Trading Psychology. There are many skills, that are required for forex and CFD traders to reach success. These include the understanding of basic trading principles, technical and fundamental analysis, markets, etc., and proper trading psychology is one of them.
Even though this is not a true academic study, it is in fact a process that many traders go through when they embark on trading, develop trading strategies and try to obtain that trading edge. Managing emotions and maintaining an explicit amount of discipline in your trades is a much-needed skill.
A certain presence of mind is required, especially when you are in and out of positions, and up and down in profits, and you are forced to make quick decisions. Sticking to your initial trading plan, not diverging when you are on a losing streak allows you to control your emotions and make level headed choices. Leave your emotions at the door! However, as a trader you will experience these important emotional components that do conjure up when you are trading.
Emotions in trading can often lead to misjudgements and loss, these are the most common feelings experienced by traders:
Understanding the fear element when trading is possibly the very first emotion that you go through when you see trading graphs, tickers and information coming at you that you can’t comprehend, and it is a scary concept. You may want to run for the hills, to not even invest just to be safe, however you will stand to lose out on potential gains. Fear can be a limiting factor for not opening potentially profitable positions without properly calculating the risks. Understanding what fear is, would be the first step to overcome the emotion and the drawback you may experience when entering something you know little about. Trading is not a threat, there is little to be fearful of when trading, it simply takes time and knowledge to understand what you are doing, why you are doing it and how it can eventually benefit you.
Greed can be your worst enemy, know when to call it quits and take your profits. Traders that have had some sort of market exposure, will know that when the going is good, they want to hold onto every last tick. This mind set can result in account devastation due to a fast change in the markets. Overcoming a hard knock is not an easy task, however overcoming greed will be even harder, as you need to know when to bow out and enjoy what you have accomplished when you have profited from a trade. You will need to quickly identify the sensation of greed, decide that you don’t have to ‘make a little more’, and stick to your trade plan where you already based your initial decision on rationalisation. Greed can lead to over trading, a condition much like gambling addiction, which needs to be avoided.
In forex trading, hope is a rather useless emotion, even though all traders experience the feeling of hope, no matter how costly. Being an optimistic trader is necessary, but needs to be kept in check, as a positive and motivated disposition also needs a reality check when trading online. Traders often fall in the trading trap of creating a false sense of hope that the markets will adjust and save their trading position if they give it a little more time. This is a text book example of the wrong approach to trading.
With fear morphing into panic, anger can result in traders feeling regret for missing out on a good trade. He may try then to get in on the same ‘missed’ trade, resulting in a loss as he got in too late, with the hopes of making a profit. While you may also have excitement and regret as emotions, they can both be dangerous to experience during decision making process. Regret can act as a demotivation factor after a set of losing trades, that can lead to frustration and the end of trading career. The solution is to maintain your trading discipline and trading judgement, this is what successful traders have done and what you should strive for.
Know your psychological profile, dominating emotions, reactions and boundaries, exercise discipline every time you enter a trade. Risk tolerance is an important factor when trading, and largely defines your decision making process as you trade. Risk tolerance, is in essence the degree of exposure per investment you are willing to take.
A realistic understanding of the markets, the risk-to-reward ratio and the on the minute decisions you will need to make will impact your tolerance for risk. Another factor to consider with risk tolerance is the amount of money you will be comfortable losing, should the markets not work in your favour.
Managing your emotions
Managing your emotions while trading is a mature and vital approach. Trading can become quite stressful, when position suddenly turn against you. Many traders make irrational or ‘on the fly’ decisions that often turn out to said traders’ disadvantage.
Emotional reactions are often the product of a bad trade, while informed decisions reflect a good trade. As most seasoned traders prefer to make calculated decisions about each trade, and not rely on a spontaneous decision that could wipe out their entire trading career, they turn to practice.
Having said that, it is only fair to mention that having a real money account will stimulate a different emotional reaction, but the foundation is always the same. ‘If you fail to plan then you plan to fail’, rings true when trading. Planning each trade will ensure your success as a trader. Second, having a trading plan in place ensures that you will not divert from the discipline that needs to be executed, even under the most anguishing market changes.
Every trader makes mistakes, so it’s a good idea to familiarize yourself with a trading environment before you invest your money. To improve your trading skills, try opening a free demo trading account with an online broker.