Learn/ Psychology/ Lesson 02

Psychology · Lesson 02 7 min read Beginner

The trade after the loss

Statistically, the most expensive trade most people take is the one immediately following a loss. It is taken by a different decision-maker than the one who wrote the rules, and it has a recognisable shape.

The shape of it

The sequence is remarkably consistent across people who have never met.

  1. A loss is taken. It was planned for, it was within the rules, and it is small.
  2. The next trade is entered sooner than usual, on a weaker setup.
  3. It is sized larger, to "make it back in one".
  4. It fails. Now the hole is genuinely large.
  5. Steps 2 to 4 repeat, faster and bigger each time.
One planned loss, and what followsIllustrative
The first loss is the one the system was designed to absorb. Everything after it is improvised. By the fifth trade the session has cost thirty-one times the unit risk — thirty of which were never authorised by any plan.

Note the proportions. The planned loss is 1R and unremarkable. The unplanned response is 30R. This is why the trade after the loss deserves a lesson of its own: it is not a slightly worse decision, it is a different order of magnitude of damage.

Why the next one is worse

Three mechanisms, all well documented and all operating below the level you notice.

  • The need to be square with the day. The mind treats the session as a closed account that ought to end at zero or better. That is an arbitrary boundary — the market does not know when your day started — and it converts a small loss into an urgent problem.
  • Risk-seeking in the domain of losses. People who take the safe option when choosing between gains will take the gamble when choosing between losses. Facing a certain small loss and an uncertain larger one, the uncertain path becomes attractive. This is the exact reversal that produces averaging down.
  • Standards fall as urgency rises. The setups you would have dismissed at 10 a.m. look acceptable at 2 p.m. with a loss on the books. Nothing about the setups changed.
The session in which all this happenedIllustrative
Look for the setups. There are none — no trend, no clean level, no compression resolving. The five trades after the loss were taken into this. The market was not offering opportunities; the trader was manufacturing them.

The market has no idea you lost money this morning. You are the only participant who thinks today needs to end at zero.

Recognising tilt from the outside

By definition you cannot notice this by introspection — the state itself is what does the noticing. So it has to be recognised by behaviour, which is observable.

  • You are checking the screen more often than usual.
  • The time between your trades has shortened.
  • You are on a lower timeframe than the one you normally use.
  • You are trading an instrument you do not usually trade.
  • You have not written anything down for the last several trades.

Two or more of those together is tilt, whatever it feels like from the inside. The behaviours are reliable and the feeling is not — which is why the list is worth keeping somewhere visible.

Circuit breakers

Set these when calm. They only work if they are automatic.

  1. A daily loss limit, in R. Two or three units of risk, and the platform is closed for the day. Not reduced size — closed.
  2. A mandatory pause after any loss. Fifteen minutes, away from the screen. Most revenge trades are entered within five.
  3. The setup must be written before entry. If you cannot state it in one sentence, there is no setup.
  4. Never increase size on the trade after a loss. The single most valuable rule on this page. Same size, or smaller, or nothing.
Common mistake

Believing you have solved this because you understand it. Everybody who has ever done it understood it beforehand. Understanding operates in the calm state; the behaviour happens in the other one. The limits have to exist as rules that act on their own, because the version of you that needs them is not the version reading this.

Read it yourself

Practice
  1. You take a planned 1R loss at 10 a.m. What is the correct size for your next trade?
  2. By noon you are down 3R and your daily limit is 3R. A genuinely good setup appears. What do you do?
  3. Why is a daily loss limit set in R rather than in rupees?
Show answers

1. Exactly the same as it would have been if the loss had not happened — the sizing calculation does not take your morning into account. If the answer that came to mind was "slightly larger", that is the mechanism, working on you, right now, with no money at stake.

2. You stop. That is what a limit is. The setup may well be good and you will miss it — that cost is known, bounded, and was accepted when you set the rule. A limit you override on good setups is not a limit, because every trade looks like a good setup at the moment you take it.

3. Because R stays constant as your account changes, and because a rupee figure invites renegotiation — ₹12,000 feels different on different days and against different account sizes. Three units of risk is three units of risk whether you are up 40% for the year or down 20%.

Terms used

Tilt
A state in which decisions are driven by the last outcome rather than the current setup.
Revenge trade
A trade taken to recover a loss rather than because a setup exists.
Daily loss limit
A predetermined point at which trading stops for the session.
Mental accounting
Treating a day or a trade as a separate account that must balance.
Risk-seeking in losses
Preferring an uncertain larger loss to a certain small one.

Practise this on your own charts

The Psychology track works through 3 lessons like this one, each built around a drawn example and an exercise you complete yourself.

See the Psychology track