One Strategy That Can Bring You Trading Losses
Discover How Cut Your Trading Losses.
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The main goal of money management is to control trading losses. With good rules in place, you will never be in danger of losing too much. Unfortunately though, some traders follow certain strategies that affect even the best laid rules. One strategy in particular is averaging down.
Traders who average down buy more units of a stock that is already moving down. To most observers, this may seem like an illogical move. It is indeed a technique that defies logic but traders who practice it don’t realize that. The main reason why they apply it is that doing so lowers the average cost per unit. Hence when traders analyze their data for investment losses and profits, they will see that they were able to buy units of the same stock at a far cheaper price than the original. This is where their analytical skills get blurred.
At this point, common sense should kick in. The strategy may push average cost down but this doesn’t mean you will start to see profits. On the contrary, continuing to buy units of a stock that just keeps on falling can only serve to magnify your losing streak.
There is a deeper explanation as to why traders stick to this strategy when it is obviously flawed. Those who continue to stubbornly apply it are in denial and are very desperate to recoup their stock losses. They can’t see the error of their ways because emotions have taken over. They are too far distressed that no amount of logical prodding can snap them back to their senses.
This is why every trader should first check their psychological state before beginning. Ideally, they need to adopt the kind of mental attitude that will leave no room for emotions to take over. Every decision should be based on facts alone. This kind of mindset can only be produced by a solid and reliable trade plan or system.
A system can have several different components each designed to help reduce trading losses. One particular part that addresses averaging down in particular is money or risk management. When you decide to set the ground rules for this, what you are actually doing is setting the levels of risk that you are at ease with. Hence, there is no way that you will ever suffer the kind or degree of loss that you cannot live with. A comprehensive control policy takes into account such elements as trading float, maximum loss, initial stops and trade size.
When you set the rules for the individual elements of your money management plan, keep in mind that you might just want to average up. As the term suggests, this is the opposite of the averaging down strategy. When you take this upward option the cost figures may rise. Remember though that you are actually adding to an already profitable solution. You are reducing your loss potential by trading already profitable assets.
Initially, it may be difficult to take the step to cut your stock losses. It may be tempting to act on your feelings. When the temptation comes though, you should turn towards your risk management policies to keep you grounded on logic.
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