Anyone trading in the Australian market, and other markets for that matter, over the 5 months would have noticed the see-saw movement of price and volatility that is present at the moment. The chart below consists of XJO over the past months. Since January 1 we have had a 2% downswing, a 5.6% upswing, the Japanese Tsunami crash of 9.4%, the bounce of the Tsunami crash of an 11.25% upswing and then a 7.8% downswing.
This volatility presents problems for many traders. The rapid changes of direction of the market will present problems for trend following traders who will be unable to have a solid trend. This will be an issue for pattern traders who will trade patterns that rapidly fail after taking the entry. There will be many sharp movements of price that will be taking out lots of trader’s stops.
In the face of such volatility, many traders have expressed to us exasperation as to how to trade this market and the fact that they are taking losses on a repeated basis. Given the trading environment, the ability to react to volatility and remain focussed and resilient in the face of such a trading environment is challenging many traders.
This article presents one model of Resilience applied to the trading context to assist them in their trading success.
A model of resilience.
In many risk/performance fields, resilience is a required ability or quality to endure the challenges that the performance field throws at them.
Can you imagine a martial artist being unable to handle the rigours of training being able to acquire a high level of skill? Can you imagine an endurance runner who stopped his running training every time it rained?
Studies in the field of expertise and expert performance have focussed on the skill acquisition of experts and how they remain resilient through the learning journey. A number of consistent patterns show up in resilient individuals and how they approach challenging environments.
A resilient individual in response to challenging environments shows:
1. The ability to learn from adversity and take a longer term view of events.
2. The ability to plan for contingencies. Having contingencies has your ability to have planned actions in the event of bad things happening in the market.
3. Robustness – They foster within themselves the ability to respond to the situation in the moment it is happening and execute their contingencies.
4. The ability to Recover –They have plans in place for recovery from the situation that they endured.
Traders who are resilient show these very characteristics.
Resilient traders are constantly looking to learn from every experience in the market. In adverse market conditions they are seeking to understand those markets because they know they will surely reoccur.
Resilient traders know what their stops are and know when to stop trading. They have their drop dead points set and know when to pull out of the market all together and act on those plans when the conditions are met.
Resilient traders know keep and honour their stops and don’t hesitate to act on them.
Finally, resilient traders are focussed on acting the moment they sense the market has turned around and then maximise their recovery. Resilient traders know when their emotions are clouding their decision making skills and use that as a trigger to get out of the market.
“Before you can have trading consistency, you must have emotional consistency”
- Dr Brett Steenbarger
The core of trading is the mindset of an intense focus on:
• Probability orientation.
• Pattern recognition.
• Decision making.
A resilient trader is able to make timely decisions, recognise when the probability of a trade is not in his favour and the patterns that are presenting themselves in any market that represent opportunities at that time.
How to build resilience into your trading plan.
Every trader who is successful over the long term has a trading plan and they build resilience into their trading through their trading.
Below are some ways that you can build resilience into your trading plan.
Have a drop dead point.
This is the point at which you stop trading all together. This acts as a circuit breaker to reduce your losses. If you don’t know what yours is then your probably should not be trading. At trading state we often deal with struggling traders who don’t have drop dead points in their trading. Successful traders know when to stop losing. Unsuccessful traders do not.
Having trading patterns for different markets.
By having trading patterns for different markets, either trending, freefall or rangebound, this builds in contingency planning and focuses on a trader on being able to respond to the markets that are presenting themselves in the moment..
Using feedback loops.
Having feedback spread sheets to track the metrics of your trading enables you to learn from every single trade even in a market that is difficult to trade in. This builds learning into trading process that allows you to learn from adverse market conditions.
Use position size decay.
Position size decay is the concept where with each losing trade the next trade becomes incrementally smaller. This progressively reduces your risk exposure and can substantially reduce drawdowns on your trading balance. The prepares you as a trader to be fully available for the opportunities that will present themselves when the market turn.
“You can’t change the market, but you can change how you respond to it.”
As traders we live in a world that is inherently risky and uncertain on a daily basis. Few other professions or occupations have the same degree of uncertainty. This is something at we are unable to change.
We can however be prepared for bad markets as well as good ones. We can’t change the market but we can change how we respond to it and what we do in each moment
20 of the 29 major world markets are in bear market territory. The US is in good company with the majority of major markets in the world in bear market territory and here in Australia we will not escape either.
Trader Lyn 11:39 am on May 27, 2011 Permalink
Thanks Mike for another great article!
Keith Kong (ZTrade) 12:33 pm on June 3, 2011 Permalink
Hi Michael,
Thanks for sharing. It is a very good article. “You can’t change the market, but you can change how you respond to it.” I couldn’t agree with you more. I’ve seem so many people to response to the market use the “buy and hold” strategy and to be exact they are “pray and hold”.