Psychology: the trader's enemy
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Trader psychology is a key element for successful trading. Often overlooked by novice traders, psychology is at the root of a large part of individuals' losses in the financial markets. Trading exacerbates your emotions and pushes you to make irrational decisions. Emotions are the trader's enemy. If you can't control them, you can't win in the financial markets. That is why it is essential to apply money management rules, the only protection against your emotions in trading.
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With trading, this excitement is even stronger. Effectively, a person experiences much more personal satisfaction if they deserve the money they have earned, if they have worked hard to get it. Trading can be associated with work in the sense that it requires time and certain qualities to succeed.
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Novice traders think this is an accelerated way to get rich quickly. This is a serious mistake, of course! The lure of profit is a curse in trading. Much of the trader's psychology is driven by this greed for profit. This is why even winning traders rarely withdraw their profits. For them, these gains will simply serve to earn more and more and it is an infinite race towards success. The return to reality is often brutal!
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A trader who bases his decisions on technical analysis does not feel the same emotions. Indeed, technical analysis is based on probabilities. You open a position when the probabilities are much higher in one direction than the other. This does not mean that you will earn more because the outcome of your trade remains subject to chance (it is the market that decides). However, if your trade is a winner, you will not feel excitement but personal satisfaction, a taste for a job well done (good analysis). If your trade loses, you will feel frustration, anger towards the market that has made you wrong.
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On forums there are often novice traders happy to say that they have made 100% performance in one week. Personally, I don't envy them. Why? I know very well that this type of trader always ends up losing all his capital. You can also notice that shortly afterwards, you no longer have any news from this same trader.
We must stop seeing trading as a race for performance. One trader is no better than another because his performance is higher. It's all about return versus risk. It is much better to earn 2% by risking 1% than to earn 20% by risking 15%. In addition, each trader’s risk aversion is different. Some are willing to take more risk than others, but that doesn't make them the best traders.
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The study specifies that 50% of the trades made by its clients are winners. And yet, 9/10 of traders lose on Forex. The study clearly shows that the average risk on a trade is much higher than the average return. This is due to traders' refusal to accept their losses. The risk/return ratio must be higher than 1 (ideally at least 2). This is one of the golden rules of money management. If this principle were applied, there would be far fewer losing traders.
In trading, you can't win in the long term if you don't accept losing. Losing is an integral part of trading. If your risk management is good in applying a good risk/return ratio, having 50% of your trades win is enough to earn money and make profits. 50% corresponds to the average of all traders, so the majority of traders are able to earn on the financial markets.
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Frustration can also come from a series of losing trades. In the psychology of a trader, it is one of the most difficult elements to manage. This should not call into question your trading plan and even less provoke the desire to use greater leverage to "rebuild" yourself. To protect you from this, money management advises you to set a maximum loss threshold per day. This prevents you from taking your account down to zero when there are dark days.
Finally, frustration can occur if your stop loss is triggered and the price eventually achieves your scenario. This is a common case in trading, especially during major economic announcements where volatility increases sharply. For this reason, it is not advisable to open a position during an announcement. The risk is too high, difficult to manage and the outcome of the trade too uncertain.
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When traders give up few of them recover even a part of their funds. Most often, the trader is so desperate that he gets it into his head that everything is already lost (even if he has funds left in his trading account). He then draws a cross on these funds and moves on to what I call the "final trade". He takes the maximum leverage possible on a position without a stop loss and hopes for a miracle. At that point, money no longer matters. Hope is reborn for a short while, but the market does not often give gifts at these times. However, a miracle can happen. The trader manages to make up a good part of his loss. But it's already too late. Once you have broken the money management rules, it is extremely difficult to comply again. You then continue to take positions with high leverage and then the moment comes when the market gives you the wrong indications, and that's the end!
As I said, depression can also lead to paralysis. The trader then no longer has confidence in himself and his trading strategy and he no longer opens any positions (even if his strategy gives him a bullish or bearish signal). This phase can last for longer or shorter periods but usually ends very badly. In these cases, it is better to withdraw your funds, stop thinking about trading for a while, and if you want to trade again, open a demo account to gradually regain confidence.
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On the other hand, when the sudden movement goes in the wrong direction, the trader doesn’t cut his position when he should. If there is a strong movement, it is often due to an economic announcement that you are not aware of. There is no point in waiting for your stop loss to be triggered, get out of your trade early to limit the damage.
To avoid being surprised by a sudden price movement and panic, look carefully at the economic calendars available on the net that display the publication times for economic news for each currency.
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At these times, many traders strut around the forums to show off their success to other traders. Modesty is required at these times. If you start to show your winnings, you put additional pressure on yourself later on, or you have to be able to talk about your losses as well. With the desire to do well (and especially to maintain your image as a good trader), you will take more risks to try to replicate the previous day’s good performance. Days when everything is going well are rare (as are dark days) and very often it is impossible for you to repeat this performance.
Each trader’s psychology is different, because of his character. Trading brings out the strongest emotions. If in life you have trouble controlling your emotions, trading is not necessarily for you. You must be rigorous towards yourself and know how to respect strict rules (money management, trading strategy) to be able to last in trading. The hardest part of trading is not winning but lasting because sooner or later you are confronted with the scenarios I mentioned above. It's up to you to know if you can handle them without flinching so that you don't let your emotions take over. If your emotions dictate your trading decisions, you will be unable to win in the financial markets and you will lose all your capital.
What factors influence traders’ psychology?
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Relationship to money
: A study by a researcher in neurocognitive science in Lyon showed that people associate money with survival. The excitement of being able to earn money stimulates the imagination (what would you do if you were rich?) and is stronger than the excitement induced by sex. The same behaviour is found with all types of gambling. That's why casinos and the French gambling industry are doing so well.With trading, this excitement is even stronger. Effectively, a person experiences much more personal satisfaction if they deserve the money they have earned, if they have worked hard to get it. Trading can be associated with work in the sense that it requires time and certain qualities to succeed.
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Greed
: People always want more. They are eternally dissatisfied. Few people admit to being happy even if they already have a lot. There is always something missing to achieve happiness. This is even truer with money. We always want more, either to ensure our survival, or to improve our quality of life, or to show that we have succeeded (money is often cited as a symbol of success in life). For many people, trading is therefore a portal to success.Novice traders think this is an accelerated way to get rich quickly. This is a serious mistake, of course! The lure of profit is a curse in trading. Much of the trader's psychology is driven by this greed for profit. This is why even winning traders rarely withdraw their profits. For them, these gains will simply serve to earn more and more and it is an infinite race towards success. The return to reality is often brutal!
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Addiction
: Trading is a gambling activity and is therefore associated with a game of chance like in a casino. Many novice traders enter the financial markets, use maximum leverage and believe that there is a 50/50 chance of winning. If the trader has no trading strategy, this is indeed the case. Winning will then cause a feeling of excitement because the outcome of the trade is random. Haven't you ever heard people screaming for joy in a casino after winning a bet or a jackpot? With trading, for many traders it is the same. If you feel excited about a winning trade, it is very often because you believe that there is a 50/50 chance of winning, and so you randomly decide your fate.A trader who bases his decisions on technical analysis does not feel the same emotions. Indeed, technical analysis is based on probabilities. You open a position when the probabilities are much higher in one direction than the other. This does not mean that you will earn more because the outcome of your trade remains subject to chance (it is the market that decides). However, if your trade is a winner, you will not feel excitement but personal satisfaction, a taste for a job well done (good analysis). If your trade loses, you will feel frustration, anger towards the market that has made you wrong.
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Total freedom
: Many traders dream of making a living from trading, of being free, of no longer having a boss, or obligations in terms of schedules. Trading brings the satisfaction of being your own boss, of being able to do what you want, a feeling you get when you are a company manager. The only limits are the ones we impose on ourselves. It gives a feeling of pleasure. The problem in trading is that there are also rules to follow (money management, trading plan). There are a lot of them in fact, and this can become constraining and cause a kind of frustration. Emotions can then take over and push you to no longer respect these rules. That is the beginning of the end.-
Memory
: With trader psychology, this is an important element. We all remember the best and worst trades because of the emotions it evoked in us. Similarly, we keep in mind the fact that our trading account is positive or negative, that yesterday was a winning or losing day. All these elements influence the trader's psychology. We often talk about market memory but we often forget the trader's memory. This can lead to irrational decisions such as not opening a position on a product that has made you lose, increasing your risk to make up for a previous loss, neglecting certain trading rules to open a position on a product that has made you money, etc. You have to know how to clear your head, approach a trade without taking into account the past, take them individually (only open a position if all the conditions of your trading plan are respected).-
Lack of training
: A large majority of novice traders are poorly, if at all, trained. They often do not understand the risks inherent in the financial markets, are not aware of the rules to be respected (money management, trading strategy) and are therefore guided by their emotions. An untrained trader bases his decisions on instinct, or bases them on poor market analysis. A stroke of luck on the financial markets, that happens, but the wheel keeps on turning. It is impossible to win in the long term on the financial markets if you are not well trained. You don't become a trader in a day, it takes time and work.-
Believing that they are better than the others
: Traders often seek to show that they are better traders than others. This is what makes trading contests so successful. But what is it to be the best? Having the best performance? Having the most winning trades? For most traders, the notion of risk is not taken into account when asking this question. Yet risk management is the foundation for long-term success in financial markets.On forums there are often novice traders happy to say that they have made 100% performance in one week. Personally, I don't envy them. Why? I know very well that this type of trader always ends up losing all his capital. You can also notice that shortly afterwards, you no longer have any news from this same trader.
We must stop seeing trading as a race for performance. One trader is no better than another because his performance is higher. It's all about return versus risk. It is much better to earn 2% by risking 1% than to earn 20% by risking 15%. In addition, each trader’s risk aversion is different. Some are willing to take more risk than others, but that doesn't make them the best traders.
Trader's psychology undermined by emotions
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Fear
: Traders are often afraid of losing a trade. Worse, in many cases, they refuses to lose, which leads them to not using a stop loss and so avoid having to accept the loss. This is a serious mistake that inevitably leads to the total loss of invested capital. The price does not always return to the entry price and even if it does, it can return a week, month or year later depending on the current trend. The risk is all the greater if this error is combined with too much leverage. This situation is very common among traders and it is why the majority of traders lose, as shown in a study by the forex broker FXCM (the largest in the sector) conducted on all its clients. Here are the results:The study specifies that 50% of the trades made by its clients are winners. And yet, 9/10 of traders lose on Forex. The study clearly shows that the average risk on a trade is much higher than the average return. This is due to traders' refusal to accept their losses. The risk/return ratio must be higher than 1 (ideally at least 2). This is one of the golden rules of money management. If this principle were applied, there would be far fewer losing traders.
In trading, you can't win in the long term if you don't accept losing. Losing is an integral part of trading. If your risk management is good in applying a good risk/return ratio, having 50% of your trades win is enough to earn money and make profits. 50% corresponds to the average of all traders, so the majority of traders are able to earn on the financial markets.
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Frustration
: Making a loss on a trade is frustrating if you have based your trade on technical analysis (used by the majority of individuals). Indeed, technical analysis is based on probabilities. Your decision making is based on a chart pattern, a signal on an indicator, a configuration of Japanese candlesticks, etc. When you open a position (and if you follow the rules of technical analysis well), your bullish/bearish scenario normally has a higher probability of occurring than the opposite scenario. But the final decision rests with the market, it is always the market that is right and has the last word. It can give you the wrong indications, which makes you feel frustrated, you feel like you are the victim of an injustice. Again, this is part of trading and you have to know how to accept it.Frustration can also come from a series of losing trades. In the psychology of a trader, it is one of the most difficult elements to manage. This should not call into question your trading plan and even less provoke the desire to use greater leverage to "rebuild" yourself. To protect you from this, money management advises you to set a maximum loss threshold per day. This prevents you from taking your account down to zero when there are dark days.
Finally, frustration can occur if your stop loss is triggered and the price eventually achieves your scenario. This is a common case in trading, especially during major economic announcements where volatility increases sharply. For this reason, it is not advisable to open a position during an announcement. The risk is too high, difficult to manage and the outcome of the trade too uncertain.
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Depression
: The accumulation of phases of frustration can lead to depression. The trader no longer believes in his strategy, he doubts himself, his ability to succeed in trading. This emotion then leads the trader to throw in the towel or to paralysis.When traders give up few of them recover even a part of their funds. Most often, the trader is so desperate that he gets it into his head that everything is already lost (even if he has funds left in his trading account). He then draws a cross on these funds and moves on to what I call the "final trade". He takes the maximum leverage possible on a position without a stop loss and hopes for a miracle. At that point, money no longer matters. Hope is reborn for a short while, but the market does not often give gifts at these times. However, a miracle can happen. The trader manages to make up a good part of his loss. But it's already too late. Once you have broken the money management rules, it is extremely difficult to comply again. You then continue to take positions with high leverage and then the moment comes when the market gives you the wrong indications, and that's the end!
As I said, depression can also lead to paralysis. The trader then no longer has confidence in himself and his trading strategy and he no longer opens any positions (even if his strategy gives him a bullish or bearish signal). This phase can last for longer or shorter periods but usually ends very badly. In these cases, it is better to withdraw your funds, stop thinking about trading for a while, and if you want to trade again, open a demo account to gradually regain confidence.
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Panic
: Panic occurs when the price makes an unexpected sudden movement. When the movement is in the right direction, it causes excitement and the trader often tends to take his profits too early (so happy to have made an unexpected and quick profit). The trader then cuts the trade before his objective is reached, in order to protect his gains. This is obviously a mistake. In these cases, you simply have to move your stop loss to reduce risk and try to take advantage of the movement in progress. As long as the price does not show signs of weakness or reversal, you should not cut your position.On the other hand, when the sudden movement goes in the wrong direction, the trader doesn’t cut his position when he should. If there is a strong movement, it is often due to an economic announcement that you are not aware of. There is no point in waiting for your stop loss to be triggered, get out of your trade early to limit the damage.
To avoid being surprised by a sudden price movement and panic, look carefully at the economic calendars available on the net that display the publication times for economic news for each currency.
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Euphoria
: Following a series of winning trades, some traders can become euphoric. The trader feels invincible and opens positions that he does not usually open. He tries to be in the market constantly, even if no opportunity presents itself. This is obviously a mistake. You have to keep a cool head and continue to apply your trading plan.At these times, many traders strut around the forums to show off their success to other traders. Modesty is required at these times. If you start to show your winnings, you put additional pressure on yourself later on, or you have to be able to talk about your losses as well. With the desire to do well (and especially to maintain your image as a good trader), you will take more risks to try to replicate the previous day’s good performance. Days when everything is going well are rare (as are dark days) and very often it is impossible for you to repeat this performance.
Conclusion
Each trader’s psychology is different, because of his character. Trading brings out the strongest emotions. If in life you have trouble controlling your emotions, trading is not necessarily for you. You must be rigorous towards yourself and know how to respect strict rules (money management, trading strategy) to be able to last in trading. The hardest part of trading is not winning but lasting because sooner or later you are confronted with the scenarios I mentioned above. It's up to you to know if you can handle them without flinching so that you don't let your emotions take over. If your emotions dictate your trading decisions, you will be unable to win in the financial markets and you will lose all your capital.
