Forget Past Losses and Past Gains When Trading

By Dr. Winton Felt

Whether you are trading stocks, currencies or futures, you will have losses.  That is a given.  The real question is "How do you deal with your losses?"  It is human nature to try to link events and actions.  The problem is that people often do not distinguish between market actions and human actions.  It is critical that you keep the two separated in your mind and in your activities..

In one of my other papers, I mentioned that the market does seem to have a memory.  It appears to remember where support and resistance levels are.  It appears to remember, for example, where a breakout occurred, and where it had to overcome resistance in order to accomplish that breakout.  That would explain why it behaves differently when it returns to those levels.  It would explain why a stock "bounces" when it nears a level where it got support in the past.  There is no question or debate about whether the market remembers you or your activities.  It does not know what positions you have held.  It does not remember where you bought or sold those positions.  It does not know whether you made money or lost money on your previous positions.  You may go broke because of the trades you have made.  The market will not notice, and it will not care. 

Humans lose money on a trade and they try to regain the loss.  They may keep holding a stock as it declines, hoping that it will eventually recover.  Even worse, they may double up on a position as the stock declines.  "If it was a buy at $50, it must be a real bargain at $35, so I'll buy more."  Then, as it drops to $25, they argue "it is twice the value it was when I paid $50.  That is cheep!  I'll buy more."  What is the problem with the thinking here?

The problem is that buying more is related to the fact that it had been bought earlier.  The same is true of trying to break even.  The view and interpretation of the price was determined by what was paid previously.  The person is connecting the dots when they should not be connected.  The individual has too much ego-investment in that particular stock.  He has somehow fixated on the stock and has maintained a rigid view of its value based on his previous actions.  Instead, his view should be based on the stock's actions. 

Our own stockdisciplines.com traders never buy a stock without first determining where its nearest support is or without determining whether it is likely to be moving up immediately after it is purchased.  Then, if the stock does not behave as expected, we sell because there is no longer a valid rationale for keeping it.  The reason for buying the stock in the first place no longer exists.  The person who tries to "catch up" or who tries "doubling up" is playing a mind game with himself.  The market is not involved.  The rules of this mind game are self-defined and based on the ephemera of the imagination.

After a loss, avoid trying to "catch up" and avoid "doubling up" to regain the loss.  Each position you take should stand on its own, and not be conceived as a response to a previous trade or mistake.  Any big error is likely to damage your judgment.  Therefore, if you have made a big error, wait awhile before making the next trade.

If you buy a stock at $50 and it drops to $45, you must ask yourself whether or not you would buy it if you did not already have it, after having seen it drop from $50.  Would the fact that it dropped $5 change your view of the timeliness of the stock?  Would you wait to see if it dropped any further before committing your money to it?  If you would, then sell.  Selling will enable you to break from your past actions with the stock, free you from your past perceptions, and free you to see the stock in a new way.