What is Trading Psychology?

When I say discipline, emotional control and strategy – what type of person comes to mind first? A soldier? Sure. A chess player? Absolutely.

When you are on the markets though, and prices are fluctuating wildly, all three of those are crucial to avoid risk and losses. Those characteristics are so important that they have a name in the lexicon of financial markets; trading psychology. To be fair, the subject is much more elaborate, and understanding it as a new trader can make the difference between achieving your trading goals, or exposing yourself to unnecessary risk. Let’s take a look at what’s involved.

No Slippage

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Tight Fixed Spreads

As part of our Price Transparency Promise, our spreads never change during trading hours, so you know your costs upfront.

Free Guaranteed Stop Loss

Protect yourself and your open trades against runaway losses. A standard feature on easyMarkets Web & App Platforms.

Negative Balance Protection

Another condition offered as a standard feature on easyMarkets accounts, this ensures you are protected when you trade. 

Trading Psychology

Trading with emotion can be perilous. When traders become overwhelmed with emotion and impulse, they are likely to ignore their analysis, strategy and surpass their risk appetite. This can cause losses and exposure to risk that could be avoided.

Further to this point, according to a clinical study looking into the correlation between emotions and trading:

“Specifically, the survey data indicate that subjects whose emotional reactions to monetary gains and losses were more intense on both the positive and negative side exhibited significantly worse trading performance, implying a negative correlation between successful trading behavior and emotional reactivity.”

Fear and Greed in Financial Markets: A Clinical Study of Day-Traders

By Andrew W. Lo, Dmitry V. Repin and Brett N. Steenbarger

The main emotions that result in most of the ill-effects of trading psychology are: Fear, Greed, Anger/Revenge

Psychological Barriers to Effective Trading

Fear

Fear usually causes a trader to act impulsively when markets move against them. Here’s a scenario for consideration: your analysis shows that an instrument’s value will increase by the end of the trading day – but during the trading session the price starts dropping. Instead of following the analysis, you close the trade. The price recovers and closes positively as your calculations showed.

Although this doesn’t result in immediate losses, fear forced you to close a positive trade early, contrary to your analysis.

Greed

Usually fear is a reaction to negativity, whereas greed is usually motivated by overconfidence. The results can differ, but the outcome is the same as fear i.e. deviating from your trading strategy and exposing yourself to avoidable risk. An example of greed would be holding a positive trade for too long hoping for more profit. The asset becomes over-bought (or oversold) or hits support and resistance reversing the price movement and canceling any potential returns.

Revenge Trading

After consecutive losing trades, you might be inclined to perform hasty unplanned trades to recover your losses. My advice for this impulse is: don’t. Remember one of the best ways to mitigate trading psychology, is to have a strategy that looks at the overall profit/loss ratio, not individual trades. Although a trading day may prove to be unprofitable, if overall you’re trading activity is positive for a specified period then you should consider yourself successful.

Not even the best traders/investors are infallible – markets are unpredictable and affected by a myriad of factors and sometimes serendipity, events or policies aren’t on your side.

As mentioned above adhering to a trading strategy can help you avoid unnecessary risk because a good strategy includes a risk/reward ratio – i.e. how much risk you are comfortable with assuming for your potential profit-taking into consideration your account size and the margin requirements of your portfolio.

A great strategy can get extremely granular: i.e. trades to be made, entry and exit levels (based on technical and fundamental analysis), and historic trade data. It is very difficult to build anything without a plan – and that’s not even taking into consideration the multiple variables that affect markets.

Many analysts and professional/institutional traders believe that not having a plan is almost a surefire way to fail.

Keep a trading journal

Keeping track of your trading activity can help you hone your strategy, make adjustments, and avoid committing the same mistakes again and again. If market conditions mimic previous periods and you came through it positively – then you can even revisit your activity during this period for additional insight.

Research

Considering you are reading this article about the psychology of trading, you’re probably already heading in the right direction.

Be adaptable

Although a trading strategy should be adhered to, optimization and fine-tuning is always necessary. Markets are constantly moving so the ability to react in a measured way is important.

Have both upper and lower limits

Using easyMarkets free guaranteed stop-loss and take profit can help you set maximum risk and profit limits. The stop-loss’ function is obvious: it exits a trade when you reach your maximum level of loss.

I’m sure your immediate reaction would be to ask, why should I set a maximum profit limit? The problem isn’t with the potential of more profit but the potential of a price reversal. If you have done your calculations correctly you can find a less risky band of prices to place and close your trade. Each trader has their preferred way to achieve this, through testing and experience you too will find your favored method.

Managing your stress is another crucial part of trading. Stress can cause you to act impulsively disregarding your trading strategy, exit, and entry points. Keep in mind, that when trading it’s a marathon, not a sprint; you need to focus on the overall success of your activities, not a single trade. Take for example hedging – i.e. setting up a trade that will theoretically counter set your risk exposure from another trade, or trades if they are positively correlated.

If you are starting to feel stressed, because of volatility or the market moving against your trades:

Take a break

Step away, have a glass of water, revisit your trading journal, and trading strategy.

Lower your risk exposure

Generally, it is recommended your trades not surpass 1-3% of your total account. Your stress might be a result of being over-leveraged or overexposed on the market.

The margin-stop out

this is loosely related to the stressor above, but feeling a potential margin call breathing down your positive trades’ neck will most definitely increase your cortisol levels (the stress hormone). Again lowering your risk exposure, and having enough funds in your account should help you avoid an unexpected margin call.

Trade with fixed spreads and no slippage with on easyMarkets platform and app

what is more stressful than dealing with an unpredictable market and adding more variables to that? Variable spread brokers (also known as floating spreads) will increase their spreads during volatility, causing costs to the trader to increase significantly. Slippage may also increase cost during volatility – essentially, slippage is the rate at which you place the trade and pip difference between when it is executed. Sometimes this can be beneficial but most times it's not. Luckily for you and your stress levels, easyMarkets features no slippage on its web and app platform and fixed spread on both web and MT4.

Use stop-loss and take-profit

Most of the negative effects of trading psychology, have to do with open trades or closing trades when you shouldn’t. Stop-loss allows you to make this process a little more automated avoiding potential human error or emotional trading. Stop-loss will close your trade at your maximum risk tolerance, whereas take-profit will protect you against price reversal closing your trade at a profitable level, that you have predefined.

You lose one, you lose two, frustrated you can’t understand what went wrong. You open another trade in anger. Unfortunately, trading when you’re angry will most likely result in exposure to avoidable risk, impulsive trading to ruinous results. If you’ve followed the steps mentioned above though, you shouldn’t be subject to any negative emotions when trading.

If you feel that you are trading in anger, take a moment to assess:

Have you lost multiple trades in a row?

Were these losing trades part of your trading strategy or placed ‘on the fly’?

Have you tried to recover losses by opening another trade?

If you answered yes to some or all of those questions, then be careful, because you might be trading in anger or revenge trading. To manage your anger effectively first you need to step back. This holds true even if you have a series of successive winning trades to avoid succumbing to overconfidence.

Managing Trading Psychology

Trading carries innumerable complexities and variables, but one of the most significant is the human factor. You might find being able to manage yourself and your emotions the biggest obstacle to achieving your trading goals.

Luckily, easyMarkets not only offers you the educational support necessary to manage these negative emotions, but it also gives you tools to protect yourself and your funds.

dealCancellation

Unsure about a new trade? Activate dealCancellation before you open your trade and if the market moves against you, just undo it and recover your funds minus a small fee. This also gives new traders another little bit of reassurance before opening a trade.

easyTrade

No margin and zero spread trading, open quick trades, or hedges. easyTrade is an option-based trading ticket that features no margin requirements and zero spreads. Additionally, your pre-defined risk amount is locked-in without putting any limit on your potential upside.

Freeze Rate

Especially when markets are volatile a few seconds can go a long way. This is why easyMarkets gives you the ability to temporarily pause live rates when opening or closing a trade when you use Freeze Rate.

Fixed Spreads

The last thing you need when markets are unpredictable are your spreads increasing. Most variable spread brokers or floating spread brokers, unlike easyMarkets, increase spreads during volatility. This can increase costs, rendering an overall successful trading session unprofitable. easyMarkets never changes its spreads during trading hours, so you can calculate your costs before you trade.

Free Guaranteed Stop-Loss and Take Profit

This trading condition offered by easyMarkets at no additional cost on its web and app platforms, allows you to set an upper and lower limit on your trades. This allows you to automate your trading to a certain extent, protecting yourself against both runaway losses and unexpected or abrupt price reversals and drops.

Learning How to Trade

Now that you’ve dipped your toes in the pools of trading knowledge, why not dive in head-first. easyMarkets not only offers an extensive library of educational materials to help you learn trading, including ebooks, articles, and videos. It also gives its clients access to the free and informative easyMarkets Academy that features dozens of courses with multiple videos and knowledge tests.

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