Seven Deadly Trading Mistakes - Part Four
Right - we've looked at strategies and planning, so now we're
ready to trade right? Wrong! At least, we're not ready to trade
live.
Mistake Number Four - Not Testing
Trading is a great business, it offers potential levels of
income and freedom that most people can only dream of. So it's
quite natural that having got the groundwork out of the way, the
novice trader is eager to get clicking those buy and sell
buttons and see the profits roll in. But hang on - the
preparation isn't over yet!
Imagine for a moment that you decided you wanted to become an
airliner pilot. You spent time and effort researching the type
of aircraft you were going to pilot, you read some books on how
to fly, and one day you found yourself in the cockpit at the end
of the runway. Clearly, without having actually taken some time
to learn how to fly this machine full of passengers, trying to
take off would be a disaster! So why is it so many traders
believe they can read a book about trading and then leap into
the market without first getting some experience?
If you were going for the pilots job, you'd take a training
programme which would undoubtedly see you getting some no-risk
experience in a flight simulator. This would give you the
opportunity to make all of your early mistakes without crashing
a few seriously expensive airplanes in the process.
As traders, we are very fortunate in that we, like airline
pilots, can practise and hone our skills in a risk-free
environment. Indeed we have the added benefit that we can
simulate our activity with high degrees of realism at little or
no financial cost at all.
I am of course talking about "paper trading". In the most basic
sense of the term, paper trading means that we follow our
trading plan exactly as if we were going to put real money into
the market, but at the point where we would actually buy or
sell, we simply make a note of the current price instead of
opening a live trade. We would continue to manage the trade
exactly as if we had real money in the market, and would exit
accordingly, again writing down the exit price.
Going a step further from pen and paper, today's
internet-generation trader can take advantage of software
simulators like TSim+, which imitate a live trading platform.
These programs have the advantage of making the paper trading
experience much more realistic; they also cannot be cheated in
the same way as a note on a piece of paper, that is to say we
cannot conveniently decide to erase a trade we later decide was
a mistake!
There are some who believe that paper trading is not worthwhile
as it can never reproduce the emotional stresses that are
involved in live trading. Whilst that is true to a certain
extent, I would argue that if you are not sufficiently
proficient at executing your trading plan in a simulator, why
would you be able to do so with real money?
Paper trading gives us a great opportunity to put into practise
what we have learnt, test new strategies, and tune our skills
with no risk. Once a trader can consistently show a profit on a
simulator, they are ready to take the next step - live trading.
Again, this is not something to be rushed, and again, like
airline pilots we can work our way up to this.
Just as the pilot is probably not going to make his first flight
in a jumbo jet, neither do we as traders need to take a
full-size trade when we start for real. If trading equities
(shares), we can buy and sell very small amounts at almost
negligible cost. If trading futures, we can usually start with
"mini" contracts which are valued at a fraction of the price of
a full size version. Whilst this limits our profit potential as
we take our first steps in the live market, it very importantly
also limits our potential losses.
With the huge array of software tools available to us, along
with discount brokers offering cheap trading instruments, there
is no need for any trader to get seriously burned on their first
outing into the market.
Action: We must commit to testing and practising our trading in
a risk-free environment before putting our capital into the live
market. Only when we can show consistent profit on a simulator
should we move on to trading real money, and then only in small
doses.