In June of 2014, Rafael Nadal won the French Open title, earning his 14th overall major championship…
That victory gave Nadal an unprecedented run of nine French Open victories in 10 years… In most fans’ eyes, it solidified him as the best clay-court tennis player ever and one of the all-time greats, regardless of the court surface.
As an trader, you probably may not care that Nadal won(unless you’re a tennis fan like I am). But you need to understand how and why he won.
It may surprise you, but tennis and trading share a major characteristic. And if you don’t understand it, you may end up losing a ton of money.
Tennis is not single sport. It’s really two different games, depending on who’s playing. When a professional like Nadal take the court, tennis is a “Winner’s Game.” However when amateurs play, tennis becomes a “Loser’s Game.” The key difference will become clear in a minute…
Simon Ramo explains the fine details in his book, Extraordinary Tennis for the Ordinary Player. His overall findings are amazingly simple…
When two professionals play tennis, the winner of the match determines the outcome. In amateur tennis, it is the loser determines the outcome. Let’s exam why…
Tennis professionals make fewer errors and hit more winners. Ramo found that a professional tennis player will earn about 80% of the points so that means they only lose around 20% because of mistakes.
Amateur tennis is exactly the opposite. Ramo found amateurs tend to lose around 80% of their points. They only earn around 20%.
He then used these simple ideas to develop a winning strategy for amateur tennis players. All you have to do is play conservatively. Keep the ball in play. Allow your opponent to make an error. He or she eventually will.
Once in a while they will make a great shot but over the course of a match, they try to beat you by winning. Most likely they will fail. He has no idea that amateur tennis match is a Loser’s Game and his losing decisions will easily allow you to win the match.
You see trading is a lot like amateur tennis. It’s a Loser’s Game.
There’s a reason so few institutional traders and investors beat the overall stock market. They spend all of their time focused on winning. They’re constantly playing offense don’t even consider playing defense.
There are a few experts out there who find areas to exploit and consistently win. But most professional traders who constantly play offense end up losing.
According to financial-services firm Standard & Poor’s (S&P), 63% of actively managed mutual funds failed to beat their benchmarks from 2008 to 2012. Amazingly, 84% failed in 2011 alone!
Now I’m not saying you need to give up, buy an index, and be done with it. However you need to focus on playing defense and forget hitting winners/homeruns.
There are two simple ways to play great defense as a trader and by using them, you’ll eliminate two of the most common mistakes traders make.
The first is knowing when to sell. The simplest way to do that is with trailing stops.
Trailing stops are the simple way to avoid catastrophic losses in your account. If you set a 10-15% trailing stop, the most you will lose is 15%. You’re ahead of most traders just by focusing on your max loss by playing defense.
Your second defensive tool is to never put too much money into a single trade. A simple rule is a max of 5-10% of your account in a single trade. This prevents one bad trade from blowing out your account.
Remember, we’re not playing professional tennis. We’re playing amateur tennis.
Trading – for the most part – is a Loser’s Game. Don’t spend your time playing offense and trying to win. Focus on playing defense… by using trailing stops and proper position sizes.
These two ideas will protect you from the biggest mistake a trader can make – catastrophic losses. And avoiding mistakes is how you’ll win the Loser’s Game of trading.
Make it easy on your self and follow a professional trader who can help you pick the right stocks, here are the two I use:
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– Robert Walsh