The Components of Trading Well

I'm an NLP modeler and a coach for traders. As a NLP modeler, I find a number of people who really excel in something. Once I've found them, I determine what they do in common. And then when I've found the common tasks, I determine what beliefs and mental states are required to perform each task. Once I have this information, I can then teach the tasks to others and expect to get similar results. And my job as a coach is to find talented people and make sure they learn and follow the fundamentals.

I remember doing a workshop with Market Wizards, Ed Seykota and Tom Basso around 1990. All three of us agreed that trading consisted of three parts: personal psychology, money management (which I subsequently renamed Position Sizing in my book Trade Your Way to Financial Freedom) and system development. We also generally agreed that trading psychology contributed about 60% to success. Position sizing contributed another 30% which left about 10% for system development. Furthermore, most traders ignore the first two areas and don't really have a trading system and that's why 90% of them fail.

Over the years I've done extensive modeling in all three areas and I disagree slightly with our conclusions in 1990. First, I would argue that trading psychology is 100% of success. Why? This conclusion is based upon two findings. First, people are generally programmed to do everything the wrong way. They have internal biases that seem to result in them doing the exact opposite of what is required for success. For example, if you are the most important factor in your trading, then you should spend the most time working on yourself. But most people totally ignore the "you" factor in their success. In addition, read over the checklists involved in good trading below. If you've worked extensively in all the areas listed below, you are probably very successful and you are certainly a rarity.

Secondly, every task I model requires that I find the beliefs and mental states that are involved. Both of those things are purely psychological, so it's hard not to conclude that everything is psychological.

In addition, I now think there are five components to trading well. These include the following areas:

• The process of trading – those things that you need to do on a day to day basis to be a good trader.
• The wealth process – exploring your relationship with money and why you do or do not have enough to trade with. For example, most people believe that they win the money game by having the most toys and that you can have it all now if your monthly payments are low enough. This means that they save zero dollars and are in debt over their heads. If this is you, it also means that you don't have enough money to trade.
• Developing and maintaining a business plan to guide your trading. Trading is as much a business as any other area. The entry requirements are much easier because all you have to do is deposit money in an account, sign a few forms, and then start trading. However, the entry requirements for successful trading require that you master all of the areas that I'm listing here. And that requires a lot of commitment which most people do not have. Instead, they want trading to be easy, fast, and very profitable.
• The process of developing a system. People often consider their system to be the magic secret for how pick the right stocks or commodities. In reality, entry into the market is one of the least important aspects of good trading, while the keys to a money-making system are elements like determining your objectives and how you exit a position.
• Position sizing is the key to meeting your objectives. We've discovered through our simulation games that 100 people can get the same set of 50 trades, but at the end of the 50 trades, they will have 100 different equities. And this extreme variability of performance can only be attributed to two factors: how much they risked on each trade (i.e., position sizing) and their personal psychology that determined their position sizing decision.

Hopefully, this tip has opened your eyes as to what is really involved in successful trading. Look at each area and rate yourself, by asking the following questions.

• How well have I mastered the discipline of trading well each day? This means do I do things like a daily self-analysis or a daily mental rehearsal to begin each day. If not, why not?
• Do I really have enough money for trading to make sense? If not, then you probably need to work on yourself and the wealth process.
• Do I have a business plan to guide my trading? If you don't, you are not alone. We estimate that only about 5% of traders have a written business plan. But, then again, perhaps you've heard that only about 5-10% of all traders are really successful?
• Do you have a set of objectives thoroughly written out to guide your trading? Most people don't, but how can you develop a system to meet your objectives without having objectives? And if you have objectives, then have you developed a thorough system to meet those objectives? And have you tested it to make sure it does that?
• How much attention have to paid to the "how much" factor – position sizing? Do you have a plan for position sizing your system to meet your objectives or perhaps you've never heard of position sizing?
• And lastly, how much time to you spend working on yourself – on overcoming your psychological issues and developing the discipline necessary to carry out of the processes described above which are necessary for success?

Most of the items described in this tip could be the topic for an entire book. However, this tip was about giving you an overview of what is required for successful trading. And my job as a coach is to find talented people and then coach them on following the fundamentals that I've described and guiding them through their own self-sabotage.