A few days ago I shared my thoughts on the mental side of trading and introduced you to the “Mood Elevator.” This is part two…..
Knowing how to control emotions while trading can prove to be the difference between success and failure. Your mental state has a significant impact on the decisions you make, if you are experienced or new to trading. Keeping a calm mindset is important for consistency in trading. I can not stress enough how important emotional control is in trading!
Impulses based on emotions can often prevent traders from accomplishing their goals. Urges that are fueled by emotions, and not by your game plan, can be very problematic, resulting in knee-jerk reactions.
Professional traders will not take a chance with a poorly thought decision that will damage their account – they want to make sure that one knee-jerk reaction doesn’t ruin their account. It can take a lot of practice, and many trades, to learn how to minimize emotional trading.
In the prior blog I mentioned the following emotions that can impact your trading:
Fear, nervousness, conviction, greed and overconfidence.
A common cause of fear is trading too big. Trading with improper size magnifies volatility unnecessarily. It causes you to make mistakes you normally wouldn’t make if you weren’t under the stress of risking larger losses than normal or you are in the ‘wrong’ trade, meaning one that doesn’t fit your trading plan.
Conviction is a key emotion (fueled by a thorough analysis and proper trading plan) you’ll want to feed off of, and you should feel these in every trade you enter. Conviction is the final piece of any good trade, and if you don’t have a level of conviction then there is a good chance you are not in the ‘right’ trade for you.
By ‘right’ I am referring to the correct trade according to your trading plan. Good trades can be losers just as bad trades can be winners. The idea is to keep yourself winning and losing on only good trades. Making sure you have conviction on a trade will help ensure this.
If you find yourself only wanting to take trades that you deem as possible big winners, you could be getting greedy. Your greed may have been the result of doing well, but if you aren’t careful you may slip and end up in a drawdown.
Always check that you are using proper trade mechanics (i.e. sticking to stops, targets, good risk/management, good trade set-ups).
I will not tell you that I am perfect (whoever tells you that, is a liar). I had a few bad trades. It happened when I did not stick with it and I lost the necessary discipline .
I didn’t use correct set-ups and stops; I thought I was ’better’ than the market. I lost control of my emotions and traded when I should have looked, without any emotion at my position, cut them and moved on. Where was I in the mood elevator? Probably in the bottom half.
Planning is key if you want to keep negative emotions out of your trading. The old adage ‘failing to plan is planning to fail,’ is true not only in financial markets, but in life as well.
As we all know well, there isn’t just one way to be profitable. There are many strategies and approaches that can help traders accomplish their goals. But whatever is going to work for that person is often going to be a defined and systematic approach; rather than one based on ‘hunches” and “ gut feelings.”
Here is what I do. First and foremost I ask myself, “where am I in my mood elevator?” Am I at least curious or better? Have I addressed all outside factors that can influence my emotional state? Do I have a plan? Am I committed to be disciplined and to execute my plan? Have I analyzed thoroughly? Once I check all boxes, I get up and high five myself (figuratively). I am ready to go. Tom Brady got nothing on me! I am as ice as he is.
It is not a “one size fits all” type of a deal. I suggest you share best practices, study the legends of the game and talk with other traders.
Develop your own rules
Setting your own rules to follow when you trade can help you control your emotions. Rules might include setting risk/reward/tolerance levels for entering and exiting trades, through profit targets and/or stop losses.
Trade the right market conditions
Staying away from market conditions which aren’t ideal is a smart thing to do. Not trading when you aren’t ‘feeling it’ or you are in the lower parts of your mood elevator is a good idea. Don’t look to the market to get inspiration to make you feel better. If you aren’t up to trading for whatever reason, the simple solution may just be to step away. Do not force it. Let the game come to you.
Create a trading plan and a trading journal
In terms of fundamental factors, planning for various outcomes in the runup to key news and events, may also be a strategy to bear in mind.
The results between traders using a trading plan (personal approach, trade setups, holding times, risk tolerance, how to handle wins and losses, routines to stay on track) with trading journals and those who don’t can be substantial. Compiling a trading plan is the first step to attack the emotions of trading. Unfortunately the trading plan will not completely alter the effects of these emotions. As I mentioned in the prior blog, first you must be in the right frame of mind before you begin trading. Having a plan and knowing what to do as conditions change will keep your emotions in check. Commitment, discipline, resiliency, patience and acceptance are key.
Go back to the drawing board
When there are inconsistencies in trades, analyze and find communalities that impact the trade results.
To get back on your feet with enough confidence......Backtest. Backtest. Backtest.
My 2 cents, RELAX! & get on the top floors of your mood elevator.
If you're relaxed and enjoy your trading, you will be better equipped to respond rationally in all market conditions. Take that elevator to the rooftop. Rooftop is best!
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