Diving into Traders Psychology, What is It and How to Use It

Trader’s psychology is a frequently used term, for good reason too – it is a collection of multiple characteristics that are important to be able to follow your trading strategy and achieve your investment goals. Let’s take a look at those characteristics:

Trader’s Psychology

• Trading Discipline
• Perspective
• Mental Fortitude
• Stress management
• Risk Management

Trading Discipline

• Adhere to your plan
• Keep your investment goals in mind
• Don’t react impulsively or greedily – emotions are the enemy!
• Channel the robot

Most experts agree that the first facet of traders’ psychology is discipline. One of the best scenarios as a case demostrating discipline is retracement/reversal. Frequently instruments will experience a temporary reversal of their price movement, but see a correction shortly after or before the end of the trading day. This retracement could cause a trader to exit a position/trade which hasn’t gone into full reversal ultimately causing losses or breaking away from a strategy that hedged an instrument against another. If you’re perplexed about the ‘channel the robot’ phrase above – robots are emotionless and only react to input of data. Get it now?

Perspective

• What are your long-term investment goals?
• How high and how low is your risk aversion in the context of your strategy?
• Reality check – reward always comes with risk

Having a realistic point of view about trading is crucial. No matter what the type of investment, there is always a risk/reward ratio. How much will you be rewarded for a defined level risk. The higher the risk the higher the potential reward (but remember the lower the chance you will receive it). The lower the risk, the lower (or slower) the reward inversely.

Mental Fortitude

Being able to see the red arrows on your terminal and thumbing your nose at it is not as easy as you think, the biggest reason is that most traders realize those are assets. Their assets. The problem is that exiting a position too soon, can have similar psychological results to losing a trade. Psychologically speaking it might even be more damaging, as exiting too soon and then seeing your previous position  go into correction and then grow make you hold on to trades beyond your predetermined stop-loss, causing you to be on the losing side of that trade. Resilience and being able to bounce back is another characteristic that is important. Take this as an example: a flexible sapling can touch the ground and return to its original state allowing it to grow large enough to resist being bent.  If that sapling was rigid it would snap and never grow to the size necessary to not be bent.

Stress Management

• Every trading day is a new trading day
• Leave the baggage at the gate
• Knowledge is a stress reliever
• A cliché but worth mentioning – Keep your cool

This point segues beautify from mental fortitude, in actuality there might even be a little bit of overlap. Managing stress especially after a losing trade can be extremely challenging, but if you want to reach your investment goals its crucial. Instead of seeing a loss like Stress is frequently the result of a lack of knowledge, knowing the instrument you are trading, the market you are trading it on and the historical data behind it – can help alleviate stress.

Risk Management

Although risk management is usually referenced when talking about trading strategies, it can also offer a certain comfort knowing for example that your stop-loss level is in line with your risk appetite. Other risk management tools that can help are alerts to inform you when your instrument goes over or under a certain price level, which is a feature most platforms support.

References

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