Greed & Fear in Penny Stocks Trading

Greed & fear are two critical emotional states that drive the stock market up and down. Greed causes traders to hold on to their positions too long while fear causes traders to get out of their trades too early. Every successful trader must learn how to deal with greed and fear before they can make consistent profits from the market.

How Greed and Fear Control Your Trading Behavior

I've seen beginners who are so fearful that they are not able to put on a trade. They did well when they paper trade the market. As soon as they have their own money on a trade, they just couldn't do it. On the other extreme, there are beginners who hope their stock will keep going up forever (greed).  They never want to exit for a profit or even partial profit from their winning penny stocks, and eventually turning their winnings into losses. These behaviors are directly related to the two trading psychology that comes with the market and built-in with every human being, greed and fear.

What Causes Greed?

There are two types of thinking that may cause greed in trading, the get rich quick and the fear of missing out mentality.

Get Rich Overnight Mentality

The get-rich overnight thinking leads traders to think that they can get rich on one penny stock and be in retirement. This is not trading at all. It is what we called speculating. Speculating will not get you very far in trading because the odds of you picking that winning penny stocks is low compared to the thousands that may fail. Now, don't get me wrong, I'm not saying that you can't get rich with one stock. As a matter of fact, plenty of people got rich holding only one or a few stocks like Amazon, Microsoft, Apple, and Google. If you bought any of these stocks 10 years ago and hold them until today, you would have become rich. But that's a different game. When you are holding stocks for the long term, you are investing, not trading. When you invest, you buy quality companies that make money every quarter with a competitive product and an edge in their industry. Penny stocks, on the other hand, consist mostly of junk stocks that are about to go bankrupt at any minute. If you hold them for the long term, the chance of losing all your money is much higher than you getting rich. Even if you did have a big win with a penny stock and got rich overnight, you won't retire after that big win. Once you get a taste of the money, you won't quit. You will keep speculating and eventually lose it all.

The Fear of Missing Out Mentality

The fear of missing out mentality is another factor that causes greedy behavior in the market. It leads traders to hold on to their stock much longer than they should have. There are traders who bought a stock at $1, saw the stock goes up to $3 only to fall back down to $1 or even lower, and they are still holding. They don't take profit because they hope the stock would go up to $10 or even $20. Yes, there are some stocks that do that from time to time, but the odds are low. Always remember, most penny stocks go under in the long term or get delisted from NASDAQ, AMEX, or NYSE. The only time that you can make a profit in penny stocks trading is to realize a profit. Trading is all about statistics, you want to do things and make trading decisions that would give you good odds. That's why casinos never lose money in the long term because they have better odds than the players. A 10%-20% edge the casino has against the player may not seem like a lot in the short term, but it makes a huge difference in the long run. Traders who have the false impression that every penny stock would go from $1 to $20 in straight lines are usually the first ones to go bust.

What Causes Fear?

There are two things that may cause fear in traders, the lack of funds and the lack of confidence.

Lack of Funds

Some beginners think trading is easy and they can learn how to trade penny stocks and make money quickly because they are smarter than a friend who has just made big money in the stock market. This causes many traders to start with insufficient funds. Either they need to borrow money from a friend to get started in trading or they need to take out a loan. This is absolutely the worst thing to do. When you are trading with the money that you don't have, your trading decisions will be based on how much money you can make on a trade because you need that money to pay your friend back or the bank. But the market doesn't care if you owe any money. As a penny stock trader, your decisions should be made based on the profitable chart patterns that you've found. And if you haven't found a profitable pattern yet, you shouldn't be trading at all. Read the following articles if you are just starting out. How to Day Trade Penny Stocks Round Numbers in Trading Support & Resistance Top Chart Patterns

Lack of Confidence

Lack of confidence is another factor that causes fear which leads you to sell your stocks too early. Let's say you have found a pattern that gives you a winning rate of about 80% and your stop loss is 12%. You bought a stock based on your pattern and it was down 5%. You decided to sell because you have lost $200 on the trade only to see the stock rebound to a record high. While cutting losses short is the right thing to do in the market, penny stocks are volatile and if your stop loss is too narrow, you will be getting stopped out all the time. If you are sad about the $200 that you have just lost, then you should trade with a smaller position size so that the dollar amount won't influence your trading decisions. Every trader should trade with confidence and make decisions based on the pattern rather than the money. Remember, you have already backtested your proven chart pattern and it gives you an edge in the stock market. All you have to do now is to execute the trade.

Conclusion

Most people lose money in the stock market because they couldn't fix their greed and fear emotions. It is not easy because these emotions came with us when we were born. However, if you want to stay in the trading game, you must learn to deal with them.

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