Forex Trading Mindset

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How to approach Forex Trading with the Right Mindset

Dealing with emotional self-control

1. Introduction

In all my prior guides I have hammered away at the importance of building a reliable trading strategy and ways of creating one to suit your personality. If you are at the beginning phases of this process, you might have experienced the emotional side of trading. More experienced traders know all about this, and one of the reasons that they are still around could be that they have control over their emotions. Remember that a good trading strategy serves the purpose of actually making you money, but you also need confidence in that the strategy actually works. If it has been tried and tested, your confidence will be high and any emotions that may cause you to act irresponsibly and lose as a result are therefore removed. Common mistakes include exiting early, taking profits too quickly, revenge trading etc. Experienced traders know exactly what I’m talking about.

This objective of this guide is to help you create the correct mindset when approaching trading. Assuming that you already have a reliable trading strategy, there will be times when emotions creep into your plans. This is normal, we are human after all, but there are times (like those discussed below) when it’s better not to trade and simply walk away. The markets do not care about your emotions and your emotions can destroy your capital, even if you have the best strategy in the world.

2. Before you trade

Here I will list a few common emotional errors traders make before they enter into a trade according to their strategy. Some might be common-sense, but I hope to include some that you might not have thought of. Some of these emotions may present themselves under certain circumstances or they might just appear out of nowhere. Identifying them when they are present is important though, and it would be wise not to enter a trade until they have been dealt with.

2.1 Impatience

A decent trading strategy will provide you with signals or signs that the time is right to open a position in the market. It should also indicate the exact time or price at which to enter. Whatever your timeframe may be, day trading or long term trading, there may be times when you are tempted to enter the position early.

Maybe you want to gain a better entry position in the market to maximise your profit, or there might be no available entries according to your strategy. Your finger therefore itches to just press the button and see some action. Big mistake! Your strategy should be based on certain setup conditions. It is NOT, however, based on erratic emotional responses just because you are impatient. A strategy’s long-term success cannot be ensured when you do not follow it meticulously. Certain conditions in a trading strategy should normally be met before entry into the market. Entering early or just trading for the sake of it is synonymous with gambling, and, like we all know, when you gamble, odds are not in your favour.

2.2 Greed

Greed in trading can destroy your capital. Entering a trade prematurely is a consequence of greed. A possible scenario is that a trader anticipates the strategy to give an entry signal and so enters the market early at a better price in the hope to maximise profits – before the strategy has told him/her to enter. However, it is possible that the strategy never ends up giving an entry signal, causing the trader to incur a loss. You should know exactly how good your trading strategy is and how much return on investment it can possibly generate per year. If you are greedy and want more money than your strategy is capable of, then you are operating outside the boundaries of your strategy and it can therefore not live up to your expectations. If you want more, then develop a strategy that will give you more!

2.3 Trade what you see

This is a golden rule you should always follow and ask yourself before entering into each and every trade: “Trade what you see and not what you think”.

A trading strategy is based on many conditions or steps that have to be met in order to justify an entry into the market. Since your trading strategy is probably based on manually entering the market, and not by using an automated trading system, you need to make sure that you are not wishing for the market to go into your direction. This can also happen when you are impatient and wanting/willing to see something happen rather than wait for the market to tell you what it is more likely to do. Entering a trade based on a trading strategy has the purpose of removing as much emotion as possible. Trading what you think can see you enter into or exiting a trade too early or too late.

2.4 Respect and attitude

Approaching the market that you have chosen to trade in should be done with a healthy dose of respect. The markets are definitely not your friend and they do not care if you win or lose. They can give you profit and just as quickly take it away from you. There are also times when the markets can be manipulated by big institutional traders and they often practise “stop running” (read more about this in my “Proper Money Management” guide). Traders that do not respect the market are often called “Cowboy Traders” and often trade huge sums of money. Although they quite often win large sums of money, this does not last long as, most probably, it was based on luck. Markets tend to teach traders like this a lesson, causing them to lose everything and leaving their large egos crushed. Again, this is synonymous with gambling.

A positive attitude in trading is of vital importance. It can be difficult to keep a positive attitude after you lost three times in a row or more, but again, here your trading strategy should maintain your confidence and if you are confident you should have the right attitude.

2.5 Anger, fear, illness, fatigue and intoxication

We probably all agree that we do not make the best decisions when we are angry. Therefore do not trade when something or someone has angered you prior to entering into a trade. It is difficult to think clearly when you are angry. Anger because of a trading loss will be discussed later.

Fear is also a big issue in trading. Fear in trading comes about when we are afraid of losing. Losing is a part of trading but not a normal part of our conditioning as humans. We are conditioned to win and to not accept loss. We have a fear that we might be wrong as we are conditioned to always be right about things. With trading, just as with life, experience is mostly gained because of being wrong and making mistakes. As long as we learn from these experiences we are on the right path to success.

The sooner we accept loss in trading the less of an effect it will have on our emotions. Trading the markets requires a strategy that stacks the odds of winning into your favour. That being said, there is no strategy that is right 100% of the time. It is how you manage your losses and keep them to a minimum that is of importance. I wrote about this in my “Proper Money Management” guide.

No loss in any particular trade should be of such magnitude that it ruins your investment capital or bothers you emotionally. If you have a good strategy and have confidence in it, then loss should not be an issue. Brush it off and get on to the next trade. I will time and time again highlight the importance of a trading strategy, why it is the most important place to start off, and why so much thinking behind its development is needed. Just note that if you are losing all the time, your losses could indicate a flawed trading strategy or emotional problem. Keeping a trading journal will assist you identify the cause when this happens.

Fear can also prevent you from entering a trade by making you doubt your trading strategy, and when that trade you did not take ends up being a highly profitable one, we tend to ask the “what if” type of questions, which, in turn, cause anger and resentment. So often when the market does go in the intended direction but you did not take the trade, we instead end up entering the market at the wrong prices – which could result in less profit or larger losses. This is called “chasing the market”. If you missed an entry, wait for the next one and be thoroughly prepared.
Feeling physically ill is never a good thing, even less so when you want to trade. Rather get better and return when you feel 100% again. The markets have never ending opportunities. Never think that you are going to miss the next big move at the expense of your health.

Fatigue can take on two forms: physically or mentally or both. Have a good night’s rest, maintain a healthy diet and try to exercise, even if it’s just a little. Ever heard the expression “A healthy body harbours a healthy mind”? I might sound like a doctor here but the better you feel about yourself the clearer your mind will be and the more confidence you will have in your trading abilities.
This one is a bit funny but I will mention it anyway. Don’t drink and trade. That thing they call “Dutch courage” can get you into trouble at the best of times, and trading is no different. Trading while intoxicated can cause a trader to go into gambling mode and make dumb decisions. By intoxication I also mean any type of drug or medication that you may be on that makes you drowsy, hyped etc. Just avoid trading all-together under these circumstances.

3. During a trade

The emotions present during an open position are of the most importance and should be dealt with and eliminated. They can cause a trader to feel feelings of doubt, stress, fear, greed etc. Below I will list the emotions you should try to avoid. Try to construct your trading strategy in such a way that it will help you to not feel these emotions in the first place. We are all different and we all handle emotions differently. That is why a certain trading strategy can work well for one trader and not so well for another.

3.1 Excitement, doubt and stress

To an inexperienced trader, placing their first trade with real money (hopefully after thoroughly testing their strategy in demo mode first), it is perfectly normal and ok to feel excited. There is nothing quite like the experience of trading with real money and it can bring a whole lot of emotions with it. Even to an intermediate trader, who may have experienced a series of losses and is running low on confidence, excitement is also felt.

With both types of traders, excitement tends to evolve into something else. Firstly, doubt and secondly, stress or worry. Doubt because a trader may be unsure if the trade was entered correctly and if the strategy will work, and stress/worry over whether the trade will be a winner. These two emotions can cause a trader to act outside of the strategy’s set rules and exit a trade prematurely, either with a small loss or small profit. If your strategy relies on day-trading or short-term trading, you cannot afford to have these emotions, as this type of strategy experiences lots of market volatility and with that comes stress.

One possible way to combat these emotional responses is to place “set and forget” orders. Meaning that your strategy told you to place orders that will only be filled when they reach certain prices and of course place stop loss orders automatically when your entry orders get filled. This allows a trader to set the orders, switch off their computer and return later the same day or the next day to see if they were filled, are still open or incurred a loss. This type of strategy removes the need to be in front of your trading screen all day and can greatly reduce both doubt and stress.
Like I said before, different people have different ways to deal with emotions. You may crave the excitement of trading shorter term and spending lots of time in front of your trading platform. There is nothing wrong with that if you can handle these emotions. Your strategy should include your strengths and weaknesses and work around potential emotional characteristics that you know you have. Stress because of outer influences, not related to trading, is another reason not to enter a trade.

3.2 Greed and fear

Greed and fear before a trade was discussed previously. If it appeared before a trade then hopefully you would have declined to trade. Unfortunately greed and fear are both strongest during an open position and cause common mistakes for beginner traders.

Greed commonly causes traders to want more profit than the market is willing to give them. They tend to keep their positions open for longer in the hope of more profits even though their strategies are telling them that a move might be coming to an end and might be reversing. Often greed will overpower your strategy and if the markets turn against you, you will all of a sudden sit with a loss, and there is a good chance that you turned a winning trade into a losing one.

If your stop loss has not yet been hit, then your initial greed turns into fear as the position keeps moving closer to your stop loss. What do most novice traders do? They keep moving their stop losses further away in fear that they may lose, and most of the time they end up with a bigger loss than their strategy was designed for. Fear then turns into resentment and anger. In trading, emotions of these types tend to evolve into something else and can cause havoc with your account.

3.3 Resentment and anger

Now that you have lost a trade because of greed and fear, your energies tend to turn towards resentment. Many traders will tell you that they lost a trade because of a power failure, internet crash etc. and fail to mention the real reason behind the loss. They like to blame something else. If you want to be successful at trading, then “man up” and accept your mistakes. Learn from them and, most importantly, accept responsibility for your own actions. Resentment can also make you wonder what could have been. If only I have done this and that. Unfortunately this won’t help your account balance.

Quick on the heels of resentment comes anger, and this emotion leads to another common mistake beginner traders make, namely “Revenge Trading”.
Rather than learning from their mistake and getting their act together before their next trade, anger makes a trader want to revenge the market for their loss. This causes them to enter the market again without the use of their strategy, and, in most cases, they double-up their exposure in the attempt of making up for their loss and making some more profit on top of that. Again this equates to gambling. A lot of readers with some trading experience will know all about this phenomenon and those who don’t, well, just take my word for it and be aware. Trading should be something you enjoy anyway. If you feel these emotions, simply do not enter a trade.

The practise of turning a winning trade into a losing trade and then adjusting your stop loss further away is a common mistake. This makes your losing trades larger than your winning trades. If they are not dealt with they can result in another bad habit: taking profits too quickly.

If a trader is guilty of continuously doing the above then chances are they will take profit too prematurely the next time a trade does go their way. Chances are that, because of their continuing mistakes, they are losing more than they are winning, so when a winning trade does come along, fear of losing causes them to take profit too quickly. They then fool themselves into believing that finally they won something. The problem is that the amount is most of the time too small and the next losing trade too big. This vicious circle can continue until a trader has blown all their trading capital.

3.4 Discipline

You will need good discipline if you want to avoid these emotions and the bad habits that they can form. Be stern with yourself and follow your trading strategy like a robot with as little emotion as possible. This is easier said than done, but only discipline will turn your strategy into success. Write down your emotions before-, during- and after a trade in a well-kept trading journal even when you have fallen prey to your bad habits. This exercise requires honesty with yourself and can be a great way to see the outcome of good discipline versus bad habits. Hopefully you will learn from them.

Discipline will make you carry out all the steps that your trading strategy requires of you, and if you have the right strategy then I’m sure you will start seeing consistent profits. A big mistake that most traders make when their discipline lets them down is to start believing that their trading strategy is flawed. In today’s world, people have become used to a quick fix, they want results and they want them now. Like I mentioned before, a good strategy performs well over the long-term; losing a few trades does not mean that you now need a different strategy. So often do beginner traders hop and skip from one strategy to the next, in search of the next best thing, and if it does not work after a couple of trades they move on again. This behaviour has caused many traders to lose all their money. That is why it is important to gain decent results from your strategy in Demo mode first and then have the discipline to apply it to your live account (real money account).
Discipline + Confidence = Results

4. After a trade

I mentioned before that you should keep a trading journal, whether it is an excel spreadsheet or a paper diary. Noting down your results is just part of the exercise. Noting down how you felt before-, during- and after your trade is also very important. It is particularly useful when you have lost a trade because of bad habits, because it forces you to take time to write down your trade results and emotional condition, and by doing so, hopefully make any negative emotions go away so that you don’t end up revenging the market. Trading is like an emotional journey and learning from your mistakes and learning how to control bad emotional habits will go a long way towards your trading success and personal growth.

Many experienced traders will tell you that there comes a time when a trader suffers a string of losses, and how this is emotionally draining. This experience can be compared to any sport and particularly to top-sports(wo)men. Let’s take golf for instance. There are times when a professional golfer can be on top of his/her game for years on end, winning most major tournaments. However, there are also times when a player completely falls of the bus and seems to have lost his/her edge. Trading is much the same and the only way to deal with it is to take a break and not trade for a while, sometimes a month or more. Many people can become addicted to trading and can’t help but feel that they might miss the next big move. One thing that’s sure is that the markets are exciting enough to always provide another big move.

Trading should be approached as a business and in the business world most people take a holiday. So should you. These days it is easy to check out the latest moves in your particular market with the press of a button either on your phone or tablet. This is fine, but when you are on holiday, try to avoid doing this.

If trading becomes a painful experience emotionally then you need to work on it. If you cannot keep emotions in control, then give trading a break or leave it all together. Most people, in business and in trading, who are really successful in their fields, enjoy what they are doing. It should be a challenge to succeed and you should enjoy it along the way. Also, do not forget to reward yourself. Use a bit of that money you made while trading (if you can afford to) and buy yourself something. Rewarding yourself will boost your morale and further increase your positive attitude towards trading. Achieving success in trading can be hard work but a great part of it is a positive attitude.

5. Conclusion

I assure you that these emotions and the bad habits they form are all too real. When I chat to other traders, we all too often have a good chuckle about a particular trade that went wrong and why it went wrong. These trades are mostly the result of bad discipline. It happens to the best of us. Traders that have been around long enough and made a success out of their personal investments have all fallen into these emotional traps before; they are still around only because they have managed to learn from their mistakes and gain some control over their emotions.

Hopefully this guide will make you aware of these emotions when they creep up on you during your trading ventures and help you deal with them in order to avoid straying from your strategy. There is nothing wrong with feeling these emotions, they are human emotions, but unfortunately the markets do not care about them and they will get you into trouble. Break the cycle of emotions because one emotion normally leads to another and before you know it you have a problem.

If you find it difficult to get a grip on your emotions, then try to avoid volatile market conditions caused by major fundamental news releases and low liquidity in the market you are trading in BEFORE you enter a position. Try to maintain a healthy lifestyle as this will help with keeping a steady mind and help you with emotional control.

It is my sincere hope that you have taken all the points I have made to heart and that, by doing so, they will help you become a more successful and happy trader. Remember, trading is a business but you should enjoy it – as soon as it creates a painful emotional experience then you are doing something wrong, and you should find out how to fix it before you continue trading. Learn from your mistakes; keep working hard at gaining an edge in the market and success will be a by-product of your actions.

To your success.

 

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