The Edge.
You can profit in Forex in one of two ways. You can get lucky and quit while you are ahead, or you can create an edge in the market place and continue to profit consistently over time.
If you and I flipped a coin and for every time it lands heads, you get a dollar, but every time it lands tails you give me a dollar, what would ultimate outcome? We would be break even. Sure there might be days when you win more, or I win more, but the odds would never change in either of our favor unless one of us developed an edge.
Say we agree, that for every time it lands heads I pay you 99 cents and for every time it lands tails you still pay me a dollar. Iāve now effectively created an edge without changing the odds. Given enough opportunities, I would eventually take every dollar you have as you would slowly but surely lose it to me without any hope of recovery.
How is it that casinos make so much money at games of chance? They only offer games that given an unlimited amount of trials, they will always stand to profit. They have obtained an edge and that small edge has turned a desert in the middle or nowhere into a trillion dollar oasis.
So how does this relate to Forex? How can you create an edge that no matter how many trades you make you will come out ahead?
From a psychological standpoint it is important to accept you will lose trades. To even be able to create your edge this is a fact you most wholeheartedly accept. For if you canāt, you will make adjustments to your trades that could effectively negate any edge you have.
A great example is the trader who always is quick to pull profits, but yet never does the same when a trade nears a stop loss. Their fear of loss causes them to capture fast pips, yet that same fear of loss prevents them from manually closing the trade.
The number one rule, before anything else is that you will lose trades. I personally lose a little more than half of my trades yet I am able to go back into the market and pull out more gains than losses as I continue to take as many opportunities as I can in the market.
Once you know your win rate, you can have a better estimation of how many pips you need to earn or loss on average to maintain an edge.
Selecting which direction to take in the market will also assist you in the development of your edge. Price moves up. Price moves down. That much is evident. However, what is not known is which direction you will take when entering the market. Itās far more sophisticated than simply flipping a coin, but itās not exactly brain surgery either.
I look to develop my bias in the market. My bias is my overall view of what I believe will ultimately be the direction of price movement. I can go into details of the development of such bias in a later post.
I will only take trades in the direction of my overall bias. If I didnāt, my win rate would be far worse and I would lose the edge I currently have in the market.
That leads to the second rule you need to accept to assist you in maintaining your edge. You will never be able to capture all the pips. So stop trying. I see traders trying to trade every time price moves up and every time it moves down. It generally doesnāt work out to well for them yet the continue to do it nonetheless.
Once you accept you will never get all the pips, your decision making changes. You get to stop and think. You arenāt so reactionary in the marketplace. You can withstand certain volatility even if price is moving against you in an existing trade.
Youāve heard me say it here before, and Iāll repeat it. The market doesnāt care about your system. It doesnāt give a rip on what you write down on an excel sheet. So stop trying to contain it. Systems fail as market conditions change and most traders will bust their accounts or switch systems before the market conditions return in favor of their system.
Learn to develop a methodology instead. One that allows you to engage an ever evolving market and you can make easier decisions based on what is occurring at the time it occurs. A methodology requires manual discretion. It needs your eyes and brain to make your decisions. It should not be reliant on indicators. The only indicator I use is a Japanese candlestick. Thatās it. Ever other tool, is a measurement of price action, such as horizontal lines and Fibonacci. Now when I engage the market I look to see what the market itself is doing, and not from the interpretation of a half of a dozen indicators.
A simple methodology might be, that when your bias is short you will seek to trade bearish candlestick patterns on tested areas of resistance that coincide with the Golden Rule.
By creating a bias, you enhanced your edge. When you decided to only trade in the direction of your bias, you continued to improve on the strength of your edge. And then when you coupled it by limiting to only taking known bearish patterns on areas that have known to reverse price resting the famed Golden Ratio, you have now a clear cut strategy with a winning edge. The rest lies in your money management to ensure your risk is properly assessed and your wins outweigh your losses.
I personally prefer to not use predetermined stop losses and take profits, but I donāt fault the new trader for doing so until they get more comfortable with the market.
Any questions?
