All trading decisions should be viewed through the lens of opportunity cost. You want to maximise the amount of money you make by spending your time in the most useful manner.
The concept of opportunity cost comes from the field of microeconomics so some of you may be familiar with it already. Opportunity cost is just a fancy word for trade-off. When we do one thing we won’t be able to do something else. It is the cost of missing out on the next best alternative.
Opportunity cost is such a huge filter in life. If you’ve got two suitors who are really eager to have you and one is way the hell better than the other, you don’t have to spend much time with the other. And that’s the way we filter stock buying opportunities.Charlie Munger
The Trades You Take
The easiest and simplest way to use opportunity cost as a trader is to filter the trades you take. One of the hallmarks of a great trader is that they focus solely on the best, high probability trades and ruthlessly eliminate everything else.
It is very common among traders new traders to want to trade every strategy and every market. The problem is that really high probability trades don’t come about that often and when they do you have to have the knowledge to identify them.
If you’re new to the game then spend some time recording all the trades you take. Once you have a large enough sample size you can clearly see what strategies work and what strategies don’t. Spend the majority of your time trading your most profitable setups.
Managing Your Energy Levels
How you manage your energy levels should also be viewed through the lens of opportunity cost. You only have a certain amount of cognitive power every day and you want to have sufficient energy to trade at an optimal level when you are most likely to make money.
It is very easy to waste your cognitive power early in the day and not be ready when the real opportunities come along. Every market has dead periods where nothing happens. If the markets are dead, walk away from your desk and come back when they get busy again.
Whatever way you choose to use opportunity cost there is no doubt that it is one of the most powerful filters you can apply to your trading.