As traders, we’re taught to follow the rules. There’s no room for changing it up, cowboy.
Gotta be disciplined.
Only the traders who stick to the system survive…
But is this true?
Are there times when you should, as an experienced trader, actually {gasp!} break the rules?
In other words, in this episode the topic is “Trading From Your Gut” – and whether you should do this, or steer clear.
Download (Duration: 22:02 / 25.2 MB)
In this episode:
00:46 – Gut-system
02:11 – Price Movement
02:40 – Exiting My Trade
03:00 – Darren’s Three Rules
04:57 – Removing Your Intuition
11:04 – Practice Makes Better Decision
12:25 – Who Makes better decision?
13:13 – Same Trade But Different Results
14:25 – Trader of Currencies
15:45 – Missed Entry
19:28 – Backtesting
Tweetables:
The trader who’s been trading longer is more likely to be making better decision. [Click To Tweet].
Use trial and error to learn to be a good trader. [Click To Tweet].
Backtesting the System is a brilliant Idea. [Click To Tweet].
Download The Full Episode 27 Transcript Here
Darren: With practice you can make much better decisions based on judgement in the moment then you can predetermine what you’ll going to do.
Announcer: Two traders, Darren and Walter, pull back the curtain on profitable trading systems, consistent money management, and profitable psychological triggers. Welcome to the Two Traders Podcast.
Walter: Welcome back to the Two Traders Podcast. I’ve got Darren on the line and today Darren, we have a question that came through from a listener about your trading. Here it is, it says, “The question is for you Darren, imagine some element in your trading where you simply decide to let your trade go or close it. Is it safe to say that your system is a gut-system? Meaning that it requires you to make decisions that can’t be explain but always it’ll be profitable?”.
Darren: I need to sort of briefly explain my logical trading first, based on how I’m approaching trading now. Generally, most people when they trade they do some analysis of the market. From that analysis, they make a plan of what they think is going to happen next and what they’re going to do when that happens.
For instance, you’re a trend trader, and a trend is in place and your plan, maybe to wait for price to retrace to a moving average. Wait for a particular price action pattern, enter into the market and then give a similar thing for your exit.
That’s how essentially a lot of technical systems are based on that process. When I look at the market, what I see is price moving and then not moving. What I’d like to try and do is, how can I participate in the market all of the time? Make my profit on the movement and when price isn’t moving is where I’ll have my loses. Any idea being that, I will make more when price moves than when it doesn’t move, and that’ll cover my costs and that’ll be my profit. The advantages of that is, all I need to do is have a system that makes me participate in the market. Whenever there is a movement, I will be part of that. There’s obviously a lot of psychological benefits for that and these downsides as well.
I do a similar thing when it comes to exiting my trade and reverently looking for a specific set of events or currencies to exit the market. I’m just looking in a broader sense.
I kinda have three rules: One is, if there is a profit on the table, there’s no problem with taking that profit off the table. That’s what we’re here to do, make profit. Two, If there’s risk on the table, then there’s no problem with managing that risk, taking some risks off. For instance, if I have two or three position short and there’s a trade safe enough to go long then there’s nothing wrong with managing those positions. The third rule is: you’re never right. You’ve never made the best decision. You’re just basically looking at your risks and your profit. So you could say that, that is using your gut because I’m not looking for reasons why I’m acting. I’m just accepting that the market is going to decide. Whether I profit or not, or is going to give me opportunities. Sometimes I make the best of them and sometimes I won’t. You could say, that is a gut system I suppose.
Walter: Hearing you explain the way that you have and seeing some of your explanations in the forum. To me, it seems almost the opposite. I could be wrong here. To me it seems like, you’re almost removing your gut, removing that sort of intuition part of it. Hearing what you’ve just said was you know, let’s say, for example, you have three short positions and the market is looking like it’s starting to set up a reversal, basically a long position you might be getting into soon. That’s almost like saying, “Well I’ve got three shorts and I’ve got this long so, at the very least I want to reduce risk on those shorts or take profit or something.” Because in essence you’ve got to countertrade signal, you know what I mean? or it looks to be perhaps you’re getting a countertrade signal, that’s the way that you phrase it.
I could be wrong but I almost look at this as like, removing the gut and just following your rules. You’ve outline very simple rules right now. Which are basically, you’re going to make money on volatility, you’re not going to make money when the market tightens up and consolidates and you don’t have to be right every time. Every time you see a little move that looks like your turning point, you get in and then write it and see what happens. If you’ve got a lot of profit there then maybe you’ll lighten up. If it’s not looking good or gives you a counter, move signal on the other direction maybe you’ll lighten up or whatever.
Do you move to break even? That’s something I’ve always wonder, do you actually move to break even? Or do you simply take profit, like if you have three shorts and then it looks like you’re going to get a long signal, would you move to break even on your shorts or would you just take profit on some of that?
Darren: I always make that decision in the moment. If I had three position short, I may move one to break even, close one out, and leave the other one with it’s stop, where it originally was. I may close all three of them. I may close two and leave one to stop.
Although, you’re right I do have like a set of rules. What I’m not trying to do is predefine the best rule before the event happens. When the event happens, I then make a judgement call on what I’m going to do. I think a lot of people want to avoid that because we’re told that, it’s going to be emotions at that time and that’s going to lead you to make a bad decision. I’ve kind of grown into the belief that I’m going to look at those emotions there and I’m going to weigh up and make the best decision I feel like I make, at that time. Based always with that mindset that there is no best exit. You can always argue, there wouldn’t be a better exit or you should have exited earlier. I’m not trying to sort of pinpoint the exact thing I should do before it happens because it’s kind of like trying to say, if the market does exactly what I want then this is what I’m going to do. I’m trying to avoid that as much as possible.
Walter: Right. Okay. Yeah, it does sounds more of like a gut decision. Alright, so my question would be, are there some traders that you believe, if they would’ve trade this way it would be a disaster?
Darren: No more than if they traded a simple price action, moving average crossover, trend following any other system. I don’t believe that, it’s any more risky than trading those ways either.
Walter: Okay. Why is that? Because to me, when I hear this and what I’ve noticed, maybe this happens more on the lower time frames because of the way we’re engaged in the screen. I’ve seen in myself and certainly in other traders, a situation where, if a trader goes into a trade or even an account, trading an account, if there aren’t rules put in place to keep this person from risking too much money or taking too many trades, revenge trading and all those sort of things, basically their account will start to chip away and lose money.
That’s the reason why I bring this up. I just wonder, if you give yourself too much leeway, are there some traders, who like for example, if you have three short position and there aren’t any rules in terms of managing that risk, it’s just sort of maybe you do this or maybe you do that, so you’re saying, “it really doesn’t matter”. Like for example, let’s say I have a strict moving crossover system, where I had three moving averages, the two longer term ones will initiate the trade and the shortest moving average would be when price crosses that I would’ve get out of the trade. That would be like my trading exit sort of thing and so you know this is pretty simple.
There are a lot of these out there. But, at least I have to find the rules of engagement and I’m in this box. If I’ll go outside of that box then I’m not really trading what I’ve tested or back tested whatever. With this, it seems like there is a little bit more room here. I could see a situation where trader A does really well with this but trader B has a horrible time. I guess my question for you would be, you don’t think that’s necessarily due to the trader’s personality or you think it’s just something else?
Darren: Yeah. What you’re saying is true, initially, because we come into trading with our own biases and beliefs about what trading is. What works and what doesn’t work. Generally that’s what we’ve been told the most often rather than necessarily what’s true. We do that with our thinking in life, we tend to do that. We make judgements based on what we’ve been told or what we’ve already learned and roughly learning for ourselves.
Walter: Absolutely.
Darren: Yeah. Initially, I agree with you there. But, what I’d like to try on encourage traders to do is, have a period of trial and error and trading with different artist. Such is the idea of the way how I trade. Learning to deal with those judgements basically. I’ve really strongly believe that, with practice you can make much better decisions based on judgement in the moment then you can predetermine what you’ll going to do. I really strongly believe that.
Initially, definitely if you’ve always traded in a very structured way with a very strict rules set, if you’ve suddenly start trading this way, then there is danger from that because you will find yourself, even if you’re telling yourself that you’ll not going to do it. Basically, you’re looking at the chart in the same way you always have. It takes time to sort of get used to trade in this way.
I just think that the brain is just so much more powerful when we think, we can train it to make decisions in these environment. I do agree, you do need to have some sort of structure. I also like to allow that element of judgement to come in as well. I want to use my brain you know, I’ve given myself enough credit, to be able to make good decision.
Walter: That makes a perfect sense. Here’s a question for you, you have two traders here and trader Bob has been trading this way for two months and trader Annette has been trading this way, for thirteen years. Would you say that, it’s likely that trader Annette would make better decisions in the moment than trader Bob?
Darren: You’re saying, they’ve been both trading technically with a strict rule set or you’re saying they’ve been both trading my way?
Walter: Your style of trading.
Darren: I would definitely say, the trader who’s been trading longer is more likely to be making better decisions.
Walter: Yes, she is. Annette is going to do better because she’s basically seen more charts, she’s got more experience. Is that what you’re trying to say?
Darren: Exactly. In my facebook group, we’re a group of traders who, we all trade in the same instruments on the same time frame, taking the same entries, posting them live and we’re all getting different results at the end of the week. The interesting thing is, generally, if the market move last week, we all make profit but different amounts. Generally, If the market was very flat last week, we all make losses but in varying amounts. Basically, the market decides what opportunities we’ve got and then the trader decides, who makes the best of that opportunity. Then of course, there’s luck and chance coming into it as well. Okay, but that’s always evident in however you trade.
Walter: Yeah. Absolutely. You could say this same thing about funds. The S&P 500 went up last year, so generally funds were up. Now let’s say, this year, you have a year where the stocks and commodities take a bidding about for the whole year, generally you might have found funds that are down. But here’s the thing, the funds that were bearish make a big pile of money this year because everything went down. Whereas, the majority of funds that are essentially long most of their positions, they want price to go up for oil or for google stock or whatever it is, they take a bidding. As a trader of currencies we’re a little bit more flexible and that ideally, we would be just as likely to go long our short and in this case, trading this system that you used, it really doesn’t matter if it goes up or down really.
This is no big revelation for currency traders. What’s interesting to me is that essentially, the same sort of result that you see with a lot of these funds. A lot of private funds might have a really good year across the board and then others might have kind of a bad year more or less across the board. So you’re saying, that’s the same thing that goes on with your group of traders that trade this way.
Basically, the rising tide lifts all boats but it depends on how the captain, he’s the one who’s really steering the boat, and so he’s the one who’s able to decide in the end, how much of that he can take advantage of.
Darren: Exactly, yeah. I just love this feeling that the unexpected can happen and the unexpected does happen all the time. With a bit of freer system then you have an opportunity to capitalize on that. Of course, it runs both ways. For instance, let’s say, I missed an entry, checked my chart and realized I’ve missed a particular entry. If you’ve got a very strict rules set, then you’ve missed your entry, that’s it, you need to wait for the next set up. Whereas, I can just calm down say, “Well, I missed an entry, it’s actually, even better priced now or just take the trade now”.
I like that ability to have a structure but then make my own judgment call. I just find, I beat myself up about it a lot less because really I’ve completely taken on board the uncertainty of it. Sometimes, I’ll miss an exit and because of that, prices go on another 40 pips in my favor. I don’t see a rigid structure, with the market being so complex, I don’t see it being able to be more advantageous than making judgement calls.
Walter: Right. That’s an interesting comment, the complexity of the market. I’d love to talk about that in another podcast. That particular idea I think, that’s something that people, they have opinions about one way or the other.
This is making sense I think we’re definitely in agreement on one thing which I believe, you do have this opportunity as a trader. One of the things I keep telling myself and reminding myself is, when I see the charts, If I allow myself to see, to let one more candle print on the chart, that’s more information that I now have that can help me in my decisions. My decision maybe to move to break even, whether to take another position or extend the target.
What you’re saying here is that you’re allowing the market, it’s like a feedback loop: so you’ve made a decision, the market prints out some informations on the chart for you and then now you can, sort of readjust. That thing can continually happen for you as a trader. My strong belief is that, in the beginning you’re going to be really poorer at that. That’s not something that comes easily for most traders. A very very few like maybe one out of every eight hundred or nine hundred might be able to do that, from a get-go. I think overall, most trader need the experience to get to that point. What are your thoughts on that?
Darren: Yeah, definitely. When you start out you learn very quickly. A lot of trading is dealing with your decision whether they’d be predetermined or judgement calls, you’ve made at that time. That is a difficult thing to learn. I think a lot of traders never really learn that, predetermining those things way in advance, decide in today, what are you going to do if something happens tomorrow. I think that’s going to be better than allowing some judgement of that time as well. Have some structure but also allow some judgement. Accept that sometimes, however you decide to manage your trade, enter or exit, the market is going to throw a curl of ball at you and do what you don’t expect.
That I think is something more than anything people would like to remove from their trading. This is why backtesting is so popular. People do so much of it because they’re looking for that confirmation that their structure, their rules have finally removed that to exit extent and then will make you feel happy trading. I’m just saying, perhaps for some people it’s better to accept that you can’t remove that. Use trial and error to learn to be a good trader.
Walter: Yup. That makes a perfect sense. What would say about the idea that backtesting can also be used just to gain experience making decisions with the chart? Like those high wire artist who starts practicing walking on a high wire with just a low wire, that’s strung between two trees and is only three feet up in the air, gets that experience walking back and forth on the high wire.
Darren: Yeah, I would say that is the most beneficial side of backtesting. I think people like to get absorbed in precise numbers. This was the draw down my system is going to create and this is how much profit, this is how often I’m going to profit. I think they’re looking at it from that point of view.
Whereas, I think the real benefit from backtesting is: okay I’ve got this idea about how I’d like to trade, I’m going to run it and backtest. See how it works out and if it makes profit. Then I’m going to take that into my life trading maybe only on a demo thing but actually trading in real time and then I’m going to play it for there and I’m going to use both the information, to see whether I should continue down this route. To me personally, that’s the best way to use backtesting. Testing idea and I’ve seen it very often now. Backtesting the system is brilliant. I’ve doubled my account in three months then trade it for one week then absolutely hate it, I did it very badly. The actual physical process and emotional process are very different.
Walter: Yeah, absolutely. That’s fascinating Darren. Thanks a lot for sharing and thanks to Annaliza who posted the question, I appreciate it and we’ll see you next time Darren.
Darren: Okay. Cheers Walter.