Trading psychology

Need for alternate stream of income has been constantly adding to the tally of people taking up trading as full time or part time activity. As the number of participants increases, the scenario becomes challenging, not only financially but also the psychological side of the person involved.

Trading looks like a simple task to a bystander, but only the participants involved in it know how tough it can get.

Outburst of technology has lured more and more people into trading. It has also created ripple effect in getting more participants as they see trader’s trading from the comfort of their homes, offices, while commuting on their cell phones, etc. Technology may have made the whole trading activity luring, but one cannot ignore the inherent risk involved in it. In fact, we can term trading as the toughest job of planet earth. Risk is not only limited to finance but it extends to mental, physical and social too.

So, let us try and understand the two words “Trading Psychology” separately.

Trading means buying and selling of financial instruments with the intentions of profiting from it.

Psychology means the mental factors governing a situation or activity. So, when we say trading psychology, it means, mental factors governing trading.

Four major mental factors revolving around trading are greed, fear, regret and hope. Please note, all the factors emerge because of lack of knowledge. Let us try to understand all the four factors by replacing trading with Cricket test match.

1. Greed

Cricket test match: Urge to score at high run rate without keeping control on the fall of wickets displays greed and not planning. Being an unlimited over match, preserving wickets and scoring consistently becomes important and not the higher run rate. Once all out on cheap score, it will take you out of game. Worst is, that cheap score in 1st innings will live in your head and break your confidence level in second innings too.

Trading: To make more and more profit from every trade taken is termed as greed in trading. Thoughtless goals like making certain % of profit from every trade or earning pre-decided amount from every trading session works on trader’s mind. Chasing thoughtless goals may lead to capital erosion. A trader can survive in markets without profits but not without capital. Protecting capital is pivotal and next important aspect is consistent profit making.

Friendly advice: Set process-oriented goals and not monetary goals. Think of protecting capital and surviving in the market for longer period.

2.  Fear

Cricket test match: What if the weather turns bad? What if opponents score at faster rate than us? What if our player gets injured?

Decision to go on scoring higher than usual run rate based on the fear of unseen events that might occur is very weak. Producing best while using the resources optimally and sticking to plan will work in every condition. Succumbing to uninvited thoughts and hence altering the game plan can work against us.

Trading: What if my ongoing trades which is in profit right now turns to losses? What if some bad news might just pop up? What if profit booking will come in? etc…

All these what if questions are imagination of mind which is facing fear. Once they enter traders mind they will ensure some actions. Panic exits from the trades or booking out too early from the winning trade are some of the outcomes. Worst is when actions out of fear shatters trader’s confidence.

Friendly advice: Plan your trade and trade your plan.

3.  Regret

Cricket test match: Losing wicket at regular intervals and getting all out for low score will be regretted by any team who did not use the available resources of unlimited overs to get set. Same way bowling team will regret if they haven’t given enough opportunity to their best bowlers when batting team went on scoring a huge total.

Trading: As a trader, our regrets are never ending. If you exit a trade and stocks keeps moving in your favourable direction you regret your exit decision. If you don’t take profits from a trade and then the trade takes turn into negative zone, again trader will regret its decision of not exiting.

Friendly advice: Be satisfied with your decision. Keep learning and improving day by day, trade by trade. Don’t spend your energy in regretting your decisions if they are in line with your trading plan.

4.  Hope

Cricket test match: Imagine a situation in a match where team was chasing 400 runs and 1 and a half days game was left. We are now in the post lunch session of the match and score is 350/8. All top order batsmen are back into the pavilion and tail enders are on the crease.

What would be going on in your mind if you are supporter of the batting team? You would be hoping and silently praying that let the tail enders do some miracle and get the winning runs. Right? Hope originates from person who is weak and has not control over situation. Like in the case of this match.

Trading: A trader starts hoping for some miracle to happen as soon as he deviates from his trading plan. For example; plan was to enter a stock at 100 with Rs 2 as Stop loss and book profit if we get Rs 3. Desired entry level comes and we are into the trade. Now the stock moves to 103 but we do not book profit as we hope that short covering will come into the market anytime and it will take our position to huge profit. Stock moves to 104, we are still on hold. Now market takes a u turn and the price of our stock moves to 99 and now we are hoping for some re-bounce as stock has corrected Rs 5. Price crosses 98 but we don’t take the Stop loss as we now think that re-bounce is just around the corner. Price is now 96 and we are still living in hope of re-bounce.

What has happened in the above example is that we lost control of our action points. Pre-decided stop loss and target are the 2 points where we need to act, once we do not act on reaching those points, situation is not in our control and decision we take after that will be based on hope, which is sign of weakness.

Friendly advice: Be ready with action points (Stop loss and target) and act as per your trade plan. Market keeps throwing umpteen opportunities, don’t allow trade to be dependent on hope and then become hopeless.

 

It should be any traders sole aim to make his trading completely mechanical and not at all influenced by the above mentioned four mental factors. Plan your trade, stick to you trade and exit as per your plan which you had just before entering the trade. Favourable results will give you profits and the unfavourable ones will give opportunity to learn and improve your methods. Remember “I CANE” Improvement Continuous and Never Ending. Once your focus is on learning and improving you would not get moved by the outcome of trades taken. A trader who keeps learning continuously, keeps earning continuously.

– Dimesh Patel

This Post Has 5 Comments

  1. Nicely put up sir!

  2. Thanq very good article

  3. Good explanation..

  4. Excellent write up with well suited analogy..
    I have read other articles too..
    Keep going Dimesh..

  5. Sir,
    very insightful, If you would allow me i would like to add more to this article.

    Thank you.

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