When I moved onto the trading floor of the investment bank I was working at the guys told me about the Brazilian Spread. They said if you were close to being stopped out the best thing to do was put it all on the line and go for a major winner. If it pays off – happy days, if it doesn’t f#@! off to Brazil.
With that story in mind lets look at the evidence associated with traders who are in deep drawdowns.
The first chart in green depicts a scenario where before an account ceases to trade we examine the last 10 to last 5 trades. Where it says median volume (read volume as position size (y axis) and drawdown (x axis)). It is very clear from this chart that when an account gets to a drawdown of 56% or more you see a dramatic increase in the position size of the trade.
Now lets look at a chart a little bit closer to the end of the line. Here we examine the last 5 trades before the account is closed or ceases to trade. You can also see very clearly how the position size of a trader increases dramatically when they are in a drawdown of 80% or more.
A key behavioural finance insight you can draw from this analysis is that it is true to say that ones behaviour towards risk changes the deeper you are in drawdown. This kind of behaviour is detrimental to your trading success and overall account longevity. We also see that the bad behaviour doesn’t start right at the end but there are warning signs before as the green chart shows from – 10 to – 5 trades before the end the change of behaviour is even more telling than the red last 5 trades. PsyQuation software has built an alert that brings this type of behaviour to the traders attention. Forewarned is better than not knowing, in our humble opinion.