When I graduated from college my father wrote me a note that said, “Rent everything from underwear on out.” He probably never thought I would take him seriously, but I have. I’ve never owned a house. I haven’t owned a car in two decades and probably the most expensive thing I own now is the MacBook Pro I am typing this column on.
Much to the horror of my wife I like to buy my suits in bulk from Amazon (it’s amazing what custom tailoring, a nice shirt from Nordstrom plus a tie from Zegna can do for your wardrobe) I buy my watches Groupon and winter wardrobe consists of a 10-lot of black V neck sweaters from Old Navy which I will toss out by next May.
It’s not that I am cheap — in fact, I rarely ever look at price tags or even check a restaurant bill — it’s that I have never been particularly materialistic. I don’t have that pornographic desire to fetishize things. As long as something is comfortable and functional — I am more than happy.
This isn’t a moral screed by means. When I am in other people’s houses who have curated many beautiful, expensive things such as paintings, furniture or fine China I am genuinely touched by the aesthetics of their taste. But can’t imagine such a life for me.
My first thought at being surrounded by many expensive items is the absolute dread of having to care and protect them. One of the great liberating aspects of my life is that I own nothing that I care about losing. Did my daughter spill chocolate on my suit? Garbage. Did my dog chew the inner lining of my shoe? Garbage. Did my watch get condensation on the crown? Garbage.
I often joke to my wife that I could leave with a carry-on and a knapsack and reconstitute my life anywhere. I’d just have to buy new screens. (She, on the other hand, would need the Queen Mary to move her possessions). This way of life may sound absolutely horrible to some of you, but the upside of my lifestyle is that I don’t suffer from the sunk-cost bias.
Sunk-cost bias, of course, is the single biggest challenge in trading and investing. It’s the human tendency to value what we pay for. The more we pay for something, the harder it is for us to let go. The bigger our trading position the harder it is for us to take a stop. Think about it. You have a system you like. You test it on real market prices at 1000 units per trade and you pretty much follow the rules to script. Then you decide to get serious and increase the size to 50,000 units and the first trade that goes against you — you start to violate your rules. It’s easy to lose money on 1000 units, it’s much harder to accept the market’s judgment on a position 50 times as large.
That’s sunk cost bias and it sinks almost every retail trading account in FX.
I wish I could tell you that my lack of material desires makes me a perfectly disciplined trader. It does not. Despite my non-materialistic ways I am subject to the sunk cost bias as much as the next guy and have ruined many an account trying to resuscitate a large trade gone wrong.
But I do have an idea.
Create an FX version of my throwaway life. Suppose you have a $10,000 account. Take just $2,000 of it and put it into your “trading account”. Keep the other $8,000 as the “bank”. Think of the “trading account” the way I do about my Amazon suits. Be fully prepared to lose it all. Surprisingly enough this will provide you with the mental freedom to honor your stops. Using US margin regulations (which are around the mid-level of global stringency) you can trade 30,000 units at once and still have plenty of margin left for adverse price movement, This will make each trade meaningful but not terminal to your overall capital. The side benefit is that even if you lose your head and revert to the sunk-cost bias, market regulations will take you out at a margin call and will preserve up to 50% of your “trade account”. Worst case scenario you will lose between 1,000-2,000 bucks and will have 8,000 more left safely ensconced in the “bank”.
Is this the ideal way to trade? Is this the optimal way to trade? Is this the most efficient way to trade? No, no and no. But it is the most human way to trade and when it comes to the markets we need any crutch we can get.