How to Control Emotions in Trading
Emotion is a critical factor in trading success yet it is one of the hardest skills to master. Human beings are emotional creatures and we make decisions based on our instinctive nature. However, when it comes to trading, we want to throw our emotions down to the toilet, or else we will not succeed in trading.
One of the reasons that chart patterns and technical analysis work so well in trading is because they are based on human psychology. We all act and react in similar ways in the market. When we lose money, we feel fear. When we make money, we start to get greedy.
The question is how do we control our emotions in the market and trade like a robot?
What Causes Emotions in The Market?
There are two main emotions that we've already discussed in greed and fear. In this article, we will talk about actual steps in dealing with our emotions.
When we buy something expensive online, we compare prices, read reviews, and do research trying to get the best products at the lowest price possible. If we approach the market with this same type of mentality, we will lose money.
When we see a stock that was trading at $1 yesterday and now it is trading at $1.5, there are two actions that usually go through the mind of most traders, driven by fear and by greed.
Driven by Fear - The ones who are fearful would not buy the stock at $1.5 because it is not the optimal price for them. They want the stock to go back down to $1 so that they can buy it.
Driven by Greed - The ones who are greedy will jump right on the trade hoping the stock would go to $5 the next day.
While there is nothing wrong with the two actions above since you can only buy, sell, or wait in the market. The point is that most people take actions based on the stock price only which is a big trading mistake. When they see something exciting happening at the market, they jump in with anticipation instead of having a solid plan.
They have no trading strategy or winning patterns that trigger a buy or sell signal. They just buy a random stock at a random price. When they think a stock is too cheap or too expensive, they buy or sell a stock without any historical data to back them up.
When a stock drops from $1.5 to $1, they buy it because the stock is now 50% off, but that $1 stock could go down to $0. The stock market can be confusing for beginners because of these unknown factors and variables and that causes traders to get emotional.
How to Control Our Emotions in The Market?
The only way to control our emotions in the market is to know what we are doing. We should focus our trading decisions based on proven chart patterns rather than our instincts.
When you have a chart pattern that works 80% of the time, you will be more confident about what stock you buy and sell. If you haven't found any pattern yet, the first step is to begin finding one. Without a proven pattern, you have no edge in the stock market, and that's how most traders lose money in the first place. They have no edge.
How to Find a Profitable Chart Pattern
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Trade With a Proven Pattern
You should study the stock charts of winning stocks. After you have collected and studied thousands of these winning charts, you will come out with some patterns that work for you. Some patterns may work better than others, and some patterns may have a higher percentage of winning rate than others.
Once you have found a proven pattern that works for you, you should start to follow that pattern and make your decisions based on that pattern rather than trading random stocks. When you see a stock that is forming a similar pattern as your winning pattern, you add them to your watchlist and buy at the optimal price.
Have a Trading Plan
Instead of watching the market and making decisions during market hours, you should study your watchlist the night before and have a plan on what stocks you are planning to buy if they hit your optimal price.
Get a notebook and mark down the optimal price for each stock, and only buy them if the stock hits that price or lower. Calculate your stop loss and make sure the stock you want to buy offers you at least a 1:2 risk-reward ratio.
Trading With Smaller Positions
Another way to control your emotion is to take smaller positions. Let's say you have $15,000 in your account. Instead of buying 3 stocks each worth $5,000, buy 10 stocks of $1,500 each.
When you take smaller positions for each stock, the gains and losses will be smaller and that tends to help you stay calm.
When you have a large position, a 20% gain or loss on a stock would have a major impact on your portfolio. However, with smaller positions, the gains and losses don't really affect your account much.
This will allow you to focus more on the account level and trying to grow the account you have rather than paying too much attention to each individual trade. Think long term growth instead of short term gains.
How to Grow a Small Trading Account
Trade Only With The Money You Can Afford to Lose
Another factor that will impact your emotion and performance is money. For beginners, trading shouldn't be the only job you have. You must have a job that covers your day to day expenses and pay your bills.
Relying on trading as a sole income is not a good way to get started in penny stocks trading. There is a learning curve in trading as with any other skills. If you want to get good at it, you must spend time and money to learn how the market works.
When you are trading with scary money, you will not be able to make logical decisions and that's how many people end up losing all their money in the market.
Trade with only the money that you can afford to lose. If you don't have money for trading, get a part time job or something. Never borrow money or take out a loan to trade. This will not end well.
Confidence is important. When you have confidence, you act instead of reacting to the market actions. You can only have confidence when you have things under control.
With a proven pattern, you know exactly what stocks you will be trading with and skip all the other stocks. When you have a plan, you are one step ahead of the market. No matter which direction the market goes, you already know what to do.
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