Successful forex traders know how to manage and remove their emotions from trading. This outcome is achievable by overcoming greed, habitually following risk management strategies, and employing a consistent trading plan. Identifying moments of emotional trading, detaching, and reframing back into a strategic mindset can be challenging.
That is why our team has created this Forex Trading Psychology Guide on how to manage and master your emotions when trading forex. Learn to minimize trade errors, mitigate your risk exposure and what guidelines you should follow for developing a long-lasting risk management strategy. Our core lessons include:
- The Basics of FX Trade Psychology
- Understanding Fear Of Missing Out
- How to Overcome Greed
- Risk-to-Reward Ratio
- Tapping Into a Successful Trading Mindset
Managing Forex Trading Psychology
What is trading psychology, and why is it important? Trade psychology is a broad term that encompasses the emotions and behaviors of traders, including excitement, impatience, anxiety, greed and fear — as with many professions, mastering the environment and psychology is a process that takes time and commitment.
Trade Psychology is vital because it is your mind that determines how you react to trade outcomes, respond to volatile market movements and also tests a trader’s resolve for using their management strategy. Unfortunately, most forex market participants experience financial losses, resulting in far more negative than positive psychological effects.
The three most common causes of traders becoming their worst enemy include:
- Martingale or doubling down losing trades (when fear turns to greed).
- Closing positions before price reaches the target (fear of financial loss).
- Participating in FOMO trading (fear turns into greed).
The financial markets do not care about your emotions. Those traders who can effectively manage both positive and negative aspects of trade psychology are best suited to handle the rigorous volatility of foreign exchange markets.
Avoiding FOMO
FOMO, or the Fear Of Missing Out, is an emotional state in which most of us have personal experience dwelling within. For traders, the onset of FOMO is accelerated by feelings of jealousy, envy and impatience, to name a few. The depth of those emotions is further intensified by the stress and fast-acting environment of the forex markets.
So how can traders avoid the fear of missing out?
Here are four practical steps for traders internally struggling with FOMO:
- Develop a Routine - Trading is often a singular pursuit that can be quite lonesome and allow traders to slip into a FOMO mindset. Try to eliminate distractions and focus on identifying key market spots and opportune trade entries to tune out external chatter. Avoiding social media outlets, ungrateful attitudes and greed will aid this process.
- Be Present Minded, Future Thinking - As humans, we tend to focus on negativity and lament about our past. Just because a trade is lost does not mean that the following transactions will follow suit. There are always more trading opportunities. Therefore, stay present-minded yet have your scope set upon the future goals of your trading.
- Employ a Trading Plan - No trading plan is perfect, but following a well-developed trading plan should cover most trade eventualities while helping traders invest with lower risk exposure, more consistency and better long-term outcomes. Establish short-term, medium and long-term trading goals to help offset FOMO and stay on course.
- Take Joy from Trading - While trading should be treated as a business and with integrity, trading without joy will make traders more susceptible to entering a fear of missing out mind frame. FOMO stems from insecurity, envy, jealousy and greed. Once a trader grasps this concept, this truth, then and only then are they in a position to cast out the reckless emotional state of FOMO and trade with maximum potential.
Curbing Greed
Greed can be a trader’s kryptonite and their ultimate hindrance. Characterized by the strong desire for wealth, greed can cloud a trader’s mind around the infatuated concept that they must possess maximum wealth for the most benefit and happiness. The truth is that this greedy desire is one of the single most dangerous emotions that can derail a trader’s vision and future goals.
A few trade examples of greed affecting a trader’s mindset include:
- Using too much leverage to maximize potential trading gains.
- Doubling down on losing trades (employing Martingale strategy).
- Investing further capital to win trade positions.
Similar to other human emotions, greed can become suppressed, managed and overcome. The three factors that contribute to this process include identifying times when you are thinking greedily, readjusting your mind into an appropriate mindset and time. This is a process that will not happen overnight or by the end of the week but rather gradually over months to years.
Advice for Avoiding Greed
Think of greed as the counterpart to discipline. Traders who are well-poised, disciplined and consistent are much less likely to fall victim to greed because of the maximized preparation leading up to trading. That is why it is critical that every forex trader consistently follow trading plans; otherwise, the likelihood of slipping into an emotional trading state is far greater.
All trading plans should have strict guidelines about setting stop losses and minimizing your risk to reward ratio. Logging trade journals by sharing your day’s emotional state and trading performance can help you identify emotional trading patterns and allow you to fine-tune your trading plan to combat slipping into those destructive habits.
Risk-to-Reward Ratio
By using the risk-to-reward ratio, traders can manage capital and better proportionally understand the risk of loss. In trading, the recommended risk-to-reward ratio is 1:3, which means that an expected return of three units of reward is anticipated for every unit of risk.
Depending upon the trading methodology, risk-to-reward ratios can fluctuate in accordance with a trader’s strategy; it does not necessarily have to remain your only risk-to-reward ratio. For instance, sometimes day traders employ a risk-to-reward of 1:5 or 1:7 but modify their stop losses to obtain those targeted ratios.
To practically identify times of emotional or greed trading, ask yourself the following:
- Does this trade position follow the rules of my trading plan?
- What is the risk-to-reward ratio for my past twenty trades?
- (If it is less than 1:3, reconsider).
- Am I following my risk management strategy and using stop losses?
While a trader’s minds may not be as ready to admit it, traders can identify times when they have been greedy in the past. By keeping accurate trade journals documenting risk-to-reward, sharing target price levels, and giving insight into that day’s emotional state, traders can see times when their risk exposure was higher than it should have been.
Tapping Into a Successful Trading Mindset
In forex trading, there is no barrier of entry or secret formula to success. What separates successful traders from those who have failed? It is the mind. The mind’s ability to remain disciplined in the pursuit of goals, to strictly follow a strategic trading plan, and to remain consciously aware of times when they are slipping into a negative headspace.
To enter a successful trading mindset, try these actions:
- Bury the Ego - An inflated ego may alter how a trader would typically identify and execute specific trade setups, cause them to negate risk management tactics and be a leading cause of failure. Traders also need to remain open to the idea that winning every trade is impossible and that challenging losing streaks will test them to their core. While no trader wishes to experience losses, traders can build account equity with proper risk management and trade discipline even if they obtain a higher number of losing trades than winning.
- The Power of Positive Attitude - Some traders have a less difficult time than others tapping into the constructive powers of positive thinking. Whether a trader is naturally optimistic, pessimistic, or in between, the ability to consciously keep the mind empty of negative thoughts or replace them with positive affirmations is a trading superpower that every trader should strive to possess.
- Trade with Intent - Do not just trade the foreign exchange markets because you can - it is a recipe for disaster. Trade with intent, which is brought forth by following consistent strategies and risk management parameters. Lastly, do not force trade entries because you generally place an ‘x’ amount of trades per day. Ask any successful trader; they have undoubtedly had days to weeks of no trading but stayed the course, weathered the storm, and came out on the other side.
- Revisiting the Big Picture - Many traders labor under the delusion that trading and generating consistent profits in forex is much easier said than done. They enter the industry with a condensed timeline of trading goals brought upon by the marketing trading videos they see, their ignorance in not knowing what they simply do not know, and the lack of experience they possess. Let us make it clear, though. Successful forex trading is not a sprint but rather a marathon, followed by disciplined trade after trade.
The Bottom Line
When you are facing times of uncertainty, try to step back and detach yourself from the situation. Can you identify the negative thoughts circulating through your mind and replace them with positive thoughts of can-do? If that is not the issue, then maybe reanalyze the markets to see if you are trading with intent or if the markets are not favorable. Lastly, make sure to bury your ego to an unrecoverable depth and invest with the big picture in mind.
