

Keep those pips flowing in!

Ed

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