If you have any dreams of becoming a trader, one of the most important things you can do is take losses.
Taking losses is admitting defeat.
Taking losses is means you analysis was wrong.
Taking losses is unacceptable.
These are myths that we tell ourselves about taking losses.
The three most costly trading errors you can make
According to Mark Douglas, author of Trading in the Zone (book notes here) the three most costly trading mistakes you can make are:
- Not predefining your risk
- Not cutting your losses
- Not systematically taking profits
Taking losses hurts. But why does it hurt so much?
On a psychological level, you don’t want to be wrong. Being wrong means losing money, and you don’t want to lose money. Losing money is painful.
Being wrong is a hit to your ego. It means your analysis failed.
Too often traders allow themselves to sit on a losing position, waiting for it to come around in their favor. I can speak from personal experience regarding this.
For about my first year of trading, it was so difficult for me to cut losing trades early on.
I didn’t know when to cut a trade. I thought to myself “if I just wait a little longer, the trade will come back my way. I just know I’m right.”
Frame losses differently: the cost of doing business
Losing trades are a business expense.
They are the cost of doing business as a trader. Don’t look at them as anything else. They are not a reflection on your analysis. They are not a reflection of you as a person.
Losses are merely the cost of doing business in an uncertain environment with uncertain outcomes.