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What Separates the Best Traders from the Rest

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Last week we held an inflential webinar with industry trader Kevan Conlon, which has been inserted into our System Development Workshop video collection. In the webinar, Kevan maintained a high-level conversation on what his 30 years of experience in the FX market have taught him about success in trading, and what separates the best traders from the rest.

In this blog post I am going to take some key lessons from the webinar and break them down into layman terms with practical examples.

How are YOU Going to Beat the Market?

“If you’re going to make it, then you have to start today to do those things that are compatible with what someone who is performing at that level is doing.” – Ari Kiev

The first thing any aspiring trader needs to clarify is how HE is going to beat the market. While it is fair to say that there are multiple ways to trade the markets profitably, and there are multiple niches to be exploited, my experience with retail traders has taught me that most (if not all) not only fail to find their niche but they never actually find any consistency at all.

Here are two of the main reasons:

  • Most retail traders like to pick tops and bottoms. In other words, they do not trade with the prevailing trend. Over the years I have encountered this tendency over and over when helping struggling traders, but there is much more objective evidence of this dynamic. Observe the chart below: in aggregate, retail participants attempt to buy the Dax as it falls, and then they flip to a short stance when it rises. Why do most aspiring traders operate this way? I believe the issue is EGO. When a trader brings his ego to the market, he will want to be “right”. Attempting to call turning points and outsmart the market is simply the visible demonstration of the trader’s lack of maturity.

  • Most aspiring traders do not commit an adequate amount of time researching, studying and testing (on demo) the system. This trait can be summed up best by a phrase that a struggling trader told me years ago:   “I’ve never really backtested anything…I just thought I could take what you tell me and apply it from here on in”.  What this trader failed to understand was that trading is a performance discipline and nobody can expect to make any headway in the markets without putting in the same amount of work that a professional athlete utilizes to prepare himself for a competition.

To find out how to properly build a trading system, read this blog post on the subject.

Just remember that the best systems are robust: they have very few moving parts and are quite simple in essence.

Know Your System

It’s all about preparation and risk control – Kevan Conlon

Let’s take for granted you have structured a system that you believe in, and are satisfied with. You have progressed through 3 months of demo trading. What are the important metrics that will tell you your system is stable enough to trade?

  • Know what market types best suit your strategy. This goes beyond viewing a bit of a trend. For example, in early 2019 trading conditions were absolutely horrible, and many market participants were comparing it to the first part of 2014. Why? Ranges were narrow and volatility was at record lows.  A simple ATR overlay can show you when ranges are tight and when instead they are acceptable/expanding. This makes all the difference because most systems do need volatility in order to succeed.

  • Your System Quality Number. Amongst the trading systems that make money, the best one is the trading system that generates the highest overall profit, right? That’s how most retail traders think, and it lures them into traps.
    Unfortunately this is how most retail traders rank trading systems. All they look at is the end profit or the profit factor. This is like saying that the best car to drive is the fastest, period. It doesn’t matter what your needs are (if you have a family, if you have one or more children, or if it’s just you). You get from A to B before everyone else, but how comfortable was the ride? The industry standard for ranking trading systems takes into account “how bumpy the ride was”. Van Tharp’s System Quality Number is one way of calculating the risk-adjusted performance of a trading system and is just as adequate as the Sharpe Ratio. You can find out how to calculate the SQN here.

For example, Our London Open Signals have a Sharpe Ratio of 1.53 since inception.

  • Your MAR Ratio.  The Managed Accounts Reports ratio is preferred for evaluating CTA performance, Hedge Funds and trading systems in general. It is straightforward:MAR = CAGR/MaxDD = Geometric Return/MaxDDThis measure can be used over any sensible timespan (1Month, 1 Quarter, 1 Year, Since Inception) and is actually interesting even for projecting worst case scenarios. The worst drawdown traders face, within the systematic community, is around 2-2.5 times the average return. So the MAR ratio allows to estimate the worst case risk-adjusted return.

    Our London Open Signals have a MAR (since inception) of 1.19 with a CAGR of 17.5% (risking 2% per trade).

  • Your Recovery Time. How long do you stay in a drawdown? Do you stay underwater for only days? For weeks? For months? Our guest Kevan noted that the maximum tolerable recovery time for a short-term system is about a month. Obviously longer-term systems will have longer recovery times also.

Only by knowing what kind of results your system generates, over significant periods of time, can you have an idea of how risky the system is, and what to expect. For example:

  • you hit a string of 7 consecutive losses. Is this within normal parameters, given the current market environment?
  • you hit a drawdown of 5% over the past 2 weeks. Is this within normal parameters, given the current market environment?
  • you have had infrequent signals over the past month. Is this to be expectes, given the current market environment?

Every system will have periods of overperformance and underperformance. But knowing how the system performs in each period, and knowing what kind of market conditions aid the system are key to generating confidence.

Capital Preservation is Paramount

Get Rich Slowly– Kevan Conlon

  • Most traders focus on the money they can potentially make…
  • Most traders’ motto is “a profit is a profit”…
  • Most traders focus on getting good entries…

and most traders lose money or blow their accounts.

  • The best traders focus on capital preservation and how much they are risking (which is the only thing they can control)…
  • The best traders’ motto is “run your profits, cut your losses”…
  • The best traders focus on trade management.

The first thing we need to do as traders is establish our risk profile. Here is our step-by-step guide on how to do so.

As traders we need to have clear rules that help us bypass our natural tendencies, and hold onto winning trades while cutting losses and preserving capital. One of the biggest issues most traders face is that of cutting losses short, and either not trailing stops quick enough or leaving them too far behind.

Once again there isn’t a “best fit” scenario because the trade management vehicle must work in tandem with the strategy. We did a series on trade management that may help you understand this topic better. Here are the various installments:

  • How To Manage Your Trades Part 1: Basic Notions
  • How to Manage Your Trades Part 2: Aligning Style with Objectives
  • How to Manage Your Trades Part 3: Managing Low Volatility Breakouts
  • How to Manage Your Trades Part 4: Managing Systematic Pullbacks
  • The Limits of Trade Management
  • How to Manage Your Trades Part 6: Short-Term Trade Management
  • How to Manage Your Trades Part 7: Managing Systematic Breakouts

Over to You

What separates the best from the rest? Nothing extraordinary. The best in the business cover all the bases:

  • they find an edge and build a system around it;
  • they stress-test the system and understand the in’s and out’s;
  • they measure everything;
  • they ensure the profitability hinges on capital preservation and not on the win rate.

The real challenge, if there is one, is sticking to the plan and actually doing thorough testing! Being a coach I see this all the time: people generally know what they have to do…but they don’t follow-up and progress is impeded.

Dare to be different – because discipline and consistency are what separate the best from the rest.

Cheers,

Justin

About the Author

Justin is a Forex trader and Coach. He is co-owner of www.fxrenew.com, a provider of Forex signals and Education from ex-bank and hedge fund traders (get a free trial), or get FREE access to the Advanced Forex Course for Smart Traders. If you like his writing you can subscribe to the newsletter for free.

The post What Separates the Best Traders from the Rest appeared first on FX Renew.

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