This week a trading partner and I (I'll talk more about that down the road) had an interesting discussion. We instituted a new directional bias in a strategy and with it there's a lot of down time. Although we're not watching charts in a discretionary way, there's still a lot of chart watching that goes on. Honestly we can't help ourselves. Although the down time of the bias is a good thing, the bias is keeping us out of the whipsawing market, there's a lot of time where nothing is going on. The whole process makes you anxious and bored.

In response to this additional downtime we wondered whether or not it would make sense to pick up more pairs outside of the normal set of pairs we were using. We both discussed it at length. The end result for me was a real teachable moment, because you see the smart money is not interested in "how much I can make" but instead "how much will I risk." We concurred that often when trades are going on they are going on with multiple pairs at the same time. The point being that just because you might like to extract more money from the market, you would be forced to take on risk that is outside of your established trading plan in order to get these trades on. For me this was just a clear reminder of the mindset difference between the smart money and everyone else.

Ed Ponsi's book Forex Patterns & Probabilities hits home this point very well. Near the end of the book he discusses the potential for hedge fund trading. Ponsi lays out the scenario of two traders. One trader sees 100% returns but also experiences significant drawdown in the process. The other trader sees a consistent 10% return but drawdown is kept to a minimum. The hedge fund is going to pick the second trader to manage his money because the question for the investor is not, "How much money are you going to make me?", but instead, "How much of my money are you willing to risk?"

It's easy to get greedy in the trading business. It's easy to think about the freedom, the endless opportunities, and rewards that come from winning big. But if I'm going to be part of that 5%, that is winning, then I need to start thinking like the smart money.

This week I'll be making my way through Mark Douglas' excellent book Trading in the Zone. It's the second time I'm reading through it. Although it's a bit heavy on the psychology, it is helping to reinforce the ideas presented here.

Happy trading!

Trading foreign exchange on margin carries a high level of risk, and may not be suitable for all investors. The high degree of leverage can work against you as well as for you. Before deciding to trade foreign exchange you should carefully consider your investment objectives, level of experience, and risk apetite. The possibility exists that you could sustain a loss of some or all of your initial investment and therefore you should not invest money that you cannot afford to lose. You should be aware of all the risks associated with foreign exchange trading, and seek advice from an independent financial advisor if you have any doubts.

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