Minimizing Risk: The Key To Successful Investing
People are naturally loss averse. What is loss averse or loss aversion? According to Wikipedia, loss aversion is the "tendency to prefer avoiding losses to acquiring equivalent gains: it's better to not lose $5 than to find $5". This explains a lot on why most traders don't cut their losses. The problem with that is, in the stock market, we are playing probabilities, not certainties. Casinos take advantage of this fact. They eliminate people's loss aversion by making the risk small and rewards extremely large, thus making them play more and spend their time longer than they have to. But if that is the case, then why do casinos always win? Why do they generate lots of profits? To answer this, please give time to watch Adam Khoo's video below.
To succeed in stock trading, we should do two things: first, we should acquire a system that gives us a statistical edge, and second, we should get rid of loss aversion by minimizing our losses to be able to play more and longer. Casino players lose money because they don't have the statistical edge, the more they play the more they lose. The lesson here is, focus on probabilities and not on gains. Take into account the law of large numbers.
How I minimize my losses with EBE system...
Adam Khoo recommended limiting losses around 2-3%, I suggest you do the same. Since I use Fibonacci to determine my exit price and I usually buy on breakout, the average risk from peak to the exit price is 10%. I can't control the exit price, but I can control how much I buy.
To achieve a 2-3% loss when buying at the peak with a -10% risk, I have to allocate 25% of my capital. If I want to allocate 100%, I have to buy near the exit price where the calculated risk is around 3%. In the case of $ALCO, which has a risk of -14%, I have to allocate about 20% of my capital.
One should not be afraid to take a loss, in order to succeed in stock trading.
To succeed in stock trading, we should do two things: first, we should acquire a system that gives us a statistical edge, and second, we should get rid of loss aversion by minimizing our losses to be able to play more and longer. Casino players lose money because they don't have the statistical edge, the more they play the more they lose. The lesson here is, focus on probabilities and not on gains. Take into account the law of large numbers.
How I minimize my losses with EBE system...
Adam Khoo recommended limiting losses around 2-3%, I suggest you do the same. Since I use Fibonacci to determine my exit price and I usually buy on breakout, the average risk from peak to the exit price is 10%. I can't control the exit price, but I can control how much I buy.
To achieve a 2-3% loss when buying at the peak with a -10% risk, I have to allocate 25% of my capital. If I want to allocate 100%, I have to buy near the exit price where the calculated risk is around 3%. In the case of $ALCO, which has a risk of -14%, I have to allocate about 20% of my capital.
One should not be afraid to take a loss, in order to succeed in stock trading.
Comments
Post a Comment