Psychology has a lot more to do with success in the markets than most traders will give credit. Proper trading psychology can be broken down into 3 key areas in which traders may focus their efforts on improvement. These 3 Key of success is what we will focus on in this Wiki.
- Focus on One Method.
- Have a Trading Plan.
- Build a Winning Psychology.
In this Wiki, we will look at each of these important areas in more depth. Keep your mind open to possibilities. Understanding these 3 keys is essential to your development as a trader and is absolutely necessary for long-term profitability.
Yes, some of this might sound a little cheesy like a motivational speech but being a cynical, miserable person who thinks the power of positive thinking is a bunch of garbage will definitely not improve your chances of success in the financial markets. However, being positive and proactive will improve your odds if you will only give it a chance. You will find it hard to succeed without mastering each key so learn them well.
3 Keys to Mastering you Traidng Psychology
Focus on 1 Method
You can focus on any method that you choose. However, focusing on one method, especially for new traders, is a major key to setting yourself up for success. This doesn’t mean that you are limited to trading one strategy for the rest of your life. Rather, the point is to master one method first before adding more to your trading plan.
Fundamentals and the sentiment are the main drivers behind the vast majority of price movements in the Forex market and most other financial markets as well. In Forex, a trader will give himself the best chance of success if he implements a trading method based on Fundamental Analysis and Sentiment Analysis.
Technical Analysis is a very novice and retail way to trade the Forex market if that is the only thing that a trader is using to make trading decisions. If you ask big currency traders at an investment bank or hedge fund what type of Technical Analysis tools they use to help them make trading decisions you will likely get a very confused look on their faces. No trader with billions of dollars to invest looks at a chart covered with Bollinger Bands, Ichimoku, or other indicators to make trade calls. Rather, they listen to what the Central banks are telling them.
Technical Analysis has been made extremely popular because it speaks to traders in absolutes. If this pattern shows up then this is the result, if the moving average crosses this then that will happen, etc. It is a very "if this then that" way of looking at the market. This is in contrast to fundamental and sentiment analysis which are open to interpretation. Retail traders really like “for sure” outcomes but what they typically find out (or maybe they cling to the delusion) is that nothing in trading is as simple as buying a pattern over and over and making money.
This is not to say that Technical Analysis is completely useless; Quite the opposite actually. The key is to use Technical Analysis as a timing tool to enter and sometimes exit trades in line with the overall fundamental and sentiment picture. A mix of 80% fundamentals and sentiment combined with 20% Technical Analysis is a pretty good place to start.
With fundamentals, the importance of any economic indicators lies in what the Central Bank is currently focusing on. Each Central Bank will only focus on one or two things at any given time to guide them on their monetary policy. If, for example, the Central Bank is focusing on inflation and growth then production numbers will have little impact on the movement of the currency but GDP and CPI will have the greatest impact on price.
You don’t need to be an expert on the ins and outs of every single indicator, all you need to know is what the main indicators are and which ones the Central Bank is focused on at that time to make decision on what tools they will use to enact monetary policy. What is the Central Bank worried about or focusing on? All traders should follow the Central Banks lead; never fight them because the trader will always lose!
'Have a Trading Plan
Having a trading plan is an essential key to becoming a successful trader in any financial market. Without a trading plan, the trader is flying blind and may fall victim to taking random trades. If a trader does not take the time to formulate a well-thought-out trading plan then it is almost certain that they will fail at the trading and investing game.
Your trading plan is your objective approach to entering, managing, and exiting your trades. The plan’s sole objective should be to take out the emotions from your trading decisions. Use your plan and stick with it until it gives you feedback that something needs to be adjusted.
Your trading plan must have critical elements such as the method you trade, your trading edge, trade management, goals, results tracking, and how you will learn from your trades in order to take your trading to the next level of success. You should also define what success is for you. For most people success is the ability to create their living 100% from trading the markets. That’s a pretty good goal and a completely achievable one.
Your plan should provide an objective measuring stick so that you can manage your trading business objectively and make changes to continuously improve your results. Trading plans don’t have to be complex but they should be flexible enough to change after you gain data from a large pool of trading results.
Remember that a big part of success in any venture in life is to do something consistently over a long period of time. This can be quantified by following a trading plan over a large number of trades.
'Build a Winning Psychology
There is a common misconception surrounding traders who have become successful. Many people think that these successful traders have something special about them that they themselves do not. While this can be true in some cases, 99% of the rest of the time it’s absolutely false and misleading.
Winning traders have learned to follow a disciplined plan which has an edge that has given them the conviction to stick to it no matter what the markets or anyone else say or does.
In order to develop a winning psychology you must first understand the general public’s psychology in the markets. Fear (selling) and greed (buying) is what mainly dominate the markets with pit stops filled with ambivalence ( price going sideways).
Greed happens when a trader enters a long position after the market is already up way beyond its average daily range. Fear is why people hold onto losing positions far beyond how much they were willing to lose on the trade in the first place. Like the herd, all seem to sell at the worst possible time right before the selling has finished. Don’t follow the herd to the slaughter. Learn to capitalize on the herd's mistakes.
Based on these comments above we can say that greed buys too late and fear shorts/sells too late. The rational trader with a well-defined plan is selling their long positions into the greedy strength and buying back their shorts near the end of the selling. As traders, it is not our job to pick tops and bottoms. Rather, we look to take out the middle chunk of a move and then move on to find another trade.
Fear has the ability to immobilize many traders. When their trade starts to go against them they start to panic and for many people, panic turns into inaction. What should be done is the trade should be exited without emotion as per your pre-trade plan. You don’t have to like taking a loss but while you are in the heat of battle everything you do must be cold and calculated. If you get out of a trade for a 2% loss and the market continues to move against that position another 10%, you would be happy to take the 2% loss over the 10% loss. Professionals call that a successful trade even though it did not make money.
Keep in mind that most people want to be right. Most people can’t admit when they are wrong until the pain becomes so unbearable that there is absolutely no choice but to exit the position. Usually, it’s the broker forcing the positions closed because there is not enough margin to sustain the losses.
Always remember that the markets will be correct no matter what your opinion is. If your trade is not working out the way you thought it would then you need to get out and look for something else to put your money to work in. You cannot let the emotions of fear and greed immobilize you. Have a plan and stick to it.