How to Develop “Conviction” in Your Trading

“The way to build long-term returns is through preservation of capital and home runs.” – Stanley Druckenmiller

Perhaps the most dangerous threat to your trading career is the failure to develop confidence in your trading.

Trading is real life. It is a complex and highly uncertain environment full of risk, even before you factor in the competition. Some of the smartest and most well-resourced people in the world are playing the same game you are.

So to be successful, it is essential that you operate with conviction as you go about your business.

When you place a trade, there should be no fear, hope or self-doubt. You are not tentative and the belief in your idea is palpable.

It’s about position sizing

The crux of conviction is position sizing.

The greater your confidence in your trade idea, the larger you can size the position you take. Conversely, if you lack conviction in an idea, then size it at ZERO and don’t take it.

But shouldn’t all positions be the same size you ask?

For some traders a consistent position size is the right method. But a careful study of history’s best traders shows that the ability to size one’s positions in accordance with their conviction levels is a key skill – without which many of the greats would not be great.

Conviction is not the easiest skill to develop, so it is often neglected (as are complex exits).

Some traders fear their own ability to tell a good idea from a bad one, so they treat all ideas the same. This means their best ideas produce mediocre profits, and they suffer lots of losses that chop up their account equity.

Instead, go hardest on your best ideas, trade less on your good ideas, and preferably don’t trade at all on low conviction ones.

Here is an outline of a conviction based position-sizing model you can use to execute this philosophy.

  • High probability technical pattern on a pair where you have no view: risk 0.5% per trade
  • High probability technical pattern and favourable fundamental view: risk 1% per trade
  • High probability technical pattern, favourable fundamental view, and a fundamental catalyst to trigger the trade: risk 2% per trade

You can further increase the profitability of high conviction trades by scaling in more aggressively, or letting profit run more than you might on low conviction trades.

The first key to conviction: Have a fundamental view

One of the better ways to develop conviction in your trading is to have a fundamental view about the currency pair you are trading. Or (more to the point) start to trust and trade your existing view.

Let’s take the moves lower over the last year in the AUD and EUR.

Did you personally have a bearish view of these pairs before the move happened? Many of you would have.

It then becomes a matter of trading those views with conviction. If you don’t start to trust yourself, you will never get the experience you need to turn that trust into natural confidence.

Just remember you only need to get 30-50% of your ideas right to be very profitable if you cut your losses short and let your profits run.

A good chunk of developing confidence is faking it until you make it – act with confidence and you will develop confidence.

Where to start developing a fundamental view? Go here.

In addition, the better your “market model”, the more confident you will feel about your decisions, knowing that you are operating within the timeless principles that drive the price action. (How to build a compelling market model is lesson 4 of the Advanced Forex Course for Smart Traders.)

Note: if you don’t have access to a recent resource for fundamental information, we post a lot of bank research in the trading tribe chatroom.

The second key to conviction: Be completely in control of your risk management

Things change when you have a carefully composed risk management plan.

Emotions that used to dominate become dimmed. You start to feel far more in control of your trading, and execution at size becomes effortless.

A proper risk management plan includes thorough objectives, rules on managing correlations and leverage, as well as a strategy for handling any drawdowns. It should also have rules on how to limit the risk to your core trading capital.

Much of your discomfort about trading will come from a risk management plan that is lacking in detail or not aligned with your goals, so be sure to get this area squared away.

The third key to conviction: Trade as a team

Trading is better done as a team sport.

Just like cricket or baseball, your individual skills and techniques play an important role, but your performance will be much better with a team to support you.

Curate some sources (other traders, analysts etc.) you can trust that provide you with ideas and direction for trades, and look to trade in alignment with their view.

This is not an abdication of responsibility. Form your own view from your own research first, then look towards your trusted sources. If their view agrees with yours, you have a higher conviction trade.

We (the FX Renew traders) have found that the best trades, that is the ones that give our clients the most success, come to pass when a number of us independently come up with a similar idea.

Trade with confidence

Learning the skill of trading with conviction is about intent.

When you make the decision that you want to trade with conviction, a mental shift will occur. While at first you might not be able to tell one trade from another, simply by having the intent that you want to trade with conviction you will start to become more aware.

Soon when you place a trade, instead of it seeming the same as all the rest, you will notice a different feeling about that trade than others. This is the feeling you will come to recognize as conviction.

It will just become more logical to trade one position at a larger size than another, or to scale-in more aggressively. Eventually, you will cut down on the low quality opportunities and your win rate and profits will increase.

So be free from fear, trade with confidence and trust in your abilities starting today.

Cheers,

Sam

About the Author

Sam Eder is a currency trader and author of the Definitive Guide to Developing a Winning Forex Trading System and the Advanced Forex Course for Smart Traders (get free access). He is the owner of www.fxrenew.com. If you like Sam’s writing you can subscribe to his newsletter.

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