What are the Three R’s I hear newcomers ask? Well, we all remember the Three R’s of grade school: Reading, Writing, and Arithmetic. No doubt these were fundamental building blocks of our early education. When it comes to the markets and managing our money, the Three R’s of Trading are just as important, if only to stay sane! They are: Recuperate, Regroup, and Rethink.
As a quick recap, the first of the Three R’s, Recuperate, entailed going cold turkey, switching off the computer and genuinely removing oneself from the day to day gyrations of the markets. We discussed this concept in detail in the article on May 5th, where we mooted it was looking like a fantastic time to quite literally ‘go and sit on a beach’.
At the time, markets were becoming increasingly schizophrenic as they grappled with everything from earthquakes to European debt crises. The S&P ASX 200 was trading around 4700, and with it now nearer to 4500, investors would certainly have benefited from simply selling up and being out of the market. Bank interest and cocktails on the beach would certainly have been a much better way to go.
In the second article on this topic on May 18th, we discussed the next of the Three R’s, Regroup. This R was about looking back out our trading and identifying the market scenarios which caused us the most angst. We postulated that it was essential for traders to note certain market conditions which tended to put them in an unstable emotional state, and therefore more prone to losing money.
We can all probably think of a certain type of market condition which sees us vulnerable to succumbing to the two basic emotions of investing: fear and greed (for example high volatility). If we are cognizant of these scenarios, we will be better equipped to avoid them and therefore protect our vital trading capital.
Apart from the psychological mumbo jumbo, a break is also a good time to further hone your trading system. This brings us to the topic of today’s MarketPulse, the final of the Three R’s: Rethink.
I expect most would agree that markets are constantly changing, and are doing so at an ever increasing rate. You might find that your trading system as a result is not capturing all of the opportunities it was designed to originally capture. It may be losing its ability to keep you in winning trades longer, and it may not get you out of losing trades as fast.
Take the time over your recuperation to do some back testing of your trading systems to see if modifications can’t be made to improve performance. With a clear head and a renewed focus on the market, this would also be a good time to perhaps even develop one or two more new systems better equipped to deal with the current market conditions. (For those who are not familiar with the concept of back testing, well, you absolutely need to be! This is probably one of the most important differentiators of successful traders from the rest of the punting public. It’s a substantial topic and is probably worth a whole run of MarketPulse articles…so tune in next week.)
When considering your current batch of trading systems, also think about how well suited each system you use is to your trading style, your personality, and your logistical limitations. A system is only useful if you can follow it. You may find that some of your systems are not performing as well as they could have because you simply couldn’t devote enough attention to monitoring and trading them. Perhaps your circumstances have changed – a new addition to the family, a new job etc. Some systems may have to be modified; some may have to be discarded altogether.
These are examples of the various adjustments you can make to your trading with just a little time and thought. Often, in the heat of battle, there is little opportunity for such rational thought and analysis. Similarly, there is often little understanding of what needs to be done when we are so emotionally attached to what we are doing, hence the need to take time to Rethink.
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In conclusion, don’t be a loser!
According to Dr Tharp, the losing trader is one ‘who is highly stressed and has little protection from stress, has a negative outlook on life and expects the worst, has a lot of conflict in his or her personality, and blames others when things go wrong’. (Market Wizards, Schwager, p. 414)
Now, that’s quite a profile! Whilst not all of these problems may be solved by implementing the Three R’s, it’s hopefully easy to see that the process of Recuperate, Regroup, and Rethink is going to far better serve the trader than continuing to bang their heads against the brick wall of an unpredictable market!
A temporary clean break will likely help give a trader some time and space to focus on any of the elements of their personality or trading system which, over time, have become detrimental to responsible and disciplined trading.
Most importantly, a self-imposed hiatus will give the trader perspective. Rarely are good trading decisions made in the heat of the moment, or after some substantial financial, emotional, and psychological setback. The most beneficial thing anyone can do for their trading is to ensure that they are in a calm and rational state when making their decisions. It is only in this calm and rational state that we are most likely to follow our trading system. Consequently, when we follow our trading system, we are most likely to experience success.
Often, distance is required from the market to get your perspective back – to realise that trading is not the most important thing in the world. Now get out there and do nothing!