Why we let losers run
Kahneman and Tversky showed we become more risk-seeking when facing a loss: between a certain loss and a chance to get back to even, most people take the gamble. In trading, that gamble is called moving your stop, or not setting one.
Add loss aversion: closing the trade makes the loss real. As long as the position is open, you can still hope.
What a runaway loss costs
The danger isn't frequency, it's size. With a planned risk of 1% per trade, one loss allowed to reach 4% wipes out four normal losses, or two good 2 R trades. And the bigger the loss, the bigger the gain needed to get back to where you started:
| Loss on the account | Gain needed to get back to even |
|---|---|
| −5% | +5.3% |
| −10% | +11.1% |
| −20% | +25% |
| −30% | +42.9% |
| −50% | +100% |
The drawdown in trading guide explains this calculation and what it means for a prop firm challenge.
Spotting it in your trades
Look at your biggest loss and compare it with your average loss. If it's more than two to three times your average loss, or if some losses exceed the risk you planned, you're letting trades run. Also compare how long your losers last with your winners: losers that last much longer are a clear signal.
The free diagnostic flags the outsized losses in your history and compares how long your losers last with your winners.
The rules that work
- Stop placed at entry, with your broker, never a "mental" stop.
- A stop never moves further away. It can move closer to protect a gain, never the other way.
- A size calculated from the stop: first decide where your idea is invalidated, then the size that makes that distance cost exactly your risk. The position size calculator does it for you.
- A maximum loss per day, beyond which the session stops.
FAQ
Why is it so hard to cut a loss?
Because closing makes the loss final, and facing a loss we become more willing to take risks to get back to even. Both are classic findings of Kahneman and Tversky's prospect theory.
Should I always use a stop loss?
For most retail traders, yes: a stop placed with your broker at entry protects you from losses that grow and from decisions made under stress.
Can I move my stop?
Moving it closer to protect a gain, yes, following a written rule. Moving it further away to give a losing trade more room, no: that's exactly the mechanism behind big losses.
Sources
- Kahneman and Tversky, "Prospect Theory: An Analysis of Decision under Risk", Econometrica, 1979