Educational Articles

Trading Psychology

Do You Want to be a Trader?

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In this day and age, becoming an independent financial trader is easy. You just need some capital and a brokerage account, and voilà, you're a trader! The only problem is, trading the markets is not quite so straightforward!

First steps

Before anything else, you'll need to ask yourself WHY you want to become a trader. The answer to this question is crucial as it will determine if trading is for you, so it's important to be honest with yourself here. Here are three of the most common responses:

Financial freedom: Few professions allow the freedom trading does. It's important to be clear about what you want. Is it the freedom to purchase that high-end car you've always wanted, take the family on a dream vacation or simply add a few more pennies to the retirement fund?

An adrenaline rush: This, we believe, is akin to gambling in a casino. Some individuals enter the industry for a 'daily fix' of adrenaline. Unfortunately, just like most gamblers this will only end one way: an empty account.

Prestige: Do you need to be that guy who turns up at dinner parties in a Ferrari? If you're trading to impress, greed will eventually take over and could lead to ruin. You have to be humble in this game, or it WILL humble you! The ability to control one's emotions is a HUGE part of trading.

Successful traders/investors, in our experience, have one thing in common: they all have a clear purpose/goal. This is to make money. They're not trading to feed their egos, impress friends or to get a daily boost of adrenaline. It all comes down to making money year in year out.

The learning phase

Can anyone be a trader? With a healthy amount of will power and determination we believe so. With that being said, however, learning to trade is not easy. In fact, it's one of the most challenging tasks you will undertake in your lifetime.

Malcolm Gladwell gave us the 10,000-hour rule. Gladwell stated that anyone can master a skill with 10,000 hours of practice. While this number may seem a bit excessive to some, we have had the opportunity to interview traders who confessed to having studied for over five years, spending 3-5 hours a day glued to the charts before reaching proficiency. Some even admitted to studying for as long as ten years! For that reason, we believe there is some truth to the 10,000-hour rule. As such, enrolling on a weekend course will NOT, despite what the advert or guru claims, magically transform you into Warren Buffet or George Soros. To become versed in this profession, it takes time, discipline, hard work and commitment.

Learning to separate life from trading is important. In the earlier stages of your journey one has to be careful not to become addicted. While we would agree that one needs to have a certain obsession in order to succeed, we would advise trying to set scheduled study times. When it's only you and the charts with little distraction, this will help get the most out of the time you spend at the computer.

What type of trader do you want to be?

The three most common types of traders operating in the market are: the day trader, the swing trader and the position trader.

Becoming a day trader (sometimes referred to as a 'scalper') seems to be the more appealing route these days. Typically, a day trader's positions are liquidated prior to the market close. The objective is to capture profit from small moves. Trades are often short term, sometimes only lasting for a few minutes. it's not uncommon for a short-term trader to take ten trades a day, some do crank out a lot more though! Traders in this category tend to focus on the lower timeframes, using the 1, 5 and 15 minute periods.

A swing trader on the other hand takes a slightly different view on the markets and looks to take advantage of the longer timeframes such as the H1 and H4 periods. Trades usually last for a few hours, but can stretch to a couple of days or longer. Unlike a day trader, swing traders do not have to be at their computers all day and generally risk between 1-2% of their account on each trade. This allows the trader free time during the day to do other things.

And finally, we have the position trader. This approach usually entails using larger timeframes: the daily, weekly and monthly periods. Traders who adopt this method will have a long-term plan in place. Trades can span days, weeks or even sometimes years if the trend is in one's favour. You need a healthy dose of patience to trade this way, and often only need to check the charts once a day.

Technical analysis or Fundamental analysis?

We would not recommend singling one out here, since both technical and fundamental analysis are useful.

Fundamental analysis helps answer WHY a market is moving in a particular direction. For example, is the currency pair rallying due to an expected rate hike in the near future, or is the move fuelled by a country's political stance? Knowing what causes markets to move helps one pin down market direction in the future.

Technical analysis helps define WHEN to trade. Assuming that we know the underlying fundamentals are supporting a rally in the dollar, for example, but price action is seen trading at the underside of a strong resistance (which essentially means a level in the market that price has trouble breaking above in the past), this may not be the best time to buy the currency. However, once that resistance is consumed, a buy is high probability since the trade now has both technical and fundamental cues signalling that the dollar is likely to strengthen.

Psychology

Sadly, this section is often overlooked which is a shame since it is said that trading is 80% psychological and 20% technical. A plethora of books have even been written on the subject. Here are a few points to think about:

  • The ability to follow your trading method flawlessly and not give in to greed and fear is a key aspect of successful trading.
  • Thinking in probabilities is another crucial element to read up on.
  • Learning to accept losses and not let it affect your next trading decision is also a huge part of trading.
  • A patient trader is a wise trader!

Working on yourself (your mindset) as well as the trading method is just as important! Make sure to research this subject as it can make or break you as a trader.

Common mistakes traders make

  • Not having a clearly defined plan of action. Without this, you're little more than a gambler, in our opinion. A plan should, at the very least, detail risk, system rules and maximum permissible drawdown. Nearly every mistake traders make can be boiled down to either not having a plan or not following it.
  • Over-leveraging. Newer traders commonly misuse margin. Trading this way will, with a high probability, end with your account being wiped out. If used correctly, margin is a valuable weapon in a trader's toolbox.
  • Taking advice from so-called gurus. This is not to say that all who give advice do not know what they're talking about. There are traders out there who openly prove to the public they know what they're doing. However, do yourself a favour. Rather than relying on the expertise of another trader, learn to master your own method!
  • Refusing to take a loss. Taking losses is a part of trading. Think of it as a business expense such as rent or payment for stock. Not accepting a loss is a good way to lose your account! The stop-loss order is there to tell you when you are wrong. USE IT!
  • Trading with emotions. Unless you're a robot, there is no way to completely remove the emotions that run through us. What one can do though is learn how to control these emotions so that it rarely affects your trading.
  • Impractical expectations. Expecting to become a millionaire in a year with a $1,000 account is not really a reasonable expectation. This will cause unnecessary stress/pressure. Trading is NOT a get-rich-quick-scheme.

Do not make the mistake of thinking trading is easy. Learn to think like a professional. Take time to understand your psychology and the market you're trading.

So, where does one begin?

Here's a brief step-by-step guide we've put together for our readers:

  • Start by sifting through our educational section here: Spend time learning the basics. There's no rush.
  • Sign up to an unlimited Demo account. This will allow you to trade the markets using simulated funds. Here you can also test strategies and familiarise yourself with the terminal's functions.
  • Begin formulating a method to trade the market. We would recommend researching price action. There's plenty of trading setups out there that solely focuses on price action. Our daily market commentary covers this in depth using a multi-timeframe approach: . Feel free to check it out.
  • Read up on trading psychology. This should be done simultaneously alongside step 3.
  • Practice, practice and practice!
  • Once you've tested your chosen method and are satisfied with the results, you may consider opening a live account. With IC markets, you can Open an Live Account with as little as $200. That way, making your very first trade need not break the bank should you make a mistake.
  • Stay down to earth. Don't set unrealistic expectations.