Forex Trader Wisdom
This axiom is thrown around forex trading circles as if it were wisdom. While the intention behind this statement is well meaning, it is a gross oversimplification and quite short sighted. Ask any professional forex trader if they add to losing trades and they will say NO! But then also ask them if they put their entire trade on all at once at one price and they will also say NO!
See professional forex traders DO add to losing trades, but there is a very specific reason why they can do this. Losing traders put their entire trade on all at once and only really have one trade size which is “all in”. Placing the same “bet” on every trade virtually guarantees you will lose in the long run.
Forex Traders Edge
Just like if you played poker and bet all in on every hand, you would not last long in that game. Or in blackjack, even if you are Rain Man himself, if you bet the same $100 on every hand you will still lose. It is the bet variance that gives a player or forex trader his edge. Losing traders never take the time to stop and think these things through or work them out mathematically.
So when a person says “never add to a losing trade” they are partially right. Let me explain. They say that with the assumption that you already have your max position size on. If you already have your max position size on and you add to the trade then that IS foolish and will lead to much larger losses in the long run.
But “scaling in”, as it is called, is a forex traders risk management technique that serves to reduce and better manage risk not add to it recklessly. Scaling a trade simply means breaking up the order into many smaller orders. For example:
Scaling a Trade
Let’s say you wanted to go short the EUR/USD. Let’s also say your max loss on a trade is $500. Instead of just selling one standard lot and running a 50 point stop which would equal your $500 loss limit if hit, you could scale your order in the following way. Break the one standard lot up into 3 -5 mini lots. Let’s use 5 lots of 20k each for this example.
So instead of getting in all at once with the full 100k at one price a good forex trader slowly scales into the trade 20k at a time at different prices, some when the market is against the initial entry and others as it starts to go your way. In the end you are likely to end up with a better average price than you would have otherwise gotten. Also, and this is the real key, it breaks up your emotional response.
What I mean is let’s say you have gotten 40k of the 100k you are willing to get into filled. And then something changes that makes you decide to cut and run…well now you only have on less than half of your normal trade size so a cut and run will not hurt as much as if you had already gotten into your max.
Avoid the Dreaded Whipsaw
Also you would scale your stops so instead of getting stopped out of a trade all at once you slowly scale out of the trade as well that way if it spikes and hits your first stop but not the rest you have only been taken out of a portion of the trade not the entire trade. Basically it is a way to try and avoid the dreaded “whipsaw”.
Professional Forex Trader
So to recap, “never add to a losing trade” is only true assuming you already have your max trade size on. Learn to scale your trades and you will be one step closer to becoming a professional forex trader.
