Fear And Greed In Trading

There is an old saying that the market is driven by fear and greed.  Anyone that has placed more than a couple of trades will surely have experienced these two emotions.

All traders experience emotion.  The distinction between a successful trader and an unsuccessful trader comes down to how they deal with that emotion.  Let's look at how these emotions affect a successful trader and an unsuccessful trader in various scenarios:

1.  The trader's three previous trades have been losers.  The unsuccessful trader will consider this before placing his next trade and be fearful that this trade will also end up a loser.  This might result in a delay in placing the trade whilst waiting for the price to confirm that they were right - thus missing a perfectly good entry.  They might suddenly discover that some other factor, previously unconsidered, is a reason not to enter the trade at all.  Basically they will be fearful of another loss.

The successful trader will have tested their strategy extensively and will be aware that a series of losing trades is very probable.  They will also measure their success on whether they place the trade according to their system rather than whether it is purely a winner or a loser.  They trust their system and place the trade when the set-up occurs.  The fear is removed from the trade because they know that several losers in a row is to be expected.

2.  Once a trade is entered it immediately moves against the trader.  The unsuccessful trader will fear that they have made a mistake.  They fear making another loss so they wait and hope that the market moves back in their favour.  The fear of taking another loss now controls their trading decisions, they might move their stop further out so the market doesn't take them out for a loss.  They might ignore the trade, hoping that it will get back to at least breakeven - the daytrade becomes a position trade of a few days and then it becomes a long term 'buy and hold' strategy.

The successful trader, of course, will know from extensive testing of his system that such trades happen and that the trade might come round or it might hit the stop.  His stop is in place and it will remain in place - the system dictates where the stop is, not the trader's fears.

 

3.  Once a trade is entered it immediately moves strongly in the traders favour.  The unsuccessful trader will suddenly see a villa in the sun or a new sports car flashing before his eyes.  This trade is going to the moon so he removes his price target and decides to let it go.  Greed has now completely taken over his trading decisions and the previous plan (if any) is ignored.  Of course, markets rarely move in one direction for long and when the market turns the greed turns to fear as the dream slips away and the trader tries to hold on until the price gets back to where it was.  The day trade becomes a position trade...

The successful trader has set a target, either a certain price or a timed exit and will stick to it.  If the trade only takes 5 minutes then that's just great, there's plenty that won't.  

 

Fear and greed are human emotions - we can't do anything about that.  But, when it comes to trading we need a way to control those emotions.  Here's a few tips:

1.  Know your system.  If you have confidence in your system this helps to override those feelings of fear and greed.  Confidence can only come from designing and extensively testing your own ideas.  You can never be fully confident when you rely on someone else's tips or signals.

2.  Automate your system.  Computers do not suffer from fear and greed, they won't hold onto a loser praying for a miracle or screaming at the screen that the market is wrong - they'll just cut it if that is what the system says to do.

3.  Money management.  Quite simply, no matter how good your system you must only risk a sensible amount - and always money you can afford to lose.

 
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