The Van Tharp Institute

January 18, 2006 — Issue #254

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In this Issue:

Workshop Special

17 Steps Phoenix Workshop.  $500 Discount Expires Today!

Feature Article

A Fun Way to Discover Your Psychological Issues Related to Trading, by Van Tharp

Trading Tip

The Dark Side of Forex, by D. R. Barton, Jr.

Listening In Backtesting, System Quality and Pyramiding 
Special Reports Reports by Van Tharp: Self Sabotage, Changing Markets

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Feature

A Fun Way to Discover Your Psychological Issues Related to Trading

By

Van K. Tharp, Ph.D.

Let’s say you take our psychological profile, The Investment Psychology Inventory, and get your profile back.  The profile ranks you in the bottom 25% and says that you should stop trading and take the Peak Performance Home Study Course before you lose any more money.  When this happens, the issues are usually pretty clear (i.e., they are stated in the profile) and you should stop trading and work on them.

But let’s look at another scenario.  Suppose you really want to be a trader, but you have not yet accumulated enough money to trade.  Furthermore, you don’t have enough trading experience to really understand your issues.  How do you discover what your issues are?

Well, I found a way and it will cost you nothing.  Let me explain.

I’m a great poker fan.  Whenever I go to a casino, I usually play poker and (at least in low-limit games) I generally will make a little money.  However, since playing poker is one of my hobbies, I now have a personal goal of entering the World Series of Poker with my poker winnings (i.e., I need to have at least $10,000 in winnings to do that) and I’d like to be good enough to actually make a little money – which means finishing in the top 10%.

I used to think that was probably impossible until I found Internet Poker.  Now I can play a few hours every day with play money and improve my skills.  I have an entire training plan laid out for myself, but over the past month, I’ve discovered how great poker is for identifying some of your personal issues that relate to trading.

In the most recent issue of Market Mastery, I’ve written about mastering Internet Poker and how it relates to trading.  I really don’t want to get into all of the details about how to do that here.  What I would like to suggest is that if you want to be a good trader, you should easily be able to master Internet Poker as well.  Furthermore,  Internet Poker will provide you with a great psychological training ground to master yourself – especially for those of you who are trading wannabes.  And I’m not suggesting you play for money.  I’m suggesting you play for free.

My recommended site is www.fulltiltpoker.com.  There you can get 1000 in play money every five minutes (i.e., if you have some money like a few hundred, you can increase your stack up to $1000).  With that money you can play in the low limit games until you accumulate about $50,000.  And then you can move into the higher limit games until you accumulate about $150,000.  From there you can move into the pot limit games and then into the no-limit games.  You might give yourself a goal of making $1,000,000 in play money.

Now the play money games don’t necessarily translate into making real money in poker because you are playing against lots of really bad players.  But what happens is that you must follow sound risk principles and position sizing principles in order to prosper.  

Furthermore, if you play well, it can be quite boring (just like trading) and lots of psychological issues can and will come out.  So here is a FREE training ground for you to learn about the kinds of issues that will affect you as a trader.

Basic Ground Rules:

      Play in games with at least 6-8 other players (i.e., 9 is the maximum).  That way, you know there are at least five bad players playing with you.

       Only bet starting hands that give you at least a 30% chance of winning the pot.  (you’ll have to learn what those are).  And even when you get one, don’t bet a lot on them in the no limit games.

       Stay with those hands only when the first set of community cards really improve your chances (or when you suspect that no one else was helped as well).

       Only bet when the expectancy is in your favor.

       For example, if you have a starting hand that will typically win the pot (i..e, with 8-9 other players) 30% of the time or more, then it makes sense to make an initial bet.  Otherwise, you’d fold your hand and most of the time it costs NOTHING to play.

       If you are drawing to an open ended straight (which gives you about a four to one chance of making it), it becomes a smart bet if you can make much more than four times your money should you win with that hand.

      Once you’ve accumulated about $50,000, then notice your equity fluctuations.  Make sure you are not risking so much that you will eventually go bankrupt.

       Develop a game plan to guide your trading.

If you follow those rules (and you can read the next issue of Market Mastery for more details), then you should be able to make a million dollars in play money in several months playing each day.  Also buy one or two good poker books  (ideally on Texas Hold’em to help you master the fundamentals).

Keep a Psychological Diary

However, here is the real key: keep a psychological diary each day you play.  When you lose a lot of money, notice whether you really made any mistakes.  For example, here are a few of the one’s I’ve noticed in myself and they all relate to the sorts of things I always watch in my trading.

       I get bored easily and then I do things that violate the basic rules given above.

       When I have a big loss, I have the urge to want to make it back quickly and take reckless chances.

       Slowly over time I’ll find myself playing weaker and weaker starting hands.

       I might play several hands at once, but when I do I cannot pay attention to the betting patterns of the other players and suddenly I’m at a disadvantage.

And once you discover those patterns, you can rest assured that they will also influence your trading.  Use the Peak Performance Course to work on the issues.  And when you’ve mastered making a million dollars or more in play money, then you’ll know that you’ve partially mastered some of your psychological issues.  However, remember that more issues will come out if real money is at stake.

About Van Tharp: World–renowned trading coach, author and psychologist Dr. Van K Tharp, is widely recognized for his best-selling book Trade Your Way to Financial Fre-edom and his outstanding Peak Performance Home Study program - a highly regarded classic that is suitable for all levels of traders and investors.

 

Trading Tip 

Trading Tip

Foreign Exchange Markets Part Two

The Dark Side of Forex

by D. R. Barton, Jr.

Last week I compared the Foreign Exchange Markets (forex) to the old “Wild West”.  A minimally regulated market, forex has both the advantages and disadvantages of a market that operates with relatively little oversight.  Today we’ll look at the downside of trading in this market, and we’ll follow that up next week with a look at the positives of trading in the forex world.

There are no perfect markets.  But just in the past few years, the Forex markets and the brokers that trade there have had more than their fair share of problems.  Here are the main concerns that potential forex traders should consider:

• Safety of your trading equity.  While rare, the financial failure of your brokerage should always be a concern in any market.  Many forex brokers are large and well-run enough to provide financial safety.  However, when considering a forex account, this is an area that requires additional due diligence due to the lack of regulation in the “off-exchange” forex market.  There are small and start-up brokerages that have potentially weak balance sheets.  While I’ve read of few reports of people actually losing money due to brokerage failure, this is a real concern in this lesser regulated market.  Unlike U.S. Stock and Futures brokers, your trades are not guaranteed by a clearing firm, and funds are rarely insured should the firm go bankrupt. Outright fraud can also be an issue.  There are very good resources for due diligence at both the National Futures Association (http://www.nfa.futures.org/ ) and the Commodity Futures Trading Commission (http://www.cftc.gov/cftc/cftchome.htm ).  Offshore accounts can be especially tricky for due diligence, so use extra caution there.

• Off-exchange trading means that your forex broker is most likely taking the other side of your trade.  When you place a trade with most forex brokers they are automatically the counter-party to your trade.  It’s easy to see that this puts you as the customer at a severe disadvantage.  If you place a trade that is not advantageous for the broker, they can ignore it (just not give you a fill), or “re-quote” you (say they will fill the order but a price that is worse for you).  There is an obvious conflict of interest with this type of trading.

• Hidden transactions costs are a big part of the forex trading equation.  Most retail forex brokers loudly advertise “free commissions.”  But forex trading is far from free.  Brokers in this market make their profits through “the spread” – the difference between the bid and the ask price.  These spreads can be quite large and typically range from 3 to 15 pips for most currency pairs (a pip is the smallest increment of price movement).  However, there is also considerable slippage in forex trading.  Slippage is the difference between the price where you wanted to execute the trade and the price actually received.  Because most brokers take the other side of your trade, they can and many will move the bid /offer price to the level that is most advantageous for them, giving you added trading costs – especially in fast markets.

While there are some key areas of concern, there are reputable brokers to be found.  And alas, all is not lost.  The forex market holds great promise for retail investors. We’ll look at the upside to the huge market next week.

I’m still looking for comments (positive or not) from traders out there who have had experience in the forex market.  Send your comments to me at DRBarton@iitm.com (please be as concise as possible.)

Until next week – great trading!

D. R. Barton, Jr.

 

D. R. Barton, Jr. is the Chief Operating Officer and Risk Manager for the Directional Research and Trading hedge fund group. D. R. has been actively involved in trading, researching, and teaching in the markets since 1986.  D. R. has taught extensively in many investment areas including intra-day trading, swing trading, and cutting edge risk management techniques. 

His writing credits include co-authoring Safe Strategies for Fin-ancial Fre-edom and co-creator and contributing author on Fin-ancial Fre-edom Through  Electronic Day Trading.

 

Listening In...  

From Van Tharp's Mastermind Forum

Backtesting, System Quality and Pyramiding 
Author: Ed 
Date: 01-13-06 16:38

When backtesting a system that uses more complex money management rules such as pyramiding on a winning position, how should one compile this data for evaluation of system quality?

For example, should you evaluate the system based on:
1) The initial position only and ignore any additions to the position;
2) Each position as a separate trade (i.e. initial position and 4 pyramids = 5 trades);
3) Each initial position and any additions as a single trade (i.e. initial position and 4 pyramids = 1 trade).

I can foresee that using Option 1 would probably be the harshest look at the system, but that the other options may show that a marginal system could be a very good system with a more aggressive approach to maximizing the effect of winning trades.

Thanks,
Ed


Reply To This Message 

Re: Backtesting, system quality and pyramiding 
Author: Terry
Date: 01-13-06 20:38

Hi Ed,
I view each position and additional positions as separate trades since each one has a different reason for being. Then I do a post analysis to see if my views were properly executed.
Terry


Reply To This Message 


Re: Backtesting, system quality and pyramiding 
Author: ken long
Date: 01-14-06 00:17

I agree with Terry for his stated reasons. Since I have a number of patterns that generate opportunities, I want to see if the best use of my capital at a given moment is to make a pyramid entry or fund a different pattern.

The average pyramid might be a winning trade yet have worse characteristics than the average new entry in another pattern and I want to be able to assess that.

Cheers,
Ken 

Editors Note: As Always...read the complete and unedited thread  at the link below. Look for the title Backtesting, System Quality and Pyramiding , to read many more posts on this topic.

Participate on Van's Trading Forum, a place for traders and investors to share ideas and learn from each other.

Special Reports By Van Tharp

Click below to read page one of each report, or to order. 

Self  Sabotage - Two Reports of Self Sabotage

Does Your System Still Work in Changing Markets?

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