When I started my journey into long term profitable trading my first concern was my psychological weaknesses when I faced losing periods. I would become depressed, lose confidence in the systems I was trading, change them without analysis and committed all the mistakes I have talked about before on posts dealing with draw down periods. However after some experience in this field it then became clear that dealing with losing periods was only half the battle and that the reason why it was so hard for me to achieve psychological stability in trading had as much to do with the way in which I confronted profitable periods. When a system makes money it generates a series of short term psychological effects which affected me, my decisions and the way in which I felt when future draw down periods came. On today’s post I want to share with you a little of what I have learned about the psychology of profitable periods and how you need to learn to deal with these periods as effectively as you do with losing ones.
What is wrong with feeling good ? When a system makes money trading forex – especially in an automated fashion – it gives us a very good sensation. We have made money effectively while we slept (or did other things) and we have effectively exploited a market inefficiency in a mechanical fashion. We now feel that financial freedom is just around the corner and our system has put us in the right path towards richness. However these feelings – although seemingly good – are absolutely destructive and detrimental to our ability to control ourselves from a psychological point of view.
Although profitable periods in themselves do not seem to cause any negative effect, psychologically they predispose us to expect a certain set of results from our trading systems. When we achieve a couple or several winning trades we tend to expect more of this “good stuff” while we fantasize about the things that would become possible if such profitability was sustainable in the long term. The problem comes when the market exposure of the systems is cashed and we are faced with losing scenarios. By having very positive emotions within profitable periods we are in fact empowering losing periods to cause negative effects and lead us to the making of wrong decisions.
This is the reason why the emotions we get when we achieve profitable periods are so dangerous. In the short term trading tends to obey a random distribution on returns while in the long term we see some alignment towards positive returns for systems with positive mathematical expectancy values. When we are faced with short term profitable periods and we are blinded to believe that this is what we should always expect we are hit hard when the systems start to head into draw down territory. As a matter of fact the most common cause of people ditching systems or changing them is a losing period following a profitable one. This is especially true when people start trading within a profitable period and then head into losing territory, when the first impression people get is a lot of profit, draw down comes as a very nasty surprise.
The answer to these problems however is not to be “emotionless” as this is impossible due to our obvious human nature (emotions are the way in which we react to our experiences) but to be conscious about these emotions through the use of a tool called “emotional intelligence”. It is not about avoiding to feel good when profits come and bad when draw downs come but about rationalizing these emotions, being aware of what they mean and removing their power to make us take irrational decisions. When one of my systems has a very profitable month I do not simply avoid being happy – who would ? – but I know from my analysis that I cannot expect these results all the time and that this is probably something that will not last long. I understand that in the long term certain very good and very bad months will come and my only concern is that the mathematical expectancy of my systems in the very long term will remain positive.
I have to confess that this emotional training is perhaps the hardest and most important part of trading after you find strategies with a positive statistical edge (something which is not as hard as people tend to think) and that being able to be an emotionally intelligent person will mark your success or failure when it comes to being profitable in forex trading in the long term either through the use of mechanical or discretionary strategies. So next time you are within a profitable period don’t jump to be ecstatic and to share this will all your friends and family but be rational about your emotions and realize what the current results represent in the long term for your trading system. Yes, you had a profitable period but not all periods will be like this. When you approach trading this way not only will you be able to balance your emotions but removing the emotional power of profitable periods will also remove a lot of the problems you may have when dealing with the inevitable and probably long and deep periods of draw down your systems will face.
If you would like to learn more about mechanical trading and how you can trade systems that have been deeply evaluated in backtesting and live trading and learn to design your own systems based on sound trading tactics please consider joining Asirikuy.com, a website filled with educational videos, trading systems, development and a sound, honest and transparent approach automated trading in general . I hope you enjoyed this article ! :o)