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Emotional trading is one of the biggest hurdles that all traders must overcome. It can determine whether you fail or succeed, and your mental state will impact decision-making. Therefore, a calm demeanor is essential for making clear and logical decisions.
Having a clear strategy and planning your approach when forex trading will help to manage your emotions. Let's discover the psychology of trading and the best way to get your emotions in check.
Emotions Traders Experience
Personal feelings when making decisions while trading is something even the most experienced trader can deal with. Some of the most common emotions that will affect your trade are:
Fear or nervousness
When trading too big, you can make mistakes you would normally never make, but the stress of losing large amounts can cause the thing you fear – unnecessary losses! If you are new to the trading game, you will find that trading with a demo account gives you a false sense of confidence. However, as soon as you start trading with your own money, fear creeps up, and you take risks hoping that it will make up for the loss.
Four reasons cause traders to experience fear:
- The fear of losing their money
- Fear of missing a great opportunity (FOMO is real)
- Fear that their profitable trade will become a loss
- Being wrong about a trade
It's important to understand that the success rate for a new trader is low. If you don't have a good strategy, you are susceptible to fear of losing and struggling to figure out why you aren't consistently profitable. This will also damage your confidence in your ability and strategy.
An enormous fear for traders, beginners and experienced alike, is the fear of missing an excellent opportunity. For example, traders jumping on the Bitcoin bandwagon in 2017 without following their strategies.
We know the excitement you feel when you believe you found a golden egg and want to trade before doing due diligence and investigating the currency pairs and market trends. Don't lead with emotion by overconfidence and excitement because you end up deviating from your trading plan and make unnecessary mistakes.
Your goal is to ensure you are consistently winning and investing in financially healthy trades. So, unless you have researched the trade and are confident in the currency pair, avoid spontaneous trades caused by over-excitement by the industry.
Choosing trades that you think will be big winners and hanging on to the winning position too long causes traders to get greedy. You will end up using every trick upward in price. Once the trend reverses, those that invested being greedy lose in the long run.
Greed in trading is difficult to overcome, and your intention behind the emotion is to succeed but get more and more. Therefore, your trading plan shouldn't be based on whims but on rational thinking. This emotion is usually sparked when a trader does well and wants to see a higher success rate. Stick to your stops and practice good risk management.
How to Overcome Your Emotions When Trading
A trader requires many skills to be successful in the financial markets. You will need to evaluate fundamentals and predict the direction the currency price is moving. While they determine how well you do, neither is as critical as a trader's mindset.
How can you learn to control your emotions? Let's discover ways to manage your emotions when forex trading and effectively implement them in your strategy.
Set rules for trading
You already have an effective trading strategy but do you have one for managing your emotions? Your rules must include establishing risk/reward tolerance levels for when you enter and exit trades. Set a profit target rule and add a stop loss to remove emotion from the process.
Your rules can also include a positive or negative earnings release which will trigger your decision to buy or sell. In addition, set limits on the amount you are comfortable winning and losing. If you reach your profit target for the day, take your money and run for the hills. Don't let greed get the best of you, or you can lose everything you've earned.
Do your research
You can never stop learning. Self-improvement in trading can be achieved through educating yourself by attending seminars, conferences and devoting yourself to research. Study market trends, news, and read trading journals.
Devoting yourself to research after hours will not only improve your trading strategy but will reduce fear, excitement, and greed.
Traders need to remain flexible, and it is acceptable to experiment now and again. It is a good way to test your trading strategy and use these experiences to reduce emotional influences. Assess your performance periodically. Review your returns and current position to reflect on your performance.
This flexibility will help prepare you for a successful, emotion-free trading session.
Establish a trading plan
Having a trading plan is critical to your success. You need to plan for various outcomes of the trade by sticking to your trading plan. Set up your favorite trades, and choose your analytical approach. Establish time frames. For example, if you focus on medium-term trades, know how many hours you want to hold for and stick to your plan.
Controlling your emotions is already a challenge, so not following a plan with a set of rules is detrimental to your success.
You can enjoy your trade by having an effective plan and controlling your emotions. Trading with emotions will cause you to break away from your strategy. There are effective methods to achieve this, so never stop learning, educate yourself on market trends, and learn from others.
Making irrational financial behaviors is usually caused by a “gut feeling.” In trading, these immediate emotions can cause you to make snap decisions and, in turn, a failed trade. Now that you know the best way to get your emotions in check, focus on practicing discipline and rational thinking.