There are many publications that over and over again discuss which psychological aspects of exchange trading one needs to cope with in order to be able to generate long-term and stable profits by trading. Even many seminars devoted to this issue are held around the world and, of course, there are also countless books. Millions of traders know that they need to work on their discipline. They keep various diaries in which they record their feelings and every detail of their strategies and individual trading sessions. Every day they try to “iron out the kinks” so that they do not miss any detail that could rob them of the delightful feeling of a long-term trading success. In books you can read that the mastered trading psychology contributes to the success in trading by 70%, 10% are good entry and exit rules, and the remaining 20% is thanks to the sophisticated money management. However, this should be taken with caution.
In my opinion, beginners should not take these publications too seriously and rather focus on a detailed and long-term study of statistical laws of trading, market behaviour, building of own trading strategies and approaches, and so on. Yet I do not deny that if I had never studied trading psychology I wouldn´t be probably mentally prepared to properly employ my skills in live markets. As I see it a mastered the psychology of trading means especially a long-term persistence and the ability to believe in yourself and in your thoroughly tested and backtested trading strategy – or in your knowledge gained through a properly targeted long-term study. I have been trading live for quite a few months and I must say that I´m constantly reaching new and new profits. My capital is growing, but it also has its inevitable downturns, yes, I mean the typical losses (drawdowns) that inherently belong to trading. They are its inseparable part and only those who believe in their hard-won know-how can handle (especially mentally) these grim periods of losses. Despite the fact that you can find countless articles and tips how to cope with losses in literature and on the Internet, I would like to outline also my personal view on the matter. It is because each of us is unique and our experiences can help the others to move forward. That’s why I focused on the long-term perspective of this issue on my website AOStrading.cz. You can find here a series of my articles in which I addressed the individual aspects of trading psychology. I sincerely hope that these ideas will help you to your personal success, inner satisfaction, and trading profits.
In the first part of a large series on trading psychology we are going to focus on one phenomenon that affects many beginners. The common scenario is this: The beginner learns about trading, he reads a few articles or a book, attends some seminar about trading basics and within three months, or even sooner, he opens a trading account and starts to trade live. What excitement! To his own detriment, his first few trades are accidentally profitable and he earns good money. At this moment his ego starts to speak and a problem arises. The euphoria brings the beginner to a belief that trading is actually very simple and that he is just the one who is destined for success in the markets. Then the first series of losses comes and he starts to panic, he wants his money back! He starts to trade excessively and with increasing number of contracts. His indiscipline then causes that he wipes out his trading account. And then he ruefully leaves the scene and pulls the curtain. I would compare this to a footballer who manages to score three times during his first match in a new team. His character traits include pride, arrogance, and overestimation of own abilities. Soon he stops working on himself, he does not train and exercise regularly. He does not realise that he is actually at the beginning of a long and demanding journey. Then the competition sweeps him away and the footballer ends up sitting on the bench. This simplified example shows us three types of traders. Two of them are lost and they lose their money because they do not respect the basic rules without which nobody can succeed in trading. I have met with these traders many times. As an example of the third type of trader I chose myself. I am going to subjectively evaluate how I have been approaching trading for years, what mistakes I made and what I did (in my opinion) rightly because after
Trader Type 1 – Unprepared gambler
The example is a friend of mine who was engaged in trading. I had absolutely no idea about this until one day when we had a drink and he started to speak about his trading. We were in a totally different situation. He had already opened and wiped out his trading account. The first indication of his unpreparedness was the fact that he opened his trading account at an unnamed Czech bank which has incredibly high commissions (fees for execution of trades). There are much cheaper and more expedient brokers with a better service! Another mess was the fact that he borrowed approximately $10,000 from his friend, which was really a major problem. The basic prerequisite for success in trading, and perhaps the most fundamental one, is the self-discipline. Can you imagine having your emotions under control if you trade in such a competitive and unforgiving environment as futures exchange with a borrowed capital? Another aspect of my friend’s failure was an insufficient backtest. He said that the performed backtesting, but the question is to what extent. And in case he really backtested his trading strategy, the question is to what extent he adhered to it in real trading (considering the borrowed money). I do not know exactly how his career in trading continues, we haven´t been in touch for a long time, yet I know that nobody is going to return him those $10,000 and I dare say that he lost it due to his absolute unpreparedness and lack of know-how.
What can you learn from this deterrent example of the Trader Type 1?
- If you are a beginner do not ever trade with borrowed capital. If you are not able to earn at least $10,000 as the initial capital, you should consider whether trading is really for you.
- I read a beautiful sentence in one book the title of which I unfortunately do not remember. I paraphrase: “The money is the only value you can afford to lose”. I have always adhered to this motto. Nothing can give us back our health, relationships, or moments in our lives. But why should we get into existential problems by trading? It would be a nonsense to save up several thousand dollars, leave our job and start trading and think everything will be just fine because are going to earn exorbitant sums. This does not work in trading nor in any other business or commercial activity. From my perspective, the essential aspect of success is a stable income. You must perceive the money you can earn in markets as money that you actually do not need. When you lose it the world will not end, you’ll be able to make a living for yourself and for your family, pay bills, and so on. If you see your trading capital as money that you want to appreciate and that you actually do not need, then your emotional equilibrium gets at much higher level and your chances of capital appreciation proportionally increase!
Trader Type 2 – Non-systematic suicide
A friend of one friend of mine was a typical example of the non-systematic suicide. He had a huge monitor on his table and he was wearing earphones in which he was listening instructions of some “guru-trader”. Needless to say that it was a paid service when the “guru” traded live and my friend was watching the price chart with technical analysis and commentaries on the “guru´s” activities on his monitor. I did not want to disparage this study method of his. After all, everybody is different and has different preferences. After some time I met him and asked him about his trading results. I immediately realised that he definitely was not profiting. The same situation as in the previous case of the “wannabe” trader who also lost some … thousand dollars. Also this trader, like many others, began to trade live without any training and the necessary knowledge. His knowledge on trading were absolutely inadequate. He did not backtest his trading “strategy” on historical data because in his words “it was not possible”. But can you speak about a trading system when you cannot clearly define its entry and exit conditions? Not so long ago, I met this friend of mine again. Unfortunately, he is still a beginner because he does not work on improving of his trading approach and he still has not really adopted the term “backtest”.
What can we learn from this deterrent example?
- Do not neglect the most basic component of trading – a quality preparation the inherent part of which is backtesting of your trading system and the related robustness testing.
- Learn everything about trading. Read publications and articles. Choose quality courses that will bring new and valuable knowledge. All in all, if you want to succeed in trading you must love it, study it with enthusiasm and be always open to new knowledge. Remember that trading, like any other field, is continuously evolving. It is definitely not advisable to rest on our laurels in this tough environment of relentless numbers!
I, Petr consider myself a typical example of such continually studying trader. I started to study trading during my university studies. I got to it through a friend of mine who started to study the issue of exchange trading a few months before me. Thanks to the knowledge of English (the vast majority of materials related to trading is in English) I started to read my first books and foreign articles about trading and I got really enthralled by this entire field. I felt since the beginning that there is a huge potential in trading and that it could suit my nature because I perceived it (and I´m still perceiving it) as a mixture of statistics, probability theory, psychology, and creativity (by creativity I mean building of your own trading systems), i.e. topics that have always appealed to me. Very soon I had a software platform (Sierra Chart in particular) installed in my notebook and started with my first manual backtest.
The following year and a half, or more, I was studying price charts and I was trying to build my own trading systems. I admit that this period may seem a bit long, but I was limited by the fact that I did not have a sufficient initial capital to open a trading account with which I could start a serious live trading. Today, I am convinced that if I had had the sufficient capital, I would have probably lost it very quickly because I definitely didn´t have a proper know-how for live trading. I did not know the important aspects of trading systems´ robustness testing.
Over time I was finding new and new books on various trading-related topics – from the psychology of trading to Money Management. In terms of backtesting, however, I was only marking time. It is because the manual backtesting proved to be very time-consuming yet inefficient process. A major turning point in my trading career came when I began to intensively study automated trading systems (ATS). Everything about trading started to get clearer contours for me. I learned many new things and employed my existing knowledge for programming codes. My marking time suddenly changed to a sharp shift. I spent more than a year and a half by preparations for live trading via ATS. Then I started to trade my ATS live. But be careful! Before I started to trade live I had been putting aside part of my salary each month so I saved up a sufficient initial capital that allowed me to survive the inevitable drawdowns. Of course, I was also able to cope with drawdowns thanks to my studies of psychology of trading. In fact, the key to my success is the ability to think in probabilities. In other words, I can keep in mind that if I have a sufficiently funded account, I can overcome a series of losing trades.
What can we learn from this example?
They say that the man should not look back, but if I had to say what the biggest mistake was that I made during my trading career, it would certainly be my indecisiveness and fear of learning new things. I subconsciously deliberately ignored and condemned the incredible computing possibilities associated with robustness testing of ATS, although I intuitively felt that this approach has a great potential. As they say, everything has its time, but now I am convinced that I should have been more open to this sphere and not be afraid of new things. Everything new and innovative must first beat human indolence. I recommend you to think in the same way and if your intuition suggests that you see a new direction in trading that can shift you forward, do not hesitate to seize this opportunity.
We have explained that in trading, and also in life, nothing can be speeded up and it necessary to honestly study, like in any other field. We showed three types of traders, two of which unfortunately lost their capital. It’s up to you whether you can learn not only from yours mistakes, but also mistakes of others and find the best way to the longed-for and regular profits. Before you start trading live you should be sure that you have done the maximum for your success. None of the top athletes became a professional from day to day. In trading, you can easily execute trades whenever you please. However, if you do not want to trade only on the basis of your “intuition” and without proven robust systems, I recommend you an easier way to lose your money – visit some casino.