The Risk of Trading: Mastering the Most Important Element in Financial Speculation

PROCESS OF PREDEFINING RISK

So far we have not painted a rosy picture for traders and the psychological challenges they will face. Maintaining a strong, positive attitude after a series of losses, accepting the fact that we cannot determine outcomes, and that we will often experience something that we as people hate to do: lose. On top of that bright news is that the human mind-set was designed to remember recent pain to help us guide our decisions away from those that caused the emotional discomfort, only to be told to get back in there and do the same thing over and over again.

So what can we control psychologically? What can we overcome? One of the tasks of a trader that has little impact on our emotions is our ability to define what our risk is before we accept it or take action. This ability to filter out high-risk trades is often the difference between success and failure in trading. The best traders tend to do just a few things better than the average trader that places them in the top of their field, just as Hall of Fame batters get just a few more hits per 100 at-bats than their teammates. Both sets of traders have the same potential to control their decisions. Both cannot control market randomness and the continuous unknown factors that come into play during a trade. The best traders accept this unknown variable while other traders expect the edge to play out in their favor each and every trade.

After factoring in all of the random events that can occur during a trade, ...