Opportunity cost

[clylbw]

Hi,

I consider it as the opportunity cost, but my apology if I have got it wrong.

It goes as follows. Because our trading capital / resources are limited, when we take a trade, say trade A, in one instrument by committing part of our capital / resources, we implicitly refuse that part of capital / resources the possibility of another profit opportunity in some other instrument, which is the opportunity cost of trade A.

Suppose I am holding a position in instrument A. The price has moved a bit and the trade is in a small paper profit, but price is stalling at the moment. On the one hand, it has not hit my target to close the trade; on the other, it does not meet my stop / exit criteria, either.

Then I see a favourite setup in another instrument B, which I estimate from experience will bring in a big move next. However, in order to take this setup, I need to close my position in instrument A and use that part of capital.

My question is: should I?

If I did so, I would violate my trading plan, because my plan does not indicate an exit or closure of my current position. Besides, I would not know if there would be a big move coming later in instrument A.

If I did not, there seemed to be a great opportunity cost, especially if the setup did bring in a big move in instrument B, while the price of instrument A continued to drift. Or does such thinking fall into the trap of greed?

I have rumbled quite a bit, but hopefully have made myself clear. Helpful advice will be much appreciated. Many thanks.

 

[cj12]

If trade (a) is stalling and your in profit although it has not hit you target. and you feel strongly that you see a better set up on another instrument. get out of trade (a) and go for trade b

 

[JumpOff]

Seems like you can incorporate this into your trading plan if you want to. As long as you have tested your setups and know the likely relative outcomes, if the new opportunity has proven more profitable than the one you are in, why not write a rule that says you must close the position you are in and open the position with better stats.

JO

 

[dbphoenix]

It's called the "greener grass syndrome", and it afflicts practically everybody at the beginning. Rather than make the most of what you've got, you're always looking for something better. And as soon as you flit to the next flower, the flower you were sitting on bursts into bloom. By the time you flit back to it, the bloom is off, and the flower you had just flit to and left now bursts into bloom itself.

If the first trade isn't working out, you likely chose the wrong instrument or hadn't applied your setup criteria properly. But if you did everything right, you haven't incorporated time stops into your plan, and it just so happens that this time the trade is taking longer than usual to put out, then you at least made the correct decision in using only part of your capital for the trade. This keeps most of your capital available for the other trade that you want to take. If all of your capital is tied up, then at least paper trade it and learn something from the experience.

 

[turtle trader]

If at all possible, you should be trading in a smaller size so that you can take both positions. If your resources are so limited that you can only take 1 trade in your preferred instrument at a time then you could consider trading a different instrument that allows you to trade smaller sizes.

Simon

 

[chump]

In the very specific case outlined I would stick to my rules for the trade otherwise you are falling into the trap of making a prediction..actually two predictions..first what is going to happen to your existing trade and second what you think would happen to your intended/preferred trade..given that rules are the main defence we have against allowing our predictive biases to rise up and bite us in the wallet I would defintely stick to the rules

 

[mofo]

wouldn't the issues here be
- time, because the plan should incorporate a time element in terms of deciding beforehand to exit after a pre-determined period if things didn't go as you believed they would when you entered. Otherwise you are just tying up capital unproductively and unnecessarily.
- The % of your capital allocated to each trade, if done correctly this would allow you to take another position without difficulty
- Your experience / ability to manage and monitor multiple trades

 

[JohnDoe]

As A is not performing as desired, and you see that price is stalling, you must get out of A and take any profit you have. Be thankful for this profit. Of course, you could stick to your plan and wait for a loss. It's up to you. Not every trade will win, and we must be thankful for what ever we can take.

The subject of time stops was raised. This is a good idea. If we havent met our objective within a predefined time then the market is not acting as it should. It is time to exit with either a small profit or loss.

Being a trader involves sticking to rules yes, but also knowing when to break them.

What ever you do, do not start drawing up new rules for this situation as someone else suggested. Keep the plan as simple as possible to avoid confusion. If we drew up a new rule for every trade we missed, we are effectively disregarding all the hard work we put into developing the plan in the first place. We are also curve fitting our plan to the current situation, not on what the market does on the basis of probability that we have already identified. In other words, we would now be going AGAINST the probability we have already determined exists on a non-random basis.

Trade B is irrelevant to trade A, and should not be discussed. Each trade is a unique event. We can not and should not expect to be in every winning trade that comes along. To do so is to be greedy. This is one of The Seven Deadly Sins, and will be our downfall.

 

[JumpOff]

It seems to me that there are two big "ifs" at question here. Do you have enough capital to enter two positions? Are all setups (opportunities) equal? My understanding of clylbw's first post is that the answer to both of these is "no". It is a classic business problem, but with a difference. Most businesses have plant, equipment, employees, product lines, etc... The cost of stopping one thing and starting another is huge. Traders on the other hand seem to me to be more like honeybees working a field - If the flower you land on isn't as loaded as you thought, - you can be at the next one that shows signs of being loaded in half a flap of your wings. But do you really know which flowers are likely to be loaded, or is it just a random guess?

Clylbw's first post indicated his current trade was positive, but had stalled. The second opportunity had signals of a big move. I assume clylbw entered the first position because it also gave signals of a big move.

I believe the question to be asking is "how have these kinds of situations played out previously?" Of all the trades I entered, where my tested setup shows the likelihood of a big move, if it stalls in this way after I enter and get to B.E., how often does it go on to the big move? If the current position is long, what do you mean by "stalled?" I assume you mean the price is not rising but going sideways. Has it broken the TL? Is the price bouncing off support like it touched a hot griddle, or is it kind of reclining there, acting like it doesn't care? What does your testing show you about this kind of action and how often does it play out in your favour?

Clylbw entered the current setup because it was the best opportunity at the time, and is already at BE, so the risk in this position is greatly reduced. The cost of moving to a new position is that you give up whatever low risk gains might accrue to your current position, and you must assume the total risk of entry again. (stop + spread + commission)

Not all setups are equal, but is the new trade that much better than the one you are in?

JO

 

[dbphoenix]

I'm afraid I have to disagree with a blanket statement that one should get out of an issue that's stalling. As often as not, the stalling is nothing more than preparation for a further advance.

However, the suggestion that one should not make alterations in the midst of it all is an important one. If, for example, time stops are not part of one's plan, then develop a set of criteria to be applied in the next trade. But exiting the current trade out of boredom or impatience is not what one would call "sound practice".

One can avoid all of this by employing conditional or pre-emptive stops. These prevent the trader from just sitting there like a deer in headlights.

But, again, this is all stuff to be incorporated into the plan and applied in future trades. If one wants to get out of a current trade for some reason, then go ahead and get out of it. But then don't bang your head against the wall if the issue rockets ahead as soon as the exit is triggered.

 

[JohnDoe]

If the first trade isn't working out, you likely chose the wrong instrument or hadn't applied your setup criteria properly.

Sorry, I do not agree.

Not every trade works our way, no matter how skilfull we may be in our trade selection.

Beating oneself up and blaming ourselves for picking the 'wrong instrument' or applying 'set-up criteria' just puts more stress and pressure on the trader. Losses become internalised and then the trader is on the slippery downward slope.

Anyway, entry point (and the ability to find one) has very little to do with a traders overall success when compared to other essential skills.

 

[dbphoenix]

Quoting that particular sentence in isolation, you're correct. However, I was responding to the post as a whole. Without knowing the setup or the plan, only general statements can be made and they are more often wrong than right, which is why I said "likely".

As to the unimportance of entry point, I consider it to be critical, but that's another subject, one which has been "debated" (argued, fought) at length elsewhere.

 

[dbphoenix]

Seems I misunderstood "when we take a trade, say trade A, in one instrument by committing part of our capital / resources . . . " to mean that he had used only part of his capital. If he instead put everything into one trade, that's a different kettle of fish.

 

[JumpOff]

I think the question is still the same,no matter what the trading size or whether she has 1 position open or 4. If she sees a "class A" type setup, but must close one or more positions to enter, how is that decision made? The decision is best made in advance of this moment. Surely this is a common struggle?

The trading plan must deal with this ahead of time, by ranking the stable of setups . There may be "class B" or "class C" setups that are proven profitable, but not as profitable as the "Class A" types. If the "Class A" setups are too rare, ie; a person could get grey waiting for them, then the trader must put capital to use on the best proven setup that is available at the time. So now we find ourselves in a "class B setup," its a little past BE and likely to produces a nice little profit, when we see a "class A setup" develop.
JO

 

[dbphoenix]

Well, given the information made available, it's difficult -- if not impossible -- to say. I don't have "Class A, B, C" setups, and I don't understand what is preventing the entrance into another position if the trading capital is available. But hey . . .

 

[JumpOff]

Well, given the information made available, it's difficult -- if not impossible -- to say. I don't have "Class A, B, C" setups, and I don't understand what is preventing the entrance into another position if the trading capital is available. But hey . . .

Are you saying that all of your setups have tested equally in the percentage that work and the amount of profit they produce over the long run?
:!:

JO

 

[dbphoenix]

I have only two and they aren't interchangeable.

 

[JumpOff]

I have only two and they aren't interchangeable.

So you are saying that if you are in setup #1 in instrument "A", and you see your setup #2 in instrument "B," then there is no reason for you to close setup #1, right? They are both equally likely to produce the same amount of profit? (or at least close enough that one is not favored over the other...)

JO

 

[dbphoenix]

I'm afraid I'm getting lost here. Could you relate this to the original question? Or perhaps Clyde could amplify? The suggestions I made were general because the question was general. But the thread's about Clyde.

 

[turtle trader]

I think the question is still the same,no matter what the trading size or whether he has 1 position open or 4. If he sees a "class A" type setup, but must close one or more positions to enter, how is that decision made? The decision is best made in advance of this moment. Surely this is a common struggle?

The trading plan must deal with this ahead of time, by ranking the stable of setups . There may be "class B" or "class C" setups that are proven profitable, but not as profitable as the "Class A" types. If the "Class A" setups are too rare, ie; a person could get grey waiting for them, then the trader must put capital to use on the best proven setup that is available at the time. So now we find ourselves in a "class B setup," its a little past BE and likely to produces a nice little profit, when we see a "class A setup" develop.
JO

An appropriate trading plan would consider the account size and dictate the number and size of trades to be taken accordingly, thereby eliminating the question altogether.

Accurate testing of strategies is hard enough as it is - trying to test how to adapt one in response to a signal from another seems to me to be practically impossible, and should be avoided.

Simon