PsychologyGet To Know The Main Mental Traps And Learn How To Avoid Them
Those approaching trading for the first time i.e. newbies, often find themselves in an endless loop of searching for the best strategy. Meanwhile ignoring the main aspect which is the mental approach also known as trading psychology.
Trading is a complex business that requires a trader to have qualities ofmental toughness, discipline and methodology. The absence of these qualities often leads a trader into 3 most common recursive and irrational habits:
- change strategy on the way.
- change the quantity of your investment on way.
- overtrade, that is when the trader forces the operation, in an attempt to recover the losses.
These kinds of mistakes are made by both experienced and less experienced traders and this makes us realize that the psychological/metal aspect is often underestimated.
So how can we strengthen our discipline and avoid these mental traps?
Here are the three indispensable tips.
Trading as a job
Like any business activity, and trading not being an exception requires work organization. Most independent traders work from home, often confusing their private life with their work life. Therefore we list some of the most fundamental suggestions:
- Create a comfortable corner of work without distractions.
- Have standard schedules.
- Explain to other people in the house that at certain times you’re working.
- Avoid using social networks, chats or other forms of distractions.
Approach to operational trading
The trading activity, in order to be carried out properly, needs to be planned and above all written down. Although writing seems superfluous, this is absolutely important for two reasons:
- Keeping track of all trading activities allows us to make concrete periodic analysis.
- From a psychological point of view, writing a plan makes us more encouraged to respect it during our trading session.
An operational trading plan consists of writing a series of pre-trading and post-trading analysis
The Pre-trading analyses are operations performed before entering trade positions, and they include:
- The technical analysis of assets where we’ll operate (trends, configurations, supports/resistances, etc.)
- Knowledge of the relevant economic news of the day (market movements that can influence the situation)
Post-trading analyses are made at the end of the day by controlling and reviewing our trading plan, via our trade journal i.e. the document where all the transactions made during the day are reported. This document helps us to understand the matrix of our mistakes.
How to handle a negative period
The positive news is that all traders, both experienced and less experienced, go through negative periods.
So how can we handle these moments? How can we find the right empathy with the market?
Understand the origin of our mistakes is the first step to find confidence again, reviewing daily trading plans, and identifying frequent mistakes will further allow us to correct our operations.
Even quitting trading with real money for a couple of days is very important, by going through simulated trading to figure out what is wrong and how to improve our strategy.
In any case, the main advice is to not make rash decisions, maintain clarity while trying to keep cool and be emotionally detached.
the Analyst's answerJean Grossett - Financial analyst
Man like most vulnerable species during the Stone Age era usually find himself in an auto pilot mode such as flee or freeze, this can be noticed with the deer in the African Savanna as well. Beginner traders and sometimes expert traders often times find themselves getting into a freeze or flight mode, probably after a consecutive streak of losses. They usually lack confidence to pull the trigger when their trade setups shows up (flee) or freeze all together, when their trade setup tells them they are wrong.
The flee and freeze mode can be summarized as the fear of missing out and fear of being wrong in psychology.
Market prices often time move based on the laws of supply and demand, which is a reflection of participant’s perception of value. Candle stick price of any trading vehicle is an indication of market sentiments, and as traders we attempt to take to advantage of these market psychology indicators. Atrader’s equity curve on the other hand is equally a reflection of his or her trading methodology, risk/money management as well asself-psychology which includes fear, greed etc.
Of all the psychology that affects a trader, the fear of being wrong and fear of missing out are the two most influential.When a trader places a buy order in a bearish market and with an unreasonable volume (lot size), the fear of being wrong will prevent him from getting out of such positions, even when he knows he is in the wrong direction. The reason is because we have been taught from traditional education, that being wrong is not a good thing. An example of fear of missing out is when a trader does not wait for his setup to complete, and hurriedly jumps into a trade. This is similar to running a traffic light, i.e. not waiting for it to complete the count down. Exiting a trade before it gets to our take profit point can also be said to be fear of missing out.
A lack of understanding of how time frames are related often leads a trader into these major fears i.e. freeze or flee.
Apart from wrong trading knowledge or the absence of it all together, most traders are usually undercapitalized, and therefore turn to huge leverages to compensate for their low capital. Unknowing to them that high leverage is similar to driving at 150miles/hr. in a neighborhood that you are supposed to do 20miles/hr.
the Manager's answerRobert Danvil - Investment Manager
Traders who become successful in their trading career are those that keep a regular journal of each trading session, as well carry out a review on the trading decisions they made. These traders are also most aware of the two most common fears experienced by traders, and they often time evaluate themselves to know if they are experiencing the fear of missing out or being wrong.
Automating some trade processes could help reduce human error and psychology, but it is not a replacement for self-control and discipline in the area of risk management. A greedy indiscipline trader can still tinker with his lot allocations and prevent his automated trading algorithm from optimum low risk performance. A trader’s top priority should be following his trading strategy. According to Warren Buffet, his two rules of trading are, number 1 capital preservation, and rule number 2 is never forget rule number one.
the Mentor's answerNicholas Kihn - Forex coach and mentor
Above all, meditation is a key ingredient to trading success that helps a trader stay calm in the event of very stressful trading moments. It helps a trader relax, reduce stress, and enhance your brains potentials. Taking out about 10 to 15 minutes every day to meditate before and after your trading session is a good habit to imbibe. As the saying goes, battles are often won in the mind so make sure you are the calmest person in the room.
A lot of insights on traders’ psychology can be further found from Dr. Brett N. Steenbarger, Ph.D.