Understanding the Psychological Challenges of Speculative Trading

Broadly, a successful trader’s career depends on 2 things: strategy and psychology. The right strategy is important in knowing the exact time to enter and leave a trade. In making these decisions, the role of psychology is paramount. The trader must therefore be in a good position to manage his emotions to prevent sudden catastrophic decisions. Many traders have died out of shock or suicide following wrong trade decisions. In 2013, a young intern at JP Morgan committed suicide after making losses for the bank. These cases are common especially among independent traders.

How Psychology/Emotions influence traders

Quite often, emotions influence traders in 2 ways. One, when a trader makes insurmountable losses, they become depressed. In the few minutes that follow, the trader makes the wrong decision of entering a trade to recover the lost money. For instance, if the trader made losses with a EUR/USD sell, they become convinced that going long will help them recover. This is usually a wrong decision since no much thought is put on the trade. The trader ends up making more losses. The other emotional behaviour happens when a trader makes good money in a trade. When he exits the trade, he can decide to make the sudden decision of getting back. For example, assume that a trader makes 10 pips going long EUR/USD. After making the exit, the chart continues to go higher. The automatic decision for the trader will be place a buy order. Quite often, the trader erodes much of hisgains. In other circumstances, a trader who lacks a good trading strategy will often liquidate his position prematurely. Often, this is usually guided by his emotions and not the exact numbers.

Tips to be Psychologically Fit

When I was a new trader, I made ‘a lot’ of money and often lost it all by following my emotions, rather than the solid strategies I had learnt. In the next part, I will highlight a number of strategies I use to accept losses (and gains) in my career.

  • Avoid greed

It is always said that greed is good. Unfortunately, in Forex trading, greed is a very dangerous animal that will easily leave your account ‘clean’. As a new trader, all I ever wanted was to make more and more money. After closing successful trades, I would often find myself making trades based on my psychological situation and not what I had planned. To solve this, I developed a plan where I exited my trades after making some profits and not entering the market less than 3 hours after exiting a trade. This gives me an opportunity to study the market and make informed decisions.

  • Have a strategy in place

strategy_place A common problem among new traders is that of entering the market without giving much thought. Once they see an upward trend, they go ahead and place a buy trade. Experienced and expert traders always enter the market with a clear mind of what they are doing. For instance, if they go long EUR/USD, they usually have reasons for doing this. They can even write down a thesis to show the reason why they made the decision. I recommend that you always have a reason (both fundamental and technical) for entering or leaving a certain trade.

  • Using the economic calendar

As a trader, you want to stay away from volatility caused by the release of economic data all the time. When you have an open trade before and after data is released, chances are that you will be emotionally challenged. For instance, when the Non-farm payroll data is released, the fact is that the market will always be volatile and a lot of money will be made (and lost) by traders. Therefore, to avoid this situation, I recommend that you stay out of the market and watch. You should also avoid the temptation of making an entry when the chat is going up or down following the release of the data.

  • Stop Loss and take profit

A serious problem I had was the perception that the market will always come back. Am certain that many traders are faced with this challenge especially when the market is against them. To avoid making the wrong decisions, I recommend that traders use the stop loss and the take profit very wisely. Assume you have made a net profit of $3000 in a trade. Going forward, you want to make more money. To be safe, you can position a trade in such a way that in a worst case scenario, your maximum loss is $500 (stop loss) and your maximum profit (take profit) is $500. In this trade, your maximum risk will be $500. I have used this strategy for years and it has worked out well for me.

  • Need to rest

Last but not least, having a good rest can help you overcome the psychological issues associated with Forex trading. Trading should not come between you and your close friends and family. Spending time with these people will help your emotions.By following these tips, I believe you will have an exciting time being a day trader. I have used the tips for more than 6 years and they have worked very well for me.