Understanding why humans are doomed to fail as traders and what you can do about it.

To begin, let us examine the case of Joe Bloggs.

Joe is not new to forex, nor a beginner in trading commodities, indices, cryptocurrencies. In fact he's been doing it for years, yet he still struggles to be a consistently profitable trader despite his good technical background.


What is this hidden force behind Joe's lack of financial progress? What is actually holding him back?


The simple answer can be found within some very common trading mistakes.

When Joe is on a losing trade, he will hold, then after some considerable time, he hopes it'll turn around before his stop hits. It gets close to his stop, but Joe removes the stop, because he's convinced of this turnaround in market conditions. It continues to fall and eventually he becomes so sick and tired of waiting, he becomes desperate and starts to panic. He may add to his losing trade, in hopes of averaging the breakeven and that is a dismal failure since it continues to fall. So he has to make a decision, get out now or lose even more!


Summary:

Joe allowed to let losses run in an uncontrollable fashion. He moved his stop loss, and in this case Joe removed it entirely. He added to his bad trade when the market trend was against him all this time.


Joe goes to bed, bitter and annoyed but adamant he will start afresh tomorrow and not make the same mistake again (as a side note he will repeat these mistakes until he changes his mindset and understands some basic market mechanics regarding psychology: which I will go into detail later on)


Joe's next trade is a profitable one, he sets his target and stop loss and everything is going great, in fact it's going so well he's made 10% of yesterday's loss already in one day.

Now a strange thought occurs in his mind:


"I should take that profit, you know, in case it turns around overnight, and I'll be really annoyed in the morning, I really don't want two losing trades back to back, and this 10% is certainly not a bad thing"


What has happened here is Joe has completely ignored his stop loss and take profit, which you must understand should be a minimum of 3:1 risk / reward, and he quickly takes the money and exits, ignoring why he got into the trade in the first place.


Summary:

Joe became fearful he would lose his profits. He ignored the stop loss and take profit, entry and exit criteria. As a result he took profit WAY too early


Essentially, he became utterly complacent with a losing trade and highly agitated with a winning trade, so much so, he ignored his risk / reward ratio and got out in a hurry.

Doesn't make too much sense why Joe did this, does it...


Well, in a way it does make sense. Because Joe is completely unaware of entering or exiting with respect to the trend


Let us examine a typical trade in three stages, Entry, Consolidation and Exit:


in this scenario: Joe sold "X". We can only presume he thought candlesticks are a good enough guide for future price action, or his Elliot Wave analysis told him to sell, or perhaps the trend line broke support and so he entered... no one really knows. But regardless, he sold at Step 1.


Entry psychology


The smart money (banks, institutions) are fully aware that Joe (and 100,000 others) sold "X" at that particular point - as they have visibility of what they are doing, whether they are going long or short and where their stops and orders are etc.


Consolidation psychology


After some time the smart money increased their longs, since the trend was clearly up and they noticed Joe is continuing to hold onto his short position, regardless of the fact the trend was clearly "up". This in turn caused price to rise.


Exit psychology


The smart money again increased their longs again at 3, (and rightfully so, no reason to be bearish) as they saw Joe continue to hold his short position. The fact he remains to be bearish is a positive sign of prices to rise, he starts to panic again and has to exit to save his account.



Why would the smart money observe what Joe is doing?


Because Joe is a terrible trader, and represents the dumb majority of traders.


"A fool and his money are soon parted"


So this begs the question:


How does the smart money know what Joe and 100,000 others are doing at any point in time?


The simple answer can be found in SSI analysis (Speculative Sentiment Index)


SSI is a powerful contrarian tool that examines retail exposure to an asset and tells us if they are net long / short.


Now, imagine Joe as a single entity, (and what a terrible trader he has proven to be, and will continue to be), and multiply his catastrophic errors by 100,000 (or more)



That's a lot of dumb money to be extracted, and incredibly easy money too... when you know how the forex system works.


Warren Buffett once said that as an investor, it is wise to be “Fearful when others are greedy and greedy when others are fearful.”


Essentially at any given time we have 100,000 + terrible traders on the stock market; one massive herd of cattle going blindly in the "assumed" direction, merely hoping that the path they've taken is the right one, they actually don't have a clue if they are on the right side of a trade... It's mostly guesswork for them.


In most case the retail are going to the slaughter house... since the herd are easy to spot and are destined to be consumed. Food chain etc



So when the SSI went negative or less than 50%, it becomes a "buy" since the dumb herd are selling.


Likewise when SSI goes positive or greater than 50%, it becomes a "sell" since Joe and his clones are buying


So, this takes us nicely back to the beginning.


In a world of uncertainty, particularly with forex, the ONE thing is certain is Joe will continue to make mistakes until he loses all his money. Either when his account explodes, or withdraws monies from the broker, the next Joe will emerge, and so on and so on, ad infinitum.


We can know the trend with respect to SSI, a lot of the time price action is not even necessarily chart related, if there's been a big shift in one direction that can be incredibly telling. And especially in the case of opening a trade based on some economic data / news event, don't do it! :-) since Joe and his clone army will be selling on a bad data release.


As long as the herd are going blindly to the slaughter house, you'd best be prepared to do the opposite.


Hopefully this SSI overview was helpful, feel free to like, comment or RT on twitter ^^

I'll have it pinned to my profile page for a while


Some useful websites I've discovered:

Twitter feeds:


@FXCM_MarketData

@MT4inews


Remember it's not necessarily whether it's a buy or sell from SSI perspective, but it's the shifting of the sentiment, towards being MORE of a buy or MORE of a sell. If the shifting agrees, then that's a green for go. That's the moment the retail bears increased their bearish bets, and vice versa.



Don't be like Joe!


Always trade WITH the trend, not against, use sensible stop losses, stick to risk reward ratio when you're in profit, and use SSI as an absolutely invaluable guide, to see what others are doing, and always do the opposite of the majority.


I personally find the 50% pivot rule as an excellent entry point for a swing trade You can see these SSI percentages on https://fxssi.com/tools/current-ratio


Be prepared to exit if it crosses back over 50% though.


Good luck.

#sentiment #forex

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