Let’s analyze 2 important trading strategies and see which of them is the best for becoming a consistent trader.
"Let’s start with the first strategy, target trading!"
Let’s assume that we are only risking 1 percent of the total of our account. (For many, this will be inconceivable). How am I going to risk only 1 percent of the account? If I have 5,000 euros, what do I gain then?
I suppose this thought responds to the desire to make a lot of money with little capital, which is why they risk too much, exhausting the account in 10 negative trades.
Sadly, it is so. The truth is that with little capital, if you do not want to take forever to grow the account, you only have to risk most of your available capital in each trade.
In fact, for the vast majority of novices and not so novices, it is so; they intend to get rich with an initial capital of 5,000 euros or less.
I’m sorry, but it is very unviable. Of course, you will tell me that you leverage, but well, more in my favor. Leveraged, without money management and mental stops... instead of lasting 10 trades, your capital will last 3. Come on, you will be out of the game by mid-morning.
This is made clear with the following example:
If you have a total capital of 1,000 euros and risk 10 percent on each trade, with 10 consecutive negative trades (something very likely), you will no longer have money in the account.
And if they do not come out in a row, well, the same goes, you will just take a little longer to run out of all your money.
That is why I resist believing that traders who trade for targets live off trading. And I resist believing it because it was always impossible for me that way.
I want it to be understood. I do not mean that because I have not been able to, others will not be able to, but no matter how much research I do, the numbers do not add up unless the trader in question has an almost impossible reliability of success.
Moreover, it is really sacrificial and exhausting.
Trading for targets is not what a trader looking for freedom seeks.
But let’s return to the beginning.
If we have 1,000 euros in the account and only risk 1 percent of the total, it is easy to think that, (if we trade for targets), we need to have at least 2 positive trades for each negative one for the result to be positive.
This means that if we lose 10 euros in one trade, for the profit curve to be upward, we must gain another 10 euros in the next 2 trades, i.e., 20 euros for the balance to be positive, provided we have a loss target of 1 percent and the same percentage for profits.
Come on, if we have a relationship of 1 to 1, the account will remain lateral, so we must try to ensure that the winning operation yields us more capital than we lose in the losing one.
Therefore, the success rate for this strategy to be winning must be more than 50 percent.
Disadvantage? It is that it is very difficult to maintain such reliability.
And that overtrading will make this target strategy fall apart.
It is exciting and mathematically possible, but the problem is that mentally and at the level of discipline it will not be.
As "Al Brooks" says:
"You can withstand one hole from Tiger Woods but not all 18."
Well, against the market, the same happens:
"You can withstand a few rounds but not a match that lasts a lifetime."
It must be understood that when you set a loss target (stop-loss) and a profit target (profit warning), the only thing you are doing is LIMITING losses and LIMITING profits.
Pay close attention to what I am saying: LIMITING LOSSES, BUT ALSO PROFITS!
And not only that. If you see that you have already closed because you have reached the target, and the price continues to rise but without you, the blow to your buoyancy will be hard and will make you question your trading system.
So, surely in the next operation you will break your discipline, causing your entire strategy to fall apart. It will happen to you just like playing a match with Tiger Woods. Your mind won’t hold up to the challenge for long.
In other words, for this strategy to work, you have to trade with an entry signal that has a 50 percent success rate, or with several signals whose average also adds up to a 50 percent.
That is, if you have an entry signal with a 50 percent success rate, another with 35 and another with 30, it is as if your success rate were 38 percent, which means you are already dropping below that 50 percent.
Here you have to ask yourself if it is better to trade with the 3 signals or stick only with the one that has the best success rate.
For those who always want to be in the market and are in a hurry to trade, they will tell you that they will open a position every time one of the 3 signals arises.
For those with more patience, they will tell you that only with the one that offers a success rate of 50 percent, even if you have to wait longer for that signal to appear on the chart.
The truth is that for the impatient, for those who like to overtrade, the success rate drastically decreases as they increase the number of signals with which they enter the market.
Then, reducing your entries in the market to a single technique, but with a reliability of success equal to or above 50 percent is the most beneficial.
Patience is one of the gifts of successful traders.
It may also be that instead of waiting for a loss/profit ratio of 1 to 2, you wait for a ratio of 1 to 3.
But of course, the market never guarantees that you will reach 3 times your losses in all positive trades.
It may come close but just turn around and lose a trade of 1 to 2 waiting for one of 1 to 3.
Therefore, increasing the ratio increases the risk that the price or profits do not reach that target.
Too complicated this target trading, right?
This is not trading. Trading for targets is not trading; it is going back to the era of slavery and being a slave to the market. It is "burning the midnight oil" all day in front of the screen.
"Let’s leave target trading now and focus on the second strategy: LIMIT LOSSES AND LET PROFITS RUN!"
We are talking about moving from limiting losses and profits, to limiting losses but UNLIMITING profits.
Be careful, because things change a lot.
Therefore, you will need to know that you are going to have many trades with small losses limited to 1 percent of the total account.
Remember when you were losing, your trade history says just the opposite. You have many positive trades but with few profits each.
Now it has to be the opposite, your history must reflect more negative trades with small losses and a few positive ones but with big gains.
And those trades with profits you will let run just as you let the losses run when you were trading without stop-loss.
Then you will average these trades with profits, but in favor and not against, as you did with the losses.
And you will have all the freedom in the world because once you have set the stop and calculated the number of lots, shares, or whatever you are going to enter with, you forget about it. You know that if you are right, the price will no longer come back for your stop, and if it does, it is because it was not the trade you were waiting for.
It is true that there will not be many trades that give you the big returns. If we adhere to the Pareto Principle, only 20 percent will be good trades, the remaining 80 percent will be bad.
Of course, you must be very mentally prepared; you need to have a very important mental strength to trade with this strategy.
There are not many traders who are capable of enduring such a string of losing trades, no matter how small they are.
But the consistency is not given by the number of hits but by the difference between losses and profits.
I do not know what obsession people have with closing the most trades in the green, even if it is with small profits. If the ones that bring in big profits are only the 2 or 3 that you let run...!
I also do not understand why they let losses run, even for years, and close a profitable operation in hours.
It’s about trading just the opposite!
And there are very few traders who are capable of letting profits run. The fear of losing or that your profits decrease is brutal and makes you do things you do not want to.
You have heard about the money you would have if you had bought Bitcoin in its early days and held it until now. But think, who is capable of doing that?
You would not be able to withstand even the first pullback of the profits.
Hence the saying from Warren Buffet in his book "The Intelligent Investor." It would be of great help for the investor that after buying, he turned off the computer and did not turn it back on until 10 years later.
Therefore, think about it a little since, unlike target trading, you can become a consistent trader with a relatively small success rate, if you are able to let the profits run...
And finally a small note. When you are able to do it moderately well, you need to be able to gradually eliminate losing trades, and observe how far the profits of your best winning trades usually go to statistically know where to close to obtain the best and most consistent profits.
Refining your trading system is how you gradually reach perfection. Any terrible system you improve little by little becomes an excellent system. Starting with one and then jumping to another is the worst thing you can do.
And on the other hand, talking about closing the operation. When we believe it has reached its maximum possible profit, (because the market conditions have changed), it is usually not a good idea to suddenly close it.
It will always be much better to bring the stop closer to the supposed closing point than to close immediately since traders still do not work well with a crystal ball and the price may continue to rise since trends, especially primary ones, usually last much longer than we imagine.
It is a hard and long road, that is true, as there is no university or degree for trading, but with discipline, you will have many joys.