Can You “Undoing” Your Bad Trades?
Life is amazing. It gives us experiences and lessons. Sometimes we think that perhaps it would have been great if we could go back and fix a few past things. A computer provides an option of “Ctrl +Z,” also known as “undo,” to undo any done work. Unfortunately, we don’t have an “undo” option in life. We cannot undo anything we have done in life, even though we sometimes may wish to give up everything we have for undoing things.
Trading like life is also an exciting journey. Trading also gives us unique experiences. The joy of earning and making money simultaneously the tension of having a good entry, the anxiety of making money, or the fear of making losses. Like life, we make mistakes in trading too. We also sometimes wish to “Undo” bad trades. The desire to “undo” bad trade is stronger when we have a terrible trade or, sometimes, too early entry or exist to the market. This blog is about the possibility of “undoing” your bad trades.
Trading Like it’s Your Last Trade
Think of Raju having $1000 and being a new trader; he is quick for taking a trade, with little experience, it’s more likely he will place all his capital in his first trade as the aim is always to double the amount in less possible time. While “little learning is a dangerous thing,” Raju, with his little technical knowledge, will jump into the market by taking trade of $1000. Next, as expected, the market may go, either way, let’s assume the market will go down, and after a few revenge trades, Raju is “bankrupt” as always. At this stage, Raju would feel like “if he could undo” his trades and start over. Unfortunately, his approach cannot give him this option.
Raju’s approach could easily be called “trading as it’s your last trade.” Just like some people say that we should live every day of life like it’s our last day of life. Raju took the trade as if it was his last trade, or the market will not give him another opportunity ever. And, in such a situation, there is “nothing left” afterward. However, as far trading is concerned, we should learn that we must live the market and stand firm with the ups and downs. At the same time, we never have to forget that our portfolio should grow and make a profit.
Undoing Bad Trades
So, the real question is that how can Raju undo his bad trades? A simple answer is that there is no magic way for Raju to undo his already executed trade and get his lost money back; However, by intelligent methods through controlling his emotions and greed, he may be able to “undo the loss of his trades.” The undoing of bad trades can be done by creating a new earning opportunity through new trades and at the same time controlling emotions/greed and avoiding FOMO (fear of missing out). So how this “undoing bad trades” process can work?
Instead of using all his portfolio in his first trade, Raju should first work on his position size. Secondly, he needs to follow the 1% principle. Finally, he need to know what is the risk-reward ratio. Lets discuss this all one by one.
First he will set his position size (like how much money he should put in a trade, obviously that cannot be all 1000$ in a single trade), secondly, he will define his loss level (i.e., one percent loss of total portfolio). For example, using 1% loss level, he cannot allow for losing more than 10$ (i.e., 1% of his total 1000$). So he need to find the “appropriate investment” level for the trade he want to get in. In this regard, he should first check, what will be the trade profit if it goes in profit? And what will be it loss in case the trade goes bad? Let say profit is 7% and loss is 3% for the Raju planned trade. So now the math is easy.
He should invest: $1000/3 = 333$
If the trade goes well, he earns 7% of 333 which is equal to 23.31$ profit
If the trade goes wrong, he loses 3% of 333 which is equal to 9.99$ loss.
This calculation led to what we call risk-reward ratio. In this case risk-reward ratio was 3% to 7% (or 1:2.33). The reward should be greater than the risk, for example here its 3 to 7 or 1 to 2.33. This means he has a loss of 1% against a gain of 2.33%. Means, he is getting more than what he is putting at risk. If trader risk more than the expected reward, it would not be a rational approach. From this calculation Raju does not need to invest all 1000$. Instead, he will only invest a part of his total portfolio as per his position size (calculated based on risk-reward ratio). If he is at a loss in his first trade, he will not wait to get a significant/unrecoverable loss. But will exit the market as soon as he touches his loss level (equal to the 1% of his total portfolio level). Thus, if he loses his first trade, he will still have 990$ left. So, the first loss (and such a slight loss) would not drag him to an emotional psychopath who goes for revenge trades to cover his losses and ultimately go bankrupt.
Even several bad trades in a row would not affect him badly. If he loses three trades in a row using the 1% rule, he will still have 970$. He needs a trade of 3.01% profit to back to his original portfolio level (3% gain in trade is realistic and possible in crypto trading). Anything higher than that will place him in net positive, despite having three losing trades.
In a nutshell, before jumping to any trade, it is essential to determine risk-reward ratio and 1% loss level that will trigger the trade to close. This strategy is in line with the earlier discussion we have on this form, in which we insist to enter a trade with a clear exit strategy. That is, you must be clear if the market goes down, your loss from a single trade should not be more than 1% of your total portfolio. Similarly, if a market goes up, you should be clear to cash out your profit, rather than waiting forever to get the highest point, as the market may turn red any time after reaching high.
Dr. M. S. Afridi