Take the fear out of trading

Take the fear out of trading
Published: 05 December 2013
Learning to Trade
Many people learn to drive a car in a quiet parking lot or on a quiet road on a Sunday afternoon. They start off by just sitting in the car and adjusting the seats and mirrors until they feel comfortable enough being in the car. They then learn how all the pedals work. The biggest challenge for many people is learning to get the clutch technique right. This technique alone would probably take time, trial and error to master. We all had our fair share of stalling the car, grinding the gears and making many other mistakes on the way. We all had to go through that learning curve. Yet, after a while, we started feeling more comfortable and confident with our driving. Now we can drive a car without consciously thinking of pushing in the clutch to change gears.

The same approach works with trading. You should first start by learning the theory behind the ins and outs of trading before you begin trading with real money. In this week's newsletter, we look at some of the theory behind the share market. There are many good books available online, tutorials and webinars, as well as trading-related articles on the Internet to get you going.

Theory is one thing but putting it into practice is another. PSG Online also provides a trading simulator that includes the Top 100 shares by market size. Here the novice trader learns how to place buy and sell orders on the trading platform. More importantly, the trader gains confidence in his or her stock-picking abilities. Most people go through a learning curve in that they make some mistakes and lose money. But this is virtual money and they are learning in a risk-free environment.

The fear is greater than the loss
All traders experience the emotion of fear on some level, but, what is more important is how they manage it. While trading decisions that are clouded by fear may feel right at the time they are made, such decisions are frequently wrong. Traders may hesitate in pulling the trigger because they fear the prospect of a loss. Alternatively, they may hang onto a losing trade because they fear taking the loss. Traders may also jump into unplanned trades or put on a trade on impulse because they fear to leave money on the table. The first step is recognising or being aware of these four main trading fears.

The fight or flight response is a natural reaction for anybody who faces some sort of perceived danger. The human body reacts by activating a sequence of physiological changes. The sole aim here is to protect oneself by preparing to struggle or escape. Thankfully, trading the financial markets is less dramatic. Nonetheless, when a trader experiences a strong emotional response coming on, his or her trading decisions are still negatively affected.

Fear is the emotion that stops us from doing things that might be too risky. Fear is probably the most significant emotion for traders, and many traders struggle with this emotion. Significant trading losses will often lead to further emotional distress and turmoil.

Fear of being wrong
Would you rather be right or be rich? For many people, in an argument, winning the battle is more important than winning the war. The desire to be right directly opposes the ability to make money and be successful. No trader wants to lose money, but, when the trader's desire to be right is so powerful that it leads them to second guess their trading strategy, it becomes a problem. They will either take profits too soon or hold onto a losing position in the hope that the trade will reverse in their favour or at least help them to break even. The emotion of fear can be overcome by acknowledging that all traders occasionally have losing trades. Yet, as long as these are less frequent than the winning trades, there is nothing to be afraid of, because there will still be a net profit. The trick is to take some small losses and not to have big losses.

The fear of loss
The fear of loss can prevent any trader from placing a buy or sell order. It can also prevent the trader from exiting a trade when they should be doing so. They need to be decisive in taking action when the trading strategy dictates a new entry or exit. When fear of loss holds you back from taking action, you also lose confidence in your ability to execute your timing strategy. In turn, this causes a lack of trust in the trading strategy. More importantly, this impacts on your own ability to execute future trades. The little voice in your head will always remind you of your last losing trade. Quieten those little voices.

The fear of missing out
This fear, of missing out on profits, usually occurs after the market has experienced a very strong rally. All your fellow trading friends boast about fantastic profits they are making on the market every day. You do not want to miss out on the opportunity and decide to also buy. You are now becoming susceptible to the emotion of greed that comes so easily when the market runs high. Then, just as you buy in near the top of the market, everyone else decides to sell. As a result, the market starts falling on profit taking. By having a detailed trading strategy and sticking to the trading strategy, you will eliminate this fear.

Fear of losing out
You may have a paper profit or unrealised gains, but, you now start worrying about losing it. You think about cashing-in and taking your profits, as you have heard that no-one has ever cried about taking a profit. The challenge, however, is that the market will most likely continue to move in the same direction and you are left fearful that you may just be selling too early. Imagine telling your friends that you sold out and pocketed a 20% profit when the share price nearly doubled just after you sold out? Once again, by sticking to a detailed trading plan and having a profit target in place, you will not let the emotion of fear rule. The successful trader will make profits out of other investors and traders' fears.

The solution
Our trading psychology can often get in the way of trading, even if we have improved our technical trading edge. Three scenarios occur here: firstly, many traders just stop trading and never return. Secondly, some traders try to understand and correct the mistakes in their technical game, only to discover that none of the techniques they have learnt actually helps them to overcome fear. In the third scenario, we see that to become successful, traders need to manage both the technical game, as well as the emotional side of trading. You need to have the right trading tools, trade the right shares or markets and trade in the right trading systems. It is even more important to have the right psychological and emotional viewpoint. Without the right mindset, your emotions will have a big impact on your trading, and may even prevent you from trading after all.

Although the desire to trade may be strong, one's mental response to fear can be stronger. The focus should not be on that particular trade, but, rather on sticking to a trading strategy, which in this case means pulling the trigger, which over time will make you successful. Developing a winning trading strategy takes time and while no single trade will make or break the strategy, it is imperative to always follow a detailed trading strategy. The trading strategy should detail the trading method to be used, by identifying possible trading candidates. The trading strategy should moreover dictate the rules for entry, exit and stops. A trader should also know when he or she is emotional and what steps to take to become objective again. Most importantly, the trading strategy should have detailed money and risk management techniques in place. This is where the tyre meets the road. If this seems to be too daunting, you need to take a step backwards. Your first investment is in your financial education. You need to gain more confidence. Keep in mind that confidence comes through knowledge and experience.

It is a proven fact that most people will not achieve financial freedom. One way to start bending the odds in your favour is to get your investment capital to work hard for you. In doing so, you will achieve returns greater than inflation, over time. The share market has historically always beaten inflation over the long term. Fear should not come into the equation. Although the emotion of fear is there to protect you as a human being, it can be a problem if it is not managed in the trading environment. Your goal as a successful trader is to remain as objective as possible. By gaining the necessary knowledge and experience, your confidence levels will improve and fear should diminish.

This article was contributed by Shaun van den Berg, Investor Education/Technical Analyst at PSG Online.
- Regenesys
Tags: Regenesys, Trading,


Latest News

Latest Published Reports

Latest jobs