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How Trading and Psychology are Linked
When it comes to trading, psychology plays a big role in your successes and failures. Trading psychology boils down to the thoughts, impulses, and behavior
When it comes to trading, psychology plays a big role in your successes and failures. Trading psychology boils down to the thoughts, impulses, and behaviors that form your decision-making. Even the most efficient and formulaic traders are able to be successful because they have trained their mental states to work in their favor rather than against them. Read on to learn what a proper trader mindset looks like and how you can gear your psychology toward reaching your goals.
Trading Psychology Looks Like This
Since some of the core emotions in human psychology are fear and desire, it should come as no surprise that fear and desire take center stage in trading psychology. Fear and desire play huge roles in determining how disciplined you are and how likely you are to take risks. Everyone’s disposition is different and ever-changing, but more likely than not, you can gain insight into how fear and desire rule your decisions by asking yourself questions like:
- Do I often spend time carefully crafting a trading strategy only to abandon it when I see a new trend that I’m afraid to miss?
- Do I end up sticking to most of the strategies I set?
- Do I lose money often based on impulse decisions?
- Do I over-compensate for failure and end up losing even more money in the process?
Why Understanding Your Mindset is Important
At its core, any emotion like fear and desire is a signal that can function either as a tool for survival and success or as a hindrance to your goals. The difference in outcome depends on how you react to the emotion and utilize it.
In a broad context, psychological training teaches you how to utilize your everyday emotions in a way that benefits you and your lifestyle. In a trading context, proper psychological training allows you to form habits and behaviors that benefit your trading game and allow you to navigate failure efficiently. So it’s important to be aware of your mindset in order to modify it and reach your goals.
How Your Mind Gets in the Way of Your Goals
If you don’t have a good grip on how you react to fear and desire (also known as greed, impulsivity, longing, etc.) in your trading decisions, there are several outcomes that can happen:
You’ll Act on Emotion
In trading, thinking on your feet and making timely decisions are just part of the game. With that in mind, when you’re making those decisions based mostly on fear or desire, those snap decisions can end up costing you. One way your mind can trick you into making a decision is through herd mentality: this describes the tendency of an individual to join a trend simply on the basis of many other people jumping on it as well. The individual assumes that the other people jumping on the trend have done their research and analyzed the market correctly, but this usually isn’t the case.
While you can find success in some instances of herd mentality, these moments are few and far between. Trends can invert at any time, especially when emotions are involved rather than data. There is a reason that seasoned, successful traders advise every trader to form strategies and try to stick to them on a highly consistent basis.
You’ll Abandon Your Strategy (and Hard Work)
As mentioned before, fear and desire can make you veer from your trading plan once you’ve spotted a new trend or piece of data that seems to contradict your current strategy. Sometimes abandoning ship is a good decision -- not every trading plan will be a successful one. However, if you find yourself doing this often, it is most likely at your detriment. The plans that you work hard to craft based on your research, experience, and tools like backtesting are most effective when they are followed how they are intended to be followed: consistently.
How To Take Advantage of Your Mindset
As you work on your mindset, here are some things you can do to train yourself toward a more beneficial and efficient trading psyche:
- Identify your impulses.
- Record the times your trading outcomes are negatively impacted by impulses.
- Pay attention to the events that frequently trigger your buying and selling.
- Assess your performance regularly.
- Stick with your trading plans and form better ones by conducting more research and taking advantage of tools and community resources.
For more information on how to become an efficient trader, check out our five essential habits that seasoned traders build. Happy trading!