Tuesday, January 09, 2007

The 8 Habits of a Highly Effective Trader

Steven Covey's "7 Habits of Highly Effective People", has been one of the perennial favorite books of many people from all walks of life. Although Covey is a religious person, the truths that he describes in his best-selling book are objective, far reaching, absolute, and applicable to anyone's belief system. I am using those truths as a foundation for how I am aspiring to operate as a trader.

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1. Be Proactive.
At first glance, reacting to market conditions does not sound very proactive. However, in the context of the highly effective trader, being proactive does not necessarily mean taking the initiative. As with all other aspects of your life, take responsibility for your trading, rather than blaming other people or circumstances, or the market for your trading results. Regardless of what the market has done, is doing, or will do to you, you always have the ability to choose your response to the markets. You create your Trading Results. The highly effective trader has an ever increasing degree of self-awareness, and an honest understanding of his/her trading behaviours and motivations.

2. Begin With the End In Mind.
Set and document a long term goal for your trading. Practice visualizing where you want to be with your trading in the next day, next week, next month and next year. Take time to write out a realistic road map for getting where you want to be, and what strategies you will use.
Good trading begins with good habits. Have a trading plan and a pre-defined set of trading rules. (How successfully you abide by them is a totally separate issue). Make a log of all (or at least most) trades for later review. Plan and prepare ahead of time for each morning's trading session. The highly effective trader has a vision of where he/she wants to be, and a good sense of what it will take for him/her to get there.

3. Passion & Committment
Avoiding the pain of falling down is not what’s the most important, what really matters is the ability to rise up after the fall. I believe the ability to rise up after the fall is derived from the passion and committment to succeed. Many professional athletes first got into their chosen sport originally for the love of the game. Without passion, the question of for what purpose are you really, truly doing this, will not find a satisfactory answer. Without committment, you will be prone to quit at the first sign of a fall. Without either, the habit of discipline becomes a difficult chore. The highly effective trader is always mindful of being committed to do what it takes to succeed.

4. Patience
Patience is the capacity to suppress restlessness when confronted with non-ideal market conditions.
Patience is the capacity to resist the urge to "do something" after something has already happened. In other words, the lack of patience is characterized by the inability to resist the urge to sell a winning position even though the chart has not yet given any indicators nor confirmation to sell, or the inability to resist the urge to chase a stock after it has already broken out.
Patience is like the leopard, who stalks his prey by lying in the shadows and waiting. When the antelope wanders close to the leopard, the leopard does not strike right away, because it knows that the antelope can run away much quicker than the leopard, and the antelope is not close enough to maximize the element of surprise. By waiting and waiting, the leopard is able to see the antelope wander closer and closer, until the conditions are so optimal, and the distance separating the antelope and the leopard is so compelling, that the leopard cannot stand the thought of not striking.
The highly effective trader practices the art of patience, just like the leopard.

5. Discipline
The undisciplined trader is characterized by trading on rumours, guesses, or the need for excitement. The undisciplined trader is susceptible to impatience (liquidating a winning position prematurely), hope (hanging onto a losing position too long), panic (adding to a losing position), anger (trading because of an argument with the boss or the wife), or arrogance (trading for the sake of trading, with no solid basis).
In the context of the highly effective trader, Discipline is all about:
Acceptance - acknowledging where you currently stand as a trader, acknowledging your strengths and weaknesses in trading, taking a true, and honest inventory of your personality as it applies to trading.
Hard Work - bearing down and putting in the time to work on the sometimes unpleasant task of finding out what kind of trading is suited to your personality, and then documenting that in the context of a trading system (trading plan, trading style, timeframe, your edge/strategy, and a set of trading rules) that is tailored and relevant to your personality.
Work Hard - putting in the time to hone your skills, to practice, practice, and practice following your trading plan and rules with the objective of improving your trading performance, and monitoring your own progress.
WillPower - execution of your trading according to your plan and your system.
Persistence - staying the course and diligently follow your Trading Plan, and abide by your Trading Rules, even when, and especially if you do not feel like doing so.

6. Confidence
In the context of trading, confidence is not about arrogance, self-centredness, nor pride. On the contrary, confidence is all about trusting in your own ability to perform. The lack of confidence is characterized by second-guessing your trade, and doubting the timing of your entry. The lack of confidence hinders the one's mental capacity to perform, because you no longer trust in your own ability to perform. Success breeds confidence, and the lack of success robs confidence. Successful trading cannot be achieved without a certain degree of self-confidence. But since successful trading is not guaranteed, how does one gain confidence, or practice confident trading? The answer lies in simply practicing the other 7 habits. After a series of demoralizing losses, clear your mind. Once your mind is cleared, go back to review the habits that made you a successful trader. And start practicing those habits all over again, beginning with the simplest habits. It is only by practicing these habits that you will begin to trust yourself again. Do the little things in order to regain your trust in your own abilities, and success will come back to you.

7. Control Risk
You cannot control how much profit you will make on any trade, but you can control how much loss you will take on any trade. The nature of risk is like trying to fill your bag full of marbles subject to the following hardened and stringent rules:
(Profit) - The market decides whether you're going to receive big marble or a small marble.
(Loss) - You get to decide whether you will give up a small marble or a big marble.

If you do not get into the habit of controlling risk, you will inevitably wind up always giving up your big marbles, and your bag will not only go unfilled, but the big marbles that you give up will soon become small marbles that you give up, and inevitably your bag will be emptied. The only way to fill your bag with marbles is to relinquish only the small marbles when it is time to do so.
The highly effective trader understands the nature of risk and consequently always controls the amount of equity at risk in any given trade.

8. Sharpen the Saw
Continually engage in the exercise of the body, mind, and Spirit.
Practice Meditation. Start running, biking, hiking, or take up a sporting activity. Regularly read a book, or even a book on trading. Learn from others in the stock trading blogging community. Learn a new trading strategy. Learn about a market that you have never traded. Play a strategy game (chess, Go, etc.).

Putting It All Together
The highly effective trader has vision of where he want to be, and works out a set of goals, system, and plans based on a steadfast understanding of who he is, and where is he is now. The highly effective trader chooses the moment to act based upon discipline and patience, and has complete trust in his decision. The highly effective trader is not swayed by the end profit or loss as a result of his decision, but instead is grounded in the commitment to practice his craft each day and continually learn how to improve.
These 8 habits work in harmony with each other. Mastering all of these habits simultaneously is a daunting task indeed, but working on them one at a time, and at your own pace, is not only doable, but a worthwhile endeavour.


Tyro said...

Great post.

But your leopard might be a bad example for patience. I think they might have to wait a long, long time for antelopes to find their way across the ocean from Africa to South America. :P

Phileo said...

Hi Tyro,

I used the leopard as the example because I was recently watching a National Geographic special on big cats, and it highlighted the distinctly different hunting styles between the lion and the leopard..... LOL!

Bubs said...

Great post. Probably go out and read the book after reading this.

Phileo said...

Hi Bubs,

Thanks, glad to know that you got something out of my write-up.

Anonymous said...

Hi Phileo,

Well written. Keep em coming!