Trading Psychology4 Most Common Biases to Avoid

Me against myself

• When you start trading you expect to pitch yourself against the markets. But few

people are aware that they are also competing against themselves. We’re human

which has a lot of benefits when trading. However, it also means that we have to

contend with emotions and our ego.

• You can never remove emotion from trading but you can learn to identify your

strengths and weaknesses and pick a trading style that suits you.

• However, don’t think that using robots or automated trading is a better replacement

than your own knowledge and instincts. Education and self-control are the lynch pins

to becoming successful in the markets.

4 Psychological Biases

4 psychological biases that may be affecting your trading results and what you can do to

overcome them

• Overconfidence bias

• Anchoring bias

• Confirmation bias

• Loss aversion bias

Overconfidence bias

Think you’ve got the markets figured out?

You’ve read every book and think there is nothing more to learn – you just need to trade and you’ll

make money. If this sounds like you then you may be suffering from an overconfidence bias.

What could go wrong?

Overconfidence in trading may lead to

over-trading. This is when you trade

frequently or place very large trades

trying to make it big. You end up

risking too much on one trade that

may go against you.

Does this sound like you?

“I’ve just been stopped out of this deal,

but I can’t believe it’s gone bad so I’ll

open another one”. Or: “I’m going to

top up this trade with more money as I

FEEL this is the one!”

Overcome Your Bias.

Setting strict risk management rules

that lay out your entry, exit and how

much you invest (or are willing to lose)

is key to overcoming this bias. Ensure

to review your trading strategies and

take breaks from trading.

What to watch for:

You know you’ve fallen victim to anchoring bias when you

convince yourself that a particular currency or market’s

strength will continue even when other fundamental factors

are pointing to the contrary. You become emotionally

attached to a particular market or position and trade

against the new trend.

Overcome Your Bias:

Get a new perspective on your trading. For example if you

normally look at hourly charts, take a look at daily or

weekly ones to get a macro view on support and

resistance levels – also look at shorter term charts to look

for reversals.

Anchoring bias

Have you ever lost money by holding onto a trend that has clearly ended?

Then you could be suffering from an anchoring bias – the belief that the future is going to be

similar to the present.

Confirmation Bias

You know you’ve fallen victim to confirmation bias if you only look for information that confirms

your existing beliefs. For example, if you believe Gold is going to go up, you will look for the news

and indicators support your belief.

Over coming confirmation bias:

There are a number of strategies you could employ to ensure you don’t fall prey to this bias:

After doing these you might re-asses your

original belief or you might strengthen it –

at least you’ll know you’ve done your due

diligence.

1. Try to find information that disproves your theory – then

compare it to the information you find that supports it and make

a more informed decision.

2. Share your theory with others on forums and look for diverse

perspectives that give you a broader look at what’s going on.

Just talking about your theory out loud can give you a better

perspective.

Loss aversion Bias

No one likes to lose. And the fear of loss may be a greater motivator than greed.

Have you ever held onto a losing trade hoping it will turn-around even though the indicators don’t

support your view? Then you might be afraid of taking on a loss.

All traders lose:

It’s unrealistic to think that all your trades will come out

well. All traders lose – they key is to lose less than you

win.

Acceptance:

If you find it difficult to accept losing trades then make

sure you set a strict risk management plan than you

adhere to. The plan should include how many open

positions you will allow yourself at any one time and

how much of your balance you will risk on any one

trade. These strategies will help you spread your risk

across your portfolio.

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