Philomena's recent post brought to mind a key principle from another life setting. Even those with no experience in the financial markets may recall hearing, "Cut your losses short, and let your profits run." Sounds great, but very few people understand and apply it correctly.
If you were offered two systems with the following characteristics for trading in a financial market, which would you choose? System #1 wins (makes money) 60% of the time. The average loss on losing trades is $600, while the average gain on winning trades is $400. System #2 wins (makes money) 30% of the time. The average loss on losing trades is $500. The average gain on winning trades is $2,500.
If you're smart, you'll choose system #2. Over the average ten-trade sequence, it makes $4,000. System #1 only breaks even. You'll notice, however that system #1 wins ("is right") more than half the time, and twice as often as system #2, which "is right" less than 1/3 of the time. Psychologically , it is very difficult for people to execute system #2. Losing streaks of 8, 10, or 12 trades in a row are not uncommon. One must "book" losses more than 2/3 of the time overall. Each such booking amounts to an admission of having been wrong about the direction of the market. System #1 feels more like success in the short term. Being right more often than being wrong feels like success. The pleasantness of this feeling leads most traders to book many small gains quickly, while letting losses run in the hope that they will eventually turn into gains. Notice how this amounts to standing on its head our original principle. That would be, "Cut your profits short, and let your losses run."
All this is a major reason why the great majority of traders (in the futures markets, for example) lose money. They have not reckoned with the fact that their aim should be to profit, rather than to be right. That these two are not the same amounts to a very great stumbling block.
Back to Philomena and her internal debate as expressed at the end of her post. I want to enthusiastically affirm her resolve to be "a dumb blonde," if that be necessary. For that simply involves booking a number of small losses, making several admissions of having been wrong in her initial perceptions. Dating systems are probably a lot like trading systems; most of the best ones book many small losses, but lead to great profit in the long run.
The next post will highlight a biblical principle that parallels this trading principle. It offers us great hope (profit), but only if we will book our losses promptly, rather than letting them run. Future posts will include further trading principles, examples of biblical principles which parallel these trading principles, and the application of both to other real-life situations.
Albertus
Like a fresh yet familiar wind, my friend. Preach on!
Posted by: Didymus | July 03, 2006 at 04:05 AM
Thanks Albertus! You've encouraged me in my dating life and strengthened my finances.
Posted by: Philomena | July 03, 2006 at 11:25 AM
Philomena,
If you were a guy, you'd know that those two things never go together (increased dating and strong finances)!
TM
Posted by: Thomas More | July 03, 2006 at 12:02 PM
After recently finishing "1776"--a great book--and touring some Revolutionary War historical sites in New Jersey, another application of this post comes to mind. It's also timely given the recent July 4th celebration.
General Washington understood that normally a military leader is graded, and probably grades himself, on battle victories. But the old "win the battle, lose the war" saying is truer than the immediate grading.
Washington lost most of the battles his army fought in. But he kept the army together, and eventually triumphed. It probably would have gone much differently if he was only interested in tactical victories, that would have so depleted his army, he could not have slogged it out over the long haul.
In fact, if he'd only graded himself on battle successes, we'd all probably be speaking English right now...oh, wait, that's another story.
Anyhow, accepting short-term losses for long-term gain worked in the Revolution, on the other side in Vietnam, and might be the issue today in Iraq.
With each bombing we hear about the short-term problems. But what does the big picture look like? As Albertus Magnus and George Washington show us, sometimes we have to swallow our pride in the moment, to achieve the greater good in the future.
Pyrrhically yours,
TM
Posted by: Thomas More | July 10, 2006 at 11:42 AM