Education in some form is necessary in any endeavor in which we want to succeed. It involves what Deming calls:
Dr. W. Edwards Deming (a giant in the rescue of Quality in U.S. industry) promoted what he called the “Theory of Profound Knowledge.” In this theory he makes the point that true learning never takes place unless we place our credibility on the line, or, unless we become a real part of the learning experience.
What that means is that before we learn that a concept is true, or if an idea works, we must act as though it works, follow through and learn from both the successes and failures of that action. This is true learning- to see failure as well as part of the learning process.
I like to use this concept in the trading world using paper trading as our “act,” as our “follow-through,” to the lessons we learn. For example, with paper trading we can look at a historical price chart and ooh and aah about where the price went, how good it would have been to have acted at this time, or how bad to have acted at that time, happy that we were or weren’t in the market when that event took place. While this may be entertaining, very little, if any, true learning will take place!
Consider a different script:
1. Study a price chart, enlist all the tools we’ve learned how to use to help stack the odds in our favor, determine when to buy, at what price, and how much.
2. Based on our study, take the action, pull the trigger, and buy (on paper) as planned. There is something valuable in writing this action down. This is equivalent to placing our credibility on the line. This step is important, and it is a part of the true learning we feel so strongly about!
3. Repeat these two steps on two to five different tickers. Too many can reduce the impact of lessons learned, too few is a waste of valuable time. We don’t plan on paper trading forever!
4. Follow the price patterns of each selected ticker, ready to execute a sell when the conditions are ripe. Remember, for each stock we buy we must have exit strategies in our plan. Under what conditions should we sell? This must all be part of our trading strategy (paper trade).
5. As we move through the weeks with our paper trade portfolio, buying and selling according to our strategy, we will learn lessons that will come in no other way. We should expect to change our strategy as we learn the lessons.
6. We can learn great truths by going back over our plan (again, the importance of writing it down). By studying what we did, by picking it apart, looking for inconsistencies, holes, obvious errors. That is how learning takes place. Again we love the term ‘true learning’ as it embraces success and failure and only then can corrections be recognized and made.
Certain market pundits suggest that paper trading is a waste of time because we don’t have real money on the line. Of course! Lessons learned when we actually lose money are more profound and lasting than when we just lose paper money. But consider any sport, any activity… is running the high-hurdles in an Olympic event more profound and lasting than practicing on the high-school track on a Saturday? Of course, again. But does that mean we shouldn’t practice the event on our own time, without the heat of the battle, as we learn and perfect the skills? Give me a break. Paper trade! Watch for an upcoming Guideline with the jars…. It is a fun scenario between you and your spouse or confidant, and it increases ‘real learning’ with regard to paper-trading. I use it with my spouse. It makes a difference! It also introduces a ‘game’ scenario, an emotional buy-in and that is the essence of true learning.
“The man who has ceased to learn ought not to be allowed to wander around loose in these dangerous days.” M.M. Coady
In a word – INSIGHT!