Successful trading requires good planning strategies and a disciplined mind-set to build a consistent track record. It also means recognising when emotion is playing a role in decision-making.
Trading needs to be approached like any other business, with the right attitude and discipline. Long-term success cannot rely on luck or gambling.
According to Alexander Elder, author of Trading for a Living, to be a good trader “you need to trade with your eyes open, recognise real trends and turns, and not waste time or energy on regrets and wishful thinking.”
Here are five positive trading habits that traders should think about adopting into their trade plan and when approaching market risks.
1. Understanding fear in trading
There is risk in every trade and how a trader manages this risk will largely come down to their personality type and trading psychology. When faced with fear, most people will adopt a fight or flight response. When this happens in trading judgement and performance is impaired.
In his book The Disciplined Trader, Mark Douglas says that successful trading is 80% psychological and 20% methodological. He adds that emotion is the enemy of successful trades and a successful trader has to learn to trade without fear or overconfidence.
To eliminate fear or remove the emotional aspect of trading you have to incorporate practices that make you more disciplined.
Fear of missing out, fear of losing
Fear in trading can come in many forms from fear of not being right and fear of missing out, but the biggest is fear of losing.
This fear of losing is also known as loss aversion bias and derives from our innate motive to prefer avoiding losses rather than achieving similar gains. Studies by Amos Tversky and Daniel Kahneman suggest that losses are twice as psychologically powerful as gains.
As part of our innate survival instinct this bias can help us respond effectively to threats in life. In trading it can lead to irrational decisions such as closing positions to avoid a loss or taking smaller profits in fear of a larger loss. Some traders might even take out revenge trades to recover losses or add to losing positions to average down.
Douglas says that the key to becoming profitable is learning how to handle trading fears. He adds: "Most investors believe they know what is going to happen next. This causes traders to put too much weight on the outcome of the current trade, while not assessing their performance as a probability game that they are playing over time.
“This manifests itself in investors getting in too high and too low and causing them to react emotionally, with excessive fear or greed after a series of losses or wins."
2. Keep up-to-date with trends and market moves
The financial market is constantly changing and evolving so a trader has to learn how to interpret the news and use this to their advantage.
Some experts claim learning and making decisions based on this knowledge can help identify newer opportunities that others might not see or that they may pass over. While others believe that you should never trade the news.
Nial Fuller, a professional trader, author and coach, falls into the latter camp. He says that a trader really should follow a limited amount of data to form decisions as opposed to letting everything he or she is exposed to create their opinions of the market. It is important to focus on price action and ignore the news.
He says: “Successful traders share a similarity with people who are dedicated to getting and staying in shape; sticking to a diet and exercise plan and being disciplined with it means cutting certain things out (too many beers, McDonald’s, being lazy, etc).
“Successful trading also requires you to cut out the things you don’t need; if you try absorbing and using everything you see on the news, you’ll quickly blow out your trading account.”
Is the trend your friend?
Yet many still feel that there is some truth in the old adage of floor traders that “the trend is your friend”. And only by keeping up-to-date with market news can traders know how to separate hype from reality.
Following the crowd, or the herd, is an easy habit to fall into in trading and sometimes it makes the most sense. However, it is harder to know when to stop riding the wave and come ashore. Warren Buffett once said: "Be fearful when others are greedy, and be greedy when others are fearful."
One of the most famous and oldest examples of herd mentality in trading was the tulip mania in the late 16th century. The Dutch tulip market was booming and people were making and losing fortunes in one night. A more recent example is the dot.com bubble at the end of the twentieth century.
In both investing and trading, facts and research are your friends as is logic. Failure to learn and educate yourself on the herd mentality of investing can be disastrous to your portfolio.
3. Learn discipline
Recognising cognitive or behavioural bias in trading, from herd mentality, loss aversion or others, is crucial to successful trading. Human emotions can lead to self-sabotage and trading losses so it is important to develop a plan and following a plan requires discipline.
Anka Metcalf, founder and CEO of TradeOutLoud.com, says that a detailed trading plan is the blueprint to success as it helps define you as a trader and the way you trade. It will also help you find, execute and manage trades with ease and most importantly will help you put the education puzzle together.
She adds: “Discipline is the essence of all of the psychological issues. All the rules and strategies do not count if they are not followed to the T. Discipline is what differentiates a successful trader from a trader who struggles.”
Adhering to your trade plan is a key element to maintaining discipline and if a trader has a plan they are more likely to develop a strong trading strategy. This includes being clear on goals and also knowing when to cover losses or when to book profits.