Most individual investors, whatever their background, don't want to cut losses because they're programmed since childhood with an aversion to… being wrong.
We all want to be right.
As a result, they sit, paralyzed, in losing trades far longer than they should, letting small (manageable) losses turn into huge (catastrophic) losses.
It's unsurprising, if you think about it. It's all in the programming.
Most professional traders, on the other hand, don't have this problem. In fact, they don't particularly care if they are right on every trade. This sounds crazy, but it's not uncommon for a professional trader to be wrong 75% – 85% – or more – of the time.
In fact, I remember legendary trader Dennis Gartman explaining once that the more trades he was "wrong" on, the more money he made at the end of the year.
Let me show you how this counterintuitive, profitable mindset works. You're going to love the gains you start pulling down once you see this…
Profit Comfortably… and Be Wrong 80% of the Time
Like I said, this sounds strange, but it's actually really simple:
Keep your losses small. Very small. And let your winners run.
Basically, you're being very conservative with your downside risk while being aggressive with your gains.
A little simple math will go a long way toward illustrating this point.
If you have a $100,000 trading account and you limit your losses to just $1,000 of your overall capital, you can be wrong eight times in a row and you'll only have lost $8,000, a mere 8% of your "bankroll."
Follow those eight losing trades with two $15,000 (or 15%) winners and, bang, you're up 22%, sitting on $122,000.
Talk about taking it easy on yourself – in this example you can be wrong 80% of the time and you're still up 22% after 10 trades.
Professional traders refer to this as "reward/risk trading," because the potential reward far surpasses the risk.
In my Small-Cap Rocket Alert trading service, we take this approach all the time, and we just took profits from our sixth triple-digit gain of 2016. At the same time, we’re down on just two of 16 open stock positions as I write.
Just to be clear, I'm not suggesting you use 1% trailing stops on your positions – although you could do that if that's what fits your risk tolerance and trading style.
For example, check out the following scenarios based on that hypothetical $100,000 chunk of capital I mentioned.
If you establish a position worth $5,000, you could absorb a 20% loss on the position and still "limit your loss" to $1,000. In this example, your $5,000 "position size" represents 5% of your overall capital (of $100,000), but the amount you're willing to risk is only $1,000 – or 1% of your capital.
Let's say you establish a position worth $10,000. You could absorb a 10% loss on the position and still "limit your loss" to $1,000.
Or you might take a position worth $20,000. Then you could absorb a 5% loss on the position and still "limit your loss" to $1,000.
You can move those numbers around till the cows come home to get different variations, but there's one very important risk-management consideration to remember…
About the Author
Sid is the investment community's best-kept secret. Since 2009, he's served at Money Map Press as Director of Research, analyzing thousands of securities and profit opportunities for subscribers. He's an expert in identifying "alpha" potential in a wide variety of industries, but especially the small-cap sector, where he's discovered a pattern of profits that's almost foolproof. In Small-Cap Rocket Alert, Sid uses a single precise trigger - the "Launch Alarm" - that consistently forecasts when small-cap stocks are on the verge of propelling to new highs, making investors potentially life-changing gains in the process.