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Psychological Breakthrough

Today I closed out a trade for about a $40 loss. In the past this would have drove me nuts and I would have rather gambled further and continued holding, thus taking on risk, than take the small loss. Especially once I started tracking my win/loss percentage taking even a small loss was somehow looked at as failure. I was more concerned with an internally generated scoreboard rather than the total profit and loss. I used to want to book a $1 gain than a $1 loss. This makes no sense as a win percentage of 100% means nothing if they are all $1. But now that I'm planning on keeping the average $ and % gains and losses in addition to the overall win/loss percentage, it allowed me to take the small loss and see things in the big picture. I'm no longer concerned with the win/loss percentage on a stand alone basis and instead more concerned with the combination of the average $ and % gains/losses.

Example 1:
70% wins looks good on paper by itself. If that were all I was tracking I would be happy psychologically. But if my average gain was $500 and my average loss was -$2000, then your expected loss should that trend continue is negative, (.70)(500)+(.30)(-2000) = -$250.

Example 2:
55% wins, average gain = $500
45% losses, average loss = -$200
Just eyeballing the percentage alone I would be thinking that after commission you're not doing very well unless your position size is large, which I'm not. But the combination of the dollar amounts and win percentage tells me much more and will allow me to cut even small losses in the future without effecting me nearly as much psychologically as in the past

I believe psychology plays a large part of investing and that's part of why the efficient market hypothesis is crap. It took me a long time to sell something at a loss, especially if it was a large loss, if it was no longer something I believed in. I felt like I was stuck with it and I had to keep it, even it meant five years, it has to come back in the long run right? Wrong, but it took me a good number of years to get comfortable with accepting a loss and moving on. So had it not been for this blog forum I don't think I would have added the average win/loss to my spread sheet which I now feel has helped me manage risk better.

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