Let me get to the point straight away.
Stage 1 of becoming a better trader is easy. Avoid making BAD mistakes.
No, I am not talking about mistakes where you lose a bit of money here or there. I am talking about mistakes which blow up your account. And believe me, most traders make big mistakes and blow up their accounts in the beginning.
Q: I thought it was more important to make great trades and not to avoid bad ones?
Yes, but that comes eventually. New traders’ learning path is all too predictable. They make a few good small trades and some VERY big bad trades. In fact, these 3 or 4 bad trades wipe out the money which was made from tens of small trades. So the starting point of becoming a good trader is avoiding those bad trades.
If you don’t bet, you can’t win. If you lose all your chips, you can’t bet. — Larry Hite
If you lose your capital to bad trades, you will not be left with any money to bet when that great trades come along.
As a trader, your primary objective is — Capital preservation.
Preserve your capital, so that you can bet on that spectacular trade you have been waiting for when it comes along.
Which brings us to what Warren Buffet said,
Rule No: 1: Never lose money. Rule No: 2: Don’t forget rule No: 1”.
Very few people really understand what he meant by this. And this is what he means — No matter what kind of potential upside or opportunity exists, he will never take a trade with a big downside. Long story short, he avoids the big mistakes.
So, if you do not make a big mistake, your capital cannot go down much. If your capital cannot go down, then it can only go up :)
Q: Bad trade — you mean to say that I sold when I should have bought and vice versa?
No! Guessing the market direction has nothing to do with a trade being good or bad. Here are some examples of bad trades where you guessed the right direction:
Getting out too early in a trade where you guessed the direction right
Betting too less on a great trade
Not keeping a trailing stop loss on a good trade, making a lot of money initially and losing it on reversals
Q: So you mean to say that trading has nothing to do with guessing the direction of the market?
Believe it or not, trading has very less to do with the ability to guess the market direction. Trading profits are all about discipline, money management, bet-sizing, having a plan, etc.
But I speak too soon… Shall we get started?
To be continued…
Tailpiece: Do not jump into trading. Do not listen to anyone’s advice. Not your friend, not your relative, not that bloke on the TV who gives commentary because no one will let him trade anyway. There is a high chance that you will do something you do not completely understand and lose money. Observe and watch for a bit, start slow, take small trades till you get comfortable. Find a good trading community to ask your questions.
One of the most legendary traders I have met in my life blew up his account in his youthful days because he did not know about the Securities Transactions Tax on options. This a few lakhs in the last decade, which is quite a bit.
This post is part of an initiative by Sensibull — India’s first Options Trading platform to help retail traders be more profitable