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In many areas of life, success is difficult to measure or even define. Day trading is not one of them. Every day you trade, you'll know it was either “green” and you made money, or it was red. However, it is a superficial way of looking at things. There is a better way to measure sUccess as a day trader: do you make money for the long term?
That's because the short term doesn't matter. On any given day, a rank beginner can get lucky and make a ton of money in minutes. A person can also walk into a casino, pull the handle of a slot machine once, and hit the jackpot. They are both cute and fun. Too bad they aren't repeatable.
Although day trading involves many variables that are impossible to predict, one thing I can guarantee you with absolute certainty: If you are in this profession for more than a week, you will have red days.
I can also tell you something that comes from my own experience of placing over 20,000 trades: the most critical skill for you to develop for long-term success is learning how to lose money the right way. In other words, how to have successful red days.
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Sounds like a contradiction, right? How can you be “successful” at losing money? Let's answer this by looking at the three components of each trading day:
- How did you do?
- How did you feel?
- How did you act?
For the “how did you do” component, we'll assume that you lost money. Maybe the day started well, but you were in the red when you won your trade.
The second component – how you felt – is cauldron of emotions you will definitely feel during the trade. I'm here to tell you that these emotions never go away completely. They are not like learning to ride a bike, where you quickly master the challenge and things become automatic. No matter how experienced you are in trading, a voice in your head will make urgent suggestions when you've lost money. They will be things like:
- We had a winning streak of 10 green days – the longest ever! Let's not break it. Keep trading a little longer.
- We may be at maximum loss, but it's still early! We can create it. You know we've done it before.
- Sure, we're burdened, but now is a good time to “buy low” and reduce our average cost. This is just a smart investment.
The voice in your head is so persuasive! It sounds just like you, and it sounds so reasonable. One small problem: This tip goes against your trading plan.
“What trade plan?” you ask. Here's where we introduce the safety gear you put in place before attempting to climb that rock wall, also known as day trading. Before you make your first trade, you should know your maximum allowable loss for the day. This is in addition to knowing other key parameters like your maximum loss per trade and the maximum amount of shares to trade.
The whole purpose of commercial plan is to give you rational guidance when your emotions enter the fever zone while you are in the heat of trading.
This is where the third component comes in, “How to do it”. you smelt the urge to double down on that last bad trade, but you resist the urge and ACTING correctly by not taking another trade.
This goes back to our definition: A successful red day is one in which the market went against you, but you stayed within your pre-agreed trading parameters. You did your best, but things went south. You did not abandon your maximum daily loss limit; instead, you quickly accepted the reality that today was going to be red and shut it down.
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If you have that discipline, you'll soon realize that it's easy to recover from the little red days. Yesterday you lost a bit and closed things immediately. You don't have a big challenge today because you didn't dig yourself into a deep hole then.
If you've followed me for any amount of time, you know that I'm a big proponent of keeping a trading journal. It is extremely important for you to review your trades when they are not in the heat of the moment and when you can sit down and rationally analyze the trading day.
Over time, I have come to understand two profound truths:
On days when the market is strong and I'm making money, I've made a disproportionate amount of my annual profits by letting my winners run. I have resisted the emotional urge to “crush it while I'm ahead.”
Conversely, the longer I've been in this profession, the faster I've become cutting my losses and accepting that today will be marked as red. I couldn't make it green, so I settled for the next best thing – making the red day as small as possible.
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Small hinges swing large doors. The difference between making five cents a day per share and losing five cents seems so small, but it's actually the long-term difference between success and failure in this business.
Limit your losses and let your winners run. This is regardless of yours emotions that scream the opposite.
You can't control the markets. And if you're human and not some AI bot, you can't prevent strong emotions from building up. What you can get better at is controlling your actions. If you do this on your red days—even most of the time—you'll have taken a giant step toward long-term success in this profession.