TODAY I’ll wrap up a series of three articles, addressed to anyone considering trading for themselves. Last week, I wrote about money and risk management and the importance of creating a trading plan. Prior to that, I wrote about trading styles – is your lifestyle and temperament suited to day trading, or are you more comfortable trading over a longer timeframe? This week, I’ll attempt to tie all this together and finish by discussing the importance of having the right attitude when risking your own money.
For me, the difference between day trading and longer-term trading is vast. Day traders pay little, if any, attention to market fundamentals. They concentrate on technical analysis – studying how prices have moved in the past to help them predict how they will behave in the future. Identifying support and resistance levels, using moving averages, Fibonacci, Bollinger bands or other indicators to establish significant levels, and looking for short-term trends, are all part of what a day trader does. Day traders tend to see fundamental factors as a distraction. Many argue that fundamental drivers often take a long time to be fully recognised and incorporated into price movements, making them meaningless in the context of short-term trading.
Of course, technical analysis is important to longer-term traders as well. They use it to help them choose entry and exit levels, and place stop-losses. But over the longer term, fundamental analysis is paramount – what are the current underlying drivers for the market; are these likely to change in the near-future, and if so, how? Longer-term traders are looking for trends. These develop over time, and of course counter-trends also develop as price action ebbs and flows. For this reason, longer-term traders work with a wider risk-reward ratio than day traders. Typically, they will place a greater proportion of their risk capital on a single trade than a day-trader would, but they are looking for a much larger percentage return.
So much of the actual business of trading concerns psychology and attitude. It is human nature to blame trading losses on the markets, your provider, the bloke who gave you a tip or your internet connection. But ultimately, the biggest battle a trader must face is dealing with his or her own emotions. And this usually comes down to how you deal with taking profits and losses.
All traders make losses. It is a fundamental aspect of trading and impossible to escape. The best way to consider a trade is as a test of a theory – you’ve studied the market, you’ve done the analysis and, putting it all together, you believe that a particular financial instrument will behave in a certain way. If you’re correct, then you’re on the way to making a profitable trade (as long as your trading plan doesn’t let you down). If you’re wrong, then don’t look for scapegoats – just consider it as an experiment that went wrong. And don’t beat yourself up over it either. Although it is painful, look back at the trade to see if your plan was at fault and, if so, try modifying it accordingly. Leave it a day or two, and avoid the temptation to rush back into the market to make back your losses. The chances are that you won’t be in the right frame of mind and you will be getting back in on the wrong terms. Remember, there will always be new trading opportunities. But you won’t be able to take advantage of them if you’re not thinking clearly. It’s vital to preserve your capital – both monetary and health-wise.
Careful money and risk management will help you minimise the effects of a losing trade. Meanwhile, creating (and sticking to) a sensible trading plan will help to take the emotion out of trading. Remember – the market will do what the market will do. Don’t take it personally. By the same token, don’t get carried away by a string of successful trades. Don’t be tempted to enter fresh trades that don’t meet the criteria of your trading plan. Don’t add to a losing position or increase your risk by moving your stops further away. Best of luck – and I wish you a long and profitable trading career.