Saturday, January 31, 2009

Decision Making

When we trade we need to make many decisions. What stock will I choose? What strategy will I use? When will I enter? Am I bullish or bearish? What is my exit strategy? Will I set a stop to buy? Will I set a stop loss once I have entered? What reward to risk do I seek to attain with the trade? Will I bother to create a trading plan? These are just a few of the decisions we must make as traders.

As I have often said and occasionally written, one of the best pieces of advice I ever got was from a colleague regarding decision making. We were talking about the difficulty so many people have making decisions and my friend said that it is often more important to make the decision than what the decision actually is. "Naturally," he said, "the decision may be wrong, but then all we have to do is make another decision and fix it." So often, I have seen traders (and other people) absolutely agonize over making a decision. They try to gather every fact relevant to the decision and then worry over it for prolonged lengths of time only to find once they have finally made the decision that some fact changes immediately after they have decided and it makes the decision wrong or inappropriate.

Should I buy XYZ? It was going up, but it just took a dip. Earnings have been good, but the next earnings are set to be released in a month. I like the CEO, but there is a rumor he might be leaving. Their product is super, but rumor has it that the ABC company might be releasing an improved product in the next six months. There is almost always a "but" in any analysis we make. We simply can't know what a stock or the market will do tomorrow.

The only time we can make a decision is now. As Dr. Ari Kiev wrote in "Trading to Win" (John Wiley & Sons, 1998), "Waiting for the right answer before you act is a trap. You may think you are doing something when you are deciding on the right way to go or the right path to follow, when in fact you actually are mired in your own thinking. The issue is to choose or not to choose, not choose the right answer."

If we buy a stock, for example, we can be right or wrong. The issue for us is to decide what to do when we see we are wrong or when we see we have been right. In my view, that is what an exit strategy is all about. If we are wrong, we should get out, that is what cutting losses is all about. If we are right, we should stay in until the play turns against us. That is how we let profits run. In either event, we need to make the decision now.

by Bill Kraft, Editor
Copyright 2009, Makin' Hay, Inc.
All Rights Reserved

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To comment on Bill's article click on the "comments" link below.


george oram said...

decide on the sector in which to invest and buy an etf/

Anonymous said...

Maybe I have become disillusioned with investing as it appear that the stock markets have just become the worlds biggest LosVegas from reading all the diffrent emails I receive & business news channels I watch no one or better only a few invest in a company to help it grow but, rather it seems like most are out for a quick buck. With this line of thinking its Let our goverment bail them out of trouble. Not invest in them to give them the capital to grow.

Anonymous said...


Usually your advice is sound, but telling people that choosing to make a trade or not is more important than planning the trade, having an exit plan, knowing the risk, etc. is just plain wrong.

Money thrown at the market tends to disappear rapidly. If traders decide to impulsively place trades, my only hope is that I'm personally on the other side.

My advice to traders (and my annual average return is 20%+ from 2002 to present) is spend your time BEFORE you spend your money.

Bill M.

Anonymous said...

The comment from Bill Kraft and Bill M (3rd comment) are the essence of trading. For me both comments are true depending on where we are (sound philosophy). But it's a fact. Think about it !.

Frans W

Anonymous said...

From what I learned from trading is that not have stop-losses can decimate your trading capital, so he definitely right in cutting your losses early and moving on to the next trade. Taking too long to make decision can hurt your possibilities of being in a stock that is increasing in price, but you need to balance the two and should trade for the sake of trading. Myself I pick a helluva time start trading in this choppy bear market, but in the long run this will make us all better traders.

Bill Kraft, said...

George, thanks for writing and that may be a good way for many investors if they see a sector moving up or beginning to move up. Once again, as Bill M wrote, it is also important to decide on an exit strategy before entering a position.
Bill Kraft

Bill Kraft, said...

Thank you for writing, Anonymous. Many traders do treat trading as gambling and, to my mind, that is a huge mistake.
Bill Kraft

Bill Kraft, said...

Bill M, if I left the impression that I thought traders should make impulsive trades, I certainly didn't mean to. That would be nonsense. I was writing about the decision making process in trading which includes decisions involved in planning the trade, being aware of risk and deciding upon exit strategies. I guess I wasn't sufficiently articulate if you got that impression. As anyone who had read my book can attest, I am utterly and completely on board with the notion that each trade should be planned with a pre-determined exit strategy. Thanks for helping me clear up any misconception. My point is that only once those decisions are made, it is time to pull the plug and make the trade. Many traders I have seen just fail to make those decisions in getting to the trade.
Bill Kraft

Bill Kraft, said...

Thanks for writing and reinforcing the important principles, Frans.
Bill Kraft

Bill Kraft, said...

Thanks for writing, Anonymous. Your point about stop losses is really important and even when we get whipsawed, which certainly can and does happen, at least we prevent losses that have recently cost many, many investors 40% or more of their accounts.
Bill Kraft