By Zoe Fiddes
If you haven’t traded with your own funds before then you are unlikely to have experienced what it is like to have the market grip you, and then send you on an emotional roller coaster. In addition to technical and market analysis factors to profitable trading psychological influences have a huge impact on successful results for this very reason. Without a strong appreciation of what the market is likely to throw at your mental state becoming a profitable trader is very difficult.
To assist with this transition let me explain just some of the many scenarios you may find yourself in when trading.
The Emotional Roller Coaster
Let me begin by describing the roller coaster. You are in a buy trade and the market is going up. Naturally you will feel elevated that your position is bringing you profit, and its growing and growing. But if you have not set out a plan before trading you are likely to become nervous, not knowing when to get out. Should you close now and take the profit? Wait for it to increase more? What if it turns the other way? You have missed your chance and now the market is down and your profits have turned into a loss. Should you take the hit? Wait for it to come back your way? These are questions that will go through the mind of a trader who has no predefined method. Psychologically the effect of the roller coaster can break novice traders, the only way to counteract this mental attack is to be prepared with a comprehensive strategy so that you know the answers to these questions before the scenarios arise.
How can you lose if most of your trades are profitable?
Many traders do choose good entrance points and have a high percentage of profitable trades but too often it is their risk management that lets them down. If I told you that more than 50% of trades on an account are profitable you would guess that there would be a profit made overall. Your guess would be correct if the risk to reward ratio (RRR) is being properly managed, but unfortunately if the trader makes the common mistake of running losses and closing winning positions too early, the account will be down.
Let me give you a simple example I use with my clients to get this message across. Assuming I am profitable 60% of the time and I execute 100 trades, for each of which I am willing to risk 50 pips and target 30 pips profit. After 100 trades I have 60 winning trades which bring me a total of 1800 pips profit (60 trades multiplied by 30 pips) and the 40 losing trades produce a 2000 pip loss (40 trades multiplied by 50 pips). Hence, despite winning most of the time, I am still down 200 pips. However, if I had balanced my risk and reward target at 40 pips each way then overall I would be up by 800 pips (neglecting the small spread between the buy and sell price) which translates into a healthy profit even on a mini account.
Psychologically this can be a difficult concept to deal with, but again through correct planning and strategy implementation we can ensure that this doesn’t become a factor.
Greed does not bring Fortune
Greed is a natural human instinct, but just like we aim to have a healthy balance in life we should do the same in our trading. I have seen traders make over 500% profits in the first days or weeks of trading. New traders, in this situation, tend to get over confident and develop a sense of invincibility. Their emotions tell them they are so good at trading it is reasonable to begin risking large amounts, sizes they would not have considered just a week before. In a greedy mind this makes sense because a larger risk brings larger profits. However, most of the time this ends up in self-destruction since it only takes one of those high risk trades to go awry to wipe out an entire account. Greed creates a mental state that makes it impossible to sustain sensible choices and therefore successful trading. To prevent this from happening to you when you make profits,keep your feet on the ground and stick with a risk management plan that is always relative to your account size.
Fighting the Market
This happens when a trader reacts to a losing trade by immediately entering another trade, desperate to win back what has just been lost. At this point common sense is abandoned since a trade’s profit target cannot be determined by a previous trade’s loss, and the only reason to enter the trade should be on a market signal not an emotional signal. This erratic trading will only end up in a larger loss. If you are enraged by a loss, take a break until you feel calm again. Remember the market is much bigger than you and any vengeance you attempt is likely to end in failure. The market tells you how to trade, not vice-versa.
My intention with the above is to not to scare you but to deliver the facts so you are prepared for when you trade and you do make common emotional errors. You must be strict on yourself to stay disciplined. It is unlikely that you will execute at the precise point such that your trade is immediately in profit. If you have made the right decision it may need time to move in that direction. Hence, it is not healthy to monitor your open trade every second. Watching your profit and loss situation constantly will put you on the roller coaster and is likely to cause you to go against your trading plan. You should calculate the RRR before every trade and set a stop-loss and take profit order accordingly. To be successful you have to stick to a set of rules and contain any feelings of delight or anger, at least until the end of the trading session!