Investments, Trading & Wealth Management

How To Eliminate Emotions from Trading

Psychology plays a significant role in trading as it does in a game of poker, or even in athletics, such as tennis or football. Mastering the psychology of trading is one of the most difficult elements of learning how to trade on the market. Besides gaining the basic knowledge of the market’s structure and the ability to understand how the economic machine works, the idea of trading, in the end, is that you don’t lose.

The ability to control your emotions and maintain discipline is the most important thing you can do. A trader must learn to contend with market challenges of individuals and the crowd psychology in order to progress from a novice to an expert. If you want to turn a profit when investing in different asset classes, such as currencies, indices, equities, commodities, or bonds, you have to understand that trading is primarily a game of psychology. Only the toughest players survive it. The real edge separating professional traders (those who make a living from trading) from failed traders is clearly their mental approach to the market.

What You Need To Become a Successful Trader

Consistent practice and focus are required to become great at nearly anything, including trading. This practice requires patience, discipline, determination, and most important of all, the ability to control your emotions. The number one question I receive constantly from traders is ‘‘How do I become a professional trader?’’

Quite frankly, the reality of the situation is that only 10% of traders can make a living at it, but only 5% of traders make a lot money. Sure, everyone makes a winning trade occasionally, but in the long term, their portfolios and their accounts remain about the same or even dwindle down to nothing. There are all sorts of reasons for this such as bad timing, poor risk and money management, not maintain trading discipline, having unrealistic expectations, such as the expectation to get-rich-quick, and a lack of knowledge.

I’m sure we’ve all been here before — you make a trade and end up in a winning one. Before you realize it, you are in a winning streak. At this point, you feel like you have mastered trading and you could overcome any market condition. Therefore, continuing your winning streak. This is completely understandable, as is a natural human emotion to express positive reaction after a win. But we’ve all been on the other side as well. When you enter into a trade that doesn’t work out the way you wanted, and eventually after the market bottomed for a few times and you have remained in the trade with a hope that it will turn in your favor but it didn’t, you close the trade in a huge loss. At this point, you become angry and frustrated and you want your money back. Thus, we come back around to the cycle of market emotions, which explains the relationship between our feelings and our judgments. The chart below is a visual representation of the 11 stages:

Trading Is Not a Hobby

Since trading is a business, we should treat it as a serious business venture, not a hobby. Therefore, we must separate it from our personal lives. The world of trading has very little room for emotions. There is only room for calculated, well-planned decisions. Our emotions have a tendency to skew the decision-making process, and far too often, they cause poor decisions that lead to losses. Success or failure in the business world can bring out the best and worst emotions. Clear thinking, experience, discipline, instinct, and skill are essential, especially in the trading world. So our emotions must be kept under control.

Trading Is the Study of Mass Behaviour 

The market is the result of collective human behaviour. It is a perfect and measurable representation of the collective group’s optimism or fear. The movement of the market is the movement of the mass psychology. Many traders lose money because they fail to realize that looking at a chart of the market is like looking at the collective psychology of its participants. For this reason, professional traders place a heavy emphasis on studying price action and volume relationships, which help to guide them in their trading. From this, we get the Golden Rule of Trading: ‘The trend is your friend, so trade with the trend’. In other words, do not fight the market, just go with it!

Eliminating the Emotional Part Is the Key to Success

With that being said, I will mainly discuss the emotional part, which I think is the key to becoming a more refined trader; this is the first step to success in trading. To achieve this success, you need to learn how to control your emotions, or how to eliminate them. If you manage to understand human psychology and what motivates buying and selling decisions, you will be able to position yourself ahead of the action. This way you can anticipate profitable trade setups.

The four emotions that traders suffer from most often are fear, hope, greed, and regret. You need to suppress these emotions to be successful. Letting emotions control trading decisions is the biggest mistake any trader can make. Experiencing many consecutive losses is emotionally difficult to handle and can test a trader’s endurance and resilience. Giving in to fear and greed and trying to beat the market can lead to cutting winning trades short and letting losing trades run out of control. Remember, the true battle is not between you and the market, but in learning how to control your own emotional impulses. Don’t forget, it’s very important to understand that all price action in instruments is completely dependent on the emotional reactions of the market’s various participants. Without emotions, prices would sit flat, since people are the main catalysts for markets to move.

Price Is The King!

I have read a lot of books and attended a lot of seminars, all of  which ended by telling the audience that controlling your emotions and having discipline in your trading are essential elements of success — but no one tells you how to achieve this emotional control and personal discipline while trading on the market.  When I think back on my early trading career, I remember the times when I continuously changed my trading technique in order to achieve the best results. But no matter what technical indicator or trading system that I used, I always yielded the same result: losses. It did not matter what I did, I had to fix the real problem, and that was in my mind. Therefore, I had to control my emotions when I dealt with the market. As I have mentioned in previous articles, the price is king!  I have had more consecutive winning trades since I started paying closer attention to price action.

How to Eliminate Emotions from Trading

All that being said, let’s see how we can eliminate emotions when trading.

Getting down to the analysis, the first thing to do when analysing the market from a technical perspective is to identify the market trend and determine the support and resistance levels. How do we do that? By drawing trend lines. How exactly these lines are drawn will be discussed in a different article, since it is a complicated subject. I’ve had the opportunity to meet some traders who draw trend lines with just with one glance at the market. This is not the approved method and, if you have this habit, you’d better get rid of it. Why? Because you must have some strict rules and these rules will make your trade easier, less complicated and free from emotions. Generally, rules demolish emotions and emotions demolish our trading accounts. Therefore, less emotions, more opportunities for better results.

This brings me to my theory, which I discovered through my own trading experience. The theory is that by gauging the emotions surrounding the market or a specific instrument, and by having some consistent rules, you can control and even eliminate your emotions when trading. Trend lines that serve to identify the market trend and determine support and resistance levels are the primary tool I use to gauge the emotions surrounding an instrument or the market overall. But the secret comes down to the support and resistance levels, which are the keys to understanding which trends or lines are most valid. These are based on the traders’ emotions, since support and resistance levels are largely shaped by those emotions. Therefore, I identify the participants in the market by drawing a trend line, on that particular instrument which could be a stock or a forex currency pair at any given moment. Then I determine when the next level of market participants will buy or sell, based on the validity of the trend lines, including support and resistance lines.

I am going to explain what support and resistance levels are, and I will show you the basics of how I find these levels on a chart. This unique approach shows you which prices are apt to stall or rebound before they change at all, and which ones are most valid. This is really a very unique approach, which is why I like it, as it involves NO emotion, just reaction.

Support and Resistance Levels

Support and resistance levels are largely shaped by traders’ emotions and this is where the forces of supply and demand meet. Support and resistance levels are where you really see the ongoing battle between the buyers (bulls) and the sellers (bears). The continual battle between these bulls and the bears, which takes place near these support and resistance levels, is what makes the market such a fascinating study of the basic laws of demand and supply. Many traders look at these levels to gauge entry and exit points for their trades. These levels can be drawn using technical analysis tools, like rising and falling trend lines, or by applying more advanced method, such as Fibonacci Retracement (ratios).

A support level is when the price tends to find support, preventing the price from declining further. This means that the price is more likely to ‘‘bounce’’ off this level rather than break through it. However, once the price has broken his level, it is likely to continue dropping until it finds the next support level.

A resistance level is the opposite of a support level. It’s when the price tends to find resistance, preventing the price from rising further. This means that the price is more likely to “bounce” off this level than break through it. However, once the price has broken this level, it is likely that it will continue rising until it finds the next resistance level.

Conclusion

Trading is like war. You are battling some very smart, experienced and very well capitalized opponents. To be successful, you need to have an edge, because psychology plays a major role in all forms of trading. For this reason, you need to consistently keep your emotions under control. This can be a tough task when money is involved, but it can be accomplished by establishing and focusing on these set plans and rules of action.

If you consistently follow your rules without breaking them, you could eliminate emotions in trading. And if you achieve that, it can help you improve your trading decisions and, thus, trading will become an art!

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