A Beginner's Guide to Mastering Trading Psychology

What is trading psychology?

Investopedia says “It’s the emotional component of an investor’s decision-making process.”

That is a very ambiguous answer but Investopedia’s second definition provides more clarity:

“Trading psychology is characterized primarily by the influence of both greed and fear.”

There you have it. Fear and greed.

Trading psychology is your ability not to allow fear and greed to influence your trading decisions.

That’s the best way to put it. But now…

How do you master trading psychology? Or should I say, not be influenced by fear or greed?

As this is a beginner’s guide, let’s look at 4 simple ways to do this:

1) Lower Your Position Size

Having a large position increases the gravity of the trade and therefore the weight of emotions. The greater the emotions, the more mental fortitude needed to stay disciplined.

Starting small and gradually increasing to a higher position size will give you more emotional control over your trading. Using big sizes without experience comes at an emotional cost.

2) Backtest Your Strategy

Putting hard-earned money into a platform and relinquishing all your control is enough to initiate emotions you don’t want. But what happens if those emotions (or gut feelings) are telling you to abandon your strategy? You’ll most likely do so.

Backtesting provides the belief that you’re strategy should work. Without “proof” that your strategy works, your subconscious brain may go against you once you start trading.

3) Understand Your Strategy

Every strategy is different so it’s important to know the game you’re playing. For example, a profitable 1-10 risk-reward strategy will likely have a low win rate – this means back-to-back losing streaks. Can you handle a high number of recurring losses to get a win?

Knowing a strategy you’re comfortable with is key to trading psychology. Losses are part of the game but the way you lose trades is in your control – choose a way you can handle mentally.

4) Have a Realistic Trading Perspective

Understand that you have no control over the market. You can’t make a price go up or down. Patterns exist but they aren’t guaranteed to be correct all the time. Ultimately, trading is a game of relying on relatively recent market statistics to make trading decisions.

Another thing to mention…

Poor trading psychology can be a symptom of following trading misinformation.

The internet is filled with misinformation, which is why you shouldn’t blindly follow a strategy. If a strategy hasn’t been statistically verified or proven, it’s not safe to trust.

Trading psychology can be defined by one word.

Confidence.

Human beings tend to be confident when they do things very well. The lack of confidence suggests you have doubts, holes, or concerns.

So is the key to just being confident? Well, no.

Confidence comes from practice.

Think about it. Every licensed driver is more confident now than in their first lesson. They acquired knowledge and gained experience which increased their confidence over time.

Trading is no different. It’s just a virtual sport.

Every sport requires practice.

Have the mindset of practicing how to become a winning trader first. Then trade to win later.

Don’t cheat confidence or it will cheat you out of profits.

Happy trading!