2016 was quite a doozy and with the year just about wrapped up, it’s time to take a quick survey of lessons learned. See which apply to you or if there’s something new to take away to help with your own journey into trading!
1. Don’t be in a rush to trade big events
Volatility is a short-term trader’s best friend, and there’s no better time to catch volatility than during major economic or geopolitical events. And 2016 certainly had it’s fair share of major market drivers, with a couple that we saw (and didn’t see) from a mile away would be big market movers: the Brexit vote and the U.S. Presidential elections.
Both events sparked huge volatility thanks to surprise outcomes, and it took traders who bet against the U.K. leaving the EU–or against Donald Trump winning the U.S. Presidency–out back for a not so clean kill. Take my man Cyclopip who tried trading the initial risk-off reaction to the Trump win with AUD/JPY, only to be taken out a few hours later when sentiment quickly turned, and even with a really, really big stop in place.
Take your time to let the initial noise of the event clear out, because more often than not, there are plenty of opportunities to catch small pullbacks as the main trend materializes, which in those situations could last for weeks or months.
2. Odds are better with Fundies on your side
This is classic advice but it’s easier said than done. Going only with technical setups as your trade idea is easy and can lead to some winning trades, but you’re definitely not going into a trade with the best edge possible for success. Remember that price action is a picture of the past, not the future value of an asset.
Now, do you have to be a Harvard PhD in Economics to get in tune with what’s driving prices? Definitely not! Just take a daily quick peek at the forex calendar to keep up with a few key economic metrics (like GDP, Inflation, and leading indicators), as well as monetary policy. Doing this can at the very least help you avoid foreseeable volatility spikes and unnecessary losses due to ignorance to these events. Heck, you might even start to understand and like Macroeconomic mumbo-jumbo, and how it relates to changes in currency value.
3. The trend is your friend
As John Maynard Keynes said, “markets can remain irrational longer than you can remain solvent.” Don’t be afraid to jump on big trends even if you have the opposite bias like my friend Huck, who tried fading the U.S. dollar rally with EUR/USD after the Trumpet victory on a great looking technical setup. Unfortunately, the market sometimes doesn’t really care about beautiful, textbook technical setups, as is the case with her trade.
Our jobs as traders is to manage risk when we’re wrong (i.e., lose as little as possible) and maximize our gains when we’re right, and going with the trend definitely increases our odds of doing the latter, especially when there’s a catalyst for the momentum.
And that’s the great thing about trading: if risk management is done right, your potential rewards can far, far, far outweigh the losses because of that “irrationality” that Keynes was talking about. So in the long run it’s much easier to get into that situation by going with the flow, right?
4. Setting stops too wide is also a form of poor risk management
While this does lower your chance of winding up with a loss, it also lowers the likelihood of making a decent return on the risk. And psychology, you kind of let yourself off the hook from doing the work needed to make sure you’re setting your stop properly.
So, what is a stop that’s “too wide?” There’s no hard rule for that, but you can find the likely answer by understanding the normal behavior of the market you’re trading, like its average volatility (e.g., Average True Ranges) and its tendencies around events. Take some time to look back at different events in the past to gauge potential reactions to similar situations in the future. Combine this work with technical analysis and sentiment analysis, and you’ll probably find an appropriate stop that won’t hinder your ability to increase your potential gain without increasing the odds of a loss too dramatically.
5. Let go of Recency Bias
Treat every trade as it’s own situation from every other in order to sustain confidence in your approach. A large drawdown or losing streak can lead you to be extra cautious and reduce risk per trade, hindering what is an already a good trading system or method by making it twice as difficult to make up for the previous losses when everything does start going your way. Cyclopip can certainly attest to this after hitting a losing streak, only to have a monster idea on CAD/JPY at the very end of 2016. Unfortunately, he took his risk down to a tiny 0.25% because of the losing streak, making the win only enough to cover just a few of his previous losses.
Conversely, being on a winning streak can make it more tempting to be more aggressive with position sizing or trade management decisions (i.e., entries and exits), which might wind up wiping out your previous gains–or your whole account–in just a few trades….the cardinal sin of risk management!
So take heed and learn from the FX-Men’s mistakes from 2016, and keep your eyes on the prize. Whatever that may be to you, try to keep your goals simple because complexity is the enemy of staying focused and being consistent. And remember to update and review your trading journal often, especially if you don’t have a trading coach or buddy to remind you of the mistakes that we all make as traders that hold us back from reaching the best traders we can be. Good luck and good trading in 2017!