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.
Analysts say adopting a trading style that meets your personality and risk tolerance can aid in identifying the amount of risk you are willing to accept. You are also more likely to adhere to a trade plan if you adopt a trading style that suits your personality traits.
There are four main styles of trading, namely scalping, day trading, swing trading, and position trading. Scalping, for example, is rapid trading and is best suited to active traders who can make immediate decisions and act on those decisions without hesitation.
Others may be more comfortable with swing trading, where they can speculate on price movement over periods lasting five to 30 days. Swing trading is compatible with people who have patience to wait for a trade.
4. Have patience
Patience is another quality for all traders to adopt. Many experts say that alongside good money management, in-depth analysis and discipline, the exercise of patience can make or break your trading results.
Sometimes it is prudent to watch the market and wait for the perfect timing to enter or exit a trade and this means controlling emotions.
Trader Jarrett Davies says that you should base your profit targets on logical reasoning with the fundamental picture and sentiment in mind and avoid simply closing the position on a spontaneous, emotional response to a pullback without any news catalyst to prompt directional change.
He adds: “A trader should remain patient in order to reach the target instead of cutting the trade short. If the trade is hovering only a few pips away from the target then it’s fine to close manually. However closing a position that’s only halfway to target for no reason other than anxiety is a mistake.”
Impatient trades lead to unnecessary losses, additional stress and wasted emotional energy. As a result Metcalf from TradeOutLoud.com says that traders should take time to evaluate their plan before even thinking to place a trade. Market conditions also need to analysed before pulling the trigger.
She says: “Patience is one of the key qualities you need to have in order to be able to deal with different situations in trading from the point you decide to enter your trade, to how you manage your trade to setting and waiting for your targets.”
Whereas Rob Colville, a fund level Forex Trader and author of The Lazy Trader, claims there needs to be the right mix of patience and impatience. He says that one of the trading habits that set successful traders apart is their propensity to be patient with winning trades, but notoriously impatient with losing ones.
Although this tends to go against the natural inclinations of many, he says it one of the qualities that builds a foundation for lasting trading careers. And, of all the trading habits to continually grow and refine, this might be one of the most important.
He says: “In contrast, getting into the habit of, say, moving your stop to allow a losing trade more room to 'turn around' tends only to cause further losses, when a losing trade doesn’t deserve that kind of patience.
“Rather, develop trading habits that minimise losses and let profits run, which will include quickly exiting inevitable, losing trades, and staying patient with winning trades so long as the initial case for going long still remains.”
5. Learn from losses
‘You win some, you lose some’ is an expression designed for trading. Losing trades in the market are normal and inevitable. Some experts say that the difference between being a successful trader/investor and a failure is that successful people understand that there are risks you need to accept and there will be times that you will lose money.
A sound strategy should be based on the notion that you will win more on an average trade than you lose, but that you will not win every time you place a trade. In fact, The Chicago Board of Trade reported that 90% of options traders make losses.
Gary Dayton, trading psychologist and author of Trade Mindfully: Achieve Your Optimum Trading Performance with Mindfulness and Cutting-Edge Psychology, says coming back from a large loss is challenging, but success is never accomplished by denying, withdrawing from, or ignoring trading losses.
He believes these losses — especially substantial ones — can be opportunities to become a more skilled trader.
According to Dayton, there are certain steps successful traders take after a loss to become emotionally stronger and more disciplined. The first is to accept responsibility and take ownership of a loss. After that it is worth taking a break from trading to figure out what went wrong.
The next steps include making a plan and then making an even better plan. He says: “Good traders will take the loss as a stop-out and wait for the next opportunity. Better traders will reverse their trade — if market conditions permit — and make up not only for the initial loss but add profits to their bottom line. Most trades that go strongly against us do so because of detectable reasons.”
Finally, he says it is important to put your loss in perspective and use it as motivation for learning and to develop your skills for better trading. “Once you’ve done the recovery work, trade again. You’re mentally stronger and better-prepared than you were. Let the loss go and put your good intentions into practice.”
Putting these five habits into practice
Trading psychology falls into almost all of these key habits for success. Improving on mistakes as well as identifying strengths and weaknesses in trading seems to be a common theme. All of which can create a more profitable trading platform.
Having a grounded attitude to winning and losing is also essential. As hedge fund manager John Paulson once said: “We’re not going to play a winning hand every day.”