Today I want to consider the subject of over-trading. This can take two forms:

• Frequency of trading: we over trade when we take trades in breach of our strategy.
• The amount at risk relative to our capital: we over trade when the size of our position threatens risk of ruin.

Frequency of trading assumes that firstly we have some sort of strategy and that you have have developed some rules to implement that strategy. And, secondly, we execute trades in breach of those rules – we take trades not within our rules.

In my experience, newbies generally over trade as a response to a larger than expected loss or when faced with a series of consecutive losses even though they have been following their rules. The desire to recover a loss quickly usually drives the first error; the second tends to be driven by a sense of ‘justice’: “why am I not being rewarded if I have been so good”?

To deal with this problem, we first need to develop a set of trading rules and risk management rules. Then we need to recognise that trading is a probability game and as such, there will be times when the rules and the market environment don’t fit (what I call the Ebb State).

Under those conditions, we need to reduce our ‘normal’ position size, risk per trade and frequency of trading (the latter by using only the most robust of our setups). There will be times when our methodology and market conditions fit perfectly (what I call the Flow State). Under those conditions we can do no wrong; and in the Flow State, I increase my ‘normal’ position size and risk per trade.

[I don’t want to give the impression that we are either in the Ebb or Flow State. Those conditions are the extremes. Usually we are somewhere between them – some wins, some losses. In short, we are usually in the Normal State].