Thursday, June 25, 2009

The Psychology Of Cutting Loss Early

Enough about the philosophy of cutting loss. Here's the logic and very reasonable thing about this topic.

--- Why Traders hesitate to cut loss early? ----
Some people said traders don't like cut loss early because they won't admitted they're wrong. Or their ego involved in that. That's BULLSHIT

The reason I know so far because it is painful to know after you cut loss the price suddenly going back to your favor and make a winner.

Will you cut loss if you know your position won't comeback to your direction after you cutting loss? ABSOLUTELY !!! I won't even think twice for cutting loss with that condition.

But in reality, most of the times the price suddenly reversed after you cut loss. Why? IMO it's corelated with mass psychology. We had the same painful tolerance so usually we got out at the same time. After nobody's left, the price reversed and goes to your favor.

In that case, don't cut losses right? Well, It is Market. Nothing's absolute. One mistake may wiped out your account.

Here's the logic of how cut loss may gave you EDGE:
- Let's say you long 1 contract worth $100. Your profit target would be $110. Suddenly the price goes against you and you cut loss on $90. Now you loss $10.Suddenly the market reversed, then a signal came out and you bought at $95. The price goes up through your profit target at $105 and you made profit minus loss = $5.
Well, it's smaller than you let your losses run but what if the market never cameback and go underwater to $80? The worst thing in cut loss scenario, your maximum losses will be $10. In Market everything may happen.

This is only a matter of choice:
Get $10 with unlimited risks or get $5 with $10 maximum risks?

I prefer the second one. Because in the long run, sooner or later the first choice will kill you. That's one of the absolute thing in the market.

If you want to make a fortune from the market not the consistent profit then go ahead, don't cut your losses. And make a fortune means Gambling for me.

Like Warren Buffet says :
Rule No.1 : Never lose money
Rule No.2 : Don't forget rule No.1

Don't forget the rules is for investor. Trader is the whole different things.

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