Which Trading Mistake Is Worse?

February 6th, 2008

I was talking with Eyal the other day and we got to talking about trading mistakes.  We mentioned two specifically:

  • Taking bad trades (a form of overtrading)
  • Skipping good trades

It turns out that we treated these mistakes differently where he considers one of these more serious than I do and vice versa.  I think we agreed that both our outlooks on these mistakes were slightly off kilter – somewhere in the middle is where we both strive to be.

Which mistake do you treat more seriously and why?  Do your actions line up with your goals with respect to these mistakes?

Update: Dr. Brett Steenbarger posts an excellent response to this question on his Traderfeed blog.

17 Comments

  1. John Forman Said,

    February 6, 2008 @ 7:39 am

    Taking a slightly larger picture view, both of the mistakes here come from the mistake of not sticking to your trading plan. Follow your plan and you’ll never have to feel bad about either one. :-)

  2. Dave Said,

    February 6, 2008 @ 10:50 pm

    Taking bad trades is far worst. That’s trading on impulse and can be devastating to one’s account.

    As far as skipping good trades, that’s almost like not getting out at the top (or bottom on a short). You’ll never win them all or take every trade you see.

    They both hurt with out a doubt.

  3. eyal Said,

    February 7, 2008 @ 12:03 pm

    Seems like I might be in the minority so far. On the scale of over-trading on one end and under-trading on the other, I’d rather be slightly on the over-trading. Which in my mind means a few extra bad trades and a few extra good ones.

    John – the decision on quality vs. quantity of trades can also be seen as a parameter in the design of the strategy and plan. It’s a question of striking the right balance for the individual in terms of number of trades / win rate / overall expectancy and total P&L. So I wouldn’t consider either approach as a mistake but more of a trading style.

  4. Trading mistakes and different styles : Trader Eyal Said,

    February 7, 2008 @ 12:06 pm

    [...] stocktickr blog » Blog Archive » Which Trading Mistake Is Worse? … Which mistake do you treat more seriously and why? Do your actions line up with your goals with respect to these mistakes? [...]

  5. John Forman Said,

    February 7, 2008 @ 12:20 pm

    Eyal – I agree on your point about all of that stuff ideally being accounted for in one’s trading plan. That’s definitely the way it should be.

    Because the question was about the “mistake” of skipping a winner or taking a bad trade, and not addressed in terms of quantity over quality, I wrote my comment on the basis that the discussion was not about one’s trading plan itself, but rather the execution of it. If it were otherwise, then the two defined situations wouldn’t be mistakes. They would just be sub-optimal outcomes. If there were a pattern of the system taking bad trades or missing good ones, then obviously one would need to re-examine the system.

    So, I return to my original comment that either mistake means that the larger error of not sticking to your trading plan is being made. As such, the question then needs to be asked why you’re going off plan.

  6. oonr7 Said,

    February 7, 2008 @ 12:24 pm

    guess I’d need to know what’s we’re defining as a bad trade. If a bad trade means trading outside your plan or rules than I would say that’s definitely much worse than skipping good trades. Rationale is that if you continue taking bad trades your psychological well being will be so affected that it will cause you to question your next trade. If you wait for the good trades – while even skipping some from time to time – that will help build up your account, learn discipline… and, once you’ve traded a number of ‘good’ trades then you can take a shot at a nice-so-great setup. The less-than-perfect trades that still meet my criteria is what gets me. That and adjusting my stop too early. Very good question.

  7. John Forman Said,

    February 7, 2008 @ 12:32 pm

    oonr7 – For the most part what your said is ok, but the problem with skipping the good trades is that they can severely hamper your performance, sometimes even more than taking bad trades. If, for example, you are a trend trader, then your returns are mostly going to come from the relatively few very larger gainers. If you were to miss those trades you would be screwed.

  8. Dave Said,

    February 7, 2008 @ 12:34 pm

    Thanks for the comments, guys.

    I’ve given this some more thought and at first I was convinced that taking bad trades was worse. Having thought back on some of my worse days, I know that missing a good trade often leads to other mistakes including taking bad trades.

    It’s no doubt a difficult balance – taking every good setup but not overtrading.

    To John’s point – since every trade setup is different and discretionary traders are not computers there has to be some leeway for mistakes, however small.

    John – let’s say you had two traders approach you. One realizes they have a problem skipping good trades and the other realizes they have a problem taking too many bad trades. All things being equal – which one has the more serious problem?

  9. John Forman Said,

    February 7, 2008 @ 12:40 pm

    Dave – To my mind they don’t have two seperate problems. They both have the same one. For some reason they each are unable to follow their trading plan. The question which would then need to be answered for both is “Why?” Skipping trades would suggest a lack of faith in the system. Putting on bad trades could be the result of boredom (system needs to generate more signals) or anticipating signals or something else.

    Note, when I say “system” I don’t necessarily mean some mechanical thing. I just mean whatever method the trader uses to identify and time the entry of positions.

  10. eyal Said,

    February 8, 2008 @ 6:36 am

    John – I understand what you’re saying and in large part agree that at the end of the day, at least in theory, the plan should govern this and the real mistake would be whether one deviated from their plan or not.

    I think the difficulty is in the practical integration of this into a plan in case of discretionary traders. It is close to impossible to completely lock down the trading rules and hence the plan. A certain level of ‘intuition’ or flexibility or ‘pattern recognition’ is in play which isn’t exact science. Otherwise everyone would just program their rules into some s/w and ‘go to the beach’. Hence the mistakes are in fact just mis-applying the pattern recognition.

    Happy to hear your thoughts on this.

  11. John Forman Said,

    February 8, 2008 @ 6:59 am

    Dave – I disagree that discretionary traders cannot “lock down” their plan. I would dub myself a discretionary trader. You absolutely can define your system. It might only be in writing or something you can express verbally and not something you can mathematically quantify, but you can define it. As such, you will know whether you break your trading rules or not.

    If, as you say, you are mis-applying the pattern recognition it implies you don’t really know what you’re doing. That’s a whole other issue all together.

  12. eyal Said,

    February 8, 2008 @ 7:11 am

    If only pattern recognition was an exact science that one could apply consistently every single time :-) A doctor who mis-diagnoses a disease isn’t necessarily not knowing what he’s doing.

  13. John Forman Said,

    February 8, 2008 @ 7:35 am

    Pattern recognition can be applied every time and it has nothing at all to do with being “an exact science”. The variability comes from the fact that the patterns are being used to determine likely future behavior in price. The point, though, is that the pattern creates odds of long-run profits.

    To extend your metaphor, a doctor also looks for patterns to make a diagnosis. The advantage is that he is attempting to figure out what is going on now, not really to figure out what is likely to happen next (though, that then becomes the carry-on), and he can keep testing and altering the diagnosis as new data becomes available. If he repeatedly kills his patients, though, because he mis-reads the charts and doesn’t know that the MRI means, the medical board will conclude he doesn’t know what he’s doing.

  14. James Edwards-Marche' Said,

    February 10, 2008 @ 6:00 am

    I completely agree with John on this…after 18-months of trading I’ve finally arrived at the point were I know, at least for me, that you must have a plan- and stick to it. Otherwise you’re prey to your own emotions and environmental factors (namely the ebb and flow of the markets). The issues of “missing good trades” and “taking bad trades” becomes non-existant when you have a system/defined plan. The question I ask now is, “Am I following the plan?” I’d much rather take a loss following it rather than make gains breaking it…

    Interesting topic.

  15. Treat the Disease, Not the Symptoms | The Essentials of Trading Said,

    February 11, 2008 @ 6:55 am

    [...] for visiting!John Forman – The Essentials of Trading authorI’ve recently been involved in a discussion on the StockTickr blog on the subject of trading mistakes. The question of the original post is whether it’s a [...]

  16. eyal Said,

    February 12, 2008 @ 1:13 am

    John, what you’re saying is valid but I think you’re missing the point, probably because the terminology used in the original discussion is a bit vague.

    To my mind, the ‘mistake’ in this discussion isn’t in not executing the plan but instead in setting the parameters of the plan. It’s like choosing the level of heuristics test on your antivirus. Too sensitive and you get false positives (mistake in identification / taking bad trades), set it to not sensitive enough and you’ll miss out real viruses (mistake in non-identification / missing good trades). So the issue comes about before we even get to the plan execution, it is about which approach a trader is more comfortable with when designing his plan and what would yield better results in the long term. In that respect I think it’s up to the individual and the specific system they’re trading, how it backtests, forward-tests etc.

  17. John Forman Said,

    February 12, 2008 @ 4:56 am

    eyal – I don’t think I’m missing any point. I’ve just been addressing the discussion from the perspective in which I perceived the question to be asked – the perspective which Dave seems to have also been taking. Certainly, I don’t disagree that each trader must determine during the trading system development and testing process whether they are more comfortable with a few more losing trades (false positives) or missing some big winners (false negatives). Basically you’re talking about a low win rate system vs a high win rate system. Trend trading approaches tend to be the former and range systems tend to be the latter.

RSS feed for comments on this post