Death by a thousand cuts – I love that analogy, but experiencing that is really painful! There was a stage in my career where I really experienced it and reading Jack Swagger’s book “Hedge Fund Market Wizards” brought back memories so I thought I’d share it in hopes it might save you the pain!

So let’s get into that, let me explain:

You enter a trade, for example, let’s say “short”, and it starts to move against you. You are disciplined, you are strong, you are patient, and you will not go out just because it is moving against you. You are willing to give it time to work. OK, so it creeps up and stops you. Well, it’s just an exchange. He doesn’t feel bad about it, however, he still has the same trade idea and feels that the stoploss positioning was wrong. So you re-enter the trade! Then… They stop you AGAIN… “Rinse and repeat” a couple of times with the same result. This is the experience called “death by a thousand cuts.” It’s not that you are fighting the market, it’s that the price is still within your “short selling zone”, however you have kept your stops too tight! You have not let your trades breathe.

So now that we have identified the problem, let’s find the cause and then look for a solution. In most cases, the cause of this is that we do our risk management based on our pain threshold. What does that mean? It means that we put our stop loss at a level that if the price gets there, we will exit because we cannot take any more pain rather than being a technical level that would invalidate our trading idea. Read that again, place your stoploss at a technical level that will invalidate your trade idea, rather than naively risk managing it to your pain threshold. The market doesn’t care about your pain threshold.

So what is the solution? Take the following approach to your trading:

  1. First decide the level at which you would invalidate your reason for being in a trade if the price ever got there. You were plain and simple wrong. Then count the number of pips between your entry and this level.
  2. Then calculate how much of your funds you are willing to risk with this idea.
  3. Divide the risk capital by the number of pips and you get the risk per pip.

So, to conclude, don’t base your money management on your pain threshold, look for it at clearly defined technical levels that will invalidate your trading idea.

Keep those pips flowing!

Ed