Managing Emotions When Forex Trading

Trading the forex market differs from most fields of endeavor in that even the most profitable and efficient forex trading systems can be sabotaged by the human element. The trader that gets caught up in an emotional whirlwind while trading usually only has a limited time in the business and probably not a pleasant one at that.

Even if a forex trading system has been proven to work under all market conditions, the system can only be as good as the person implementing it. Accordingly, if a lack of discipline exists in the trader’s approach, it really does not matter how good the system would otherwise perform.

The Psychology of Losing Trades: Cut Losses Short

Trading the forex market successfully often requires behavior that goes contrary to normal human psychology. For example, consider the situation in which a novice trader has made a losing trade but still stubbornly thinks the market is wrong and they are correct. As a result, they decide to hold the trade in the hope that the market will change its direction and eventually allow the trade to return to profitability.

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The novice trader’s reaction approaches the normal psychological reaction that just about any optimistic person would have in the same situation. Still, it is always better to be right than optimistic when it comes to trading forex, and as the market saying goes, “Cut your losses short.”

Furthermore, this novice trader may have to wait a long time for the market to turn, if it ever does. They may also have to suffer unpleasant margin calls due to the erosion of their trading account in the meantime. This could serious curtail their ability to take full advantage of future moves they would have called correctly.

In this case, this trader would do much better by replacing the optimistic hope of the market reversing, with the fear of losing more money that has far greater significance when it comes to staying in business as a trader. Unfortunately, most novice traders rely too much on hope than is appropriate when trading, making it considerably more difficult for them to be effective and successful at the endeavor in the long run.

The Psychology of Winning Trades: Let Profits Run

Alternatively, if a novice trader has a trade that immediately shows a profit, the normal psychological reaction might be to liquidate the trade immediately after the profit arises, thereby ensuring a gain. “No one ever went broke taking a profit”, as the old saying goes.

Nevertheless, this saying actually contains a hidden warning about how taking losses could clear out your trading account, rather than offering a suggestion to take a profit as soon as you see one. Instead, the preferable market trading maxim to remember when dealing with winning positions recommends, “Let your profits run.”

More experienced traders often allow their profits to expand appropriately by entering trailing stop-loss orders at increasingly tighter levels as the market moves in their direction. This technique helps ensure that the trade gets liquidated close to the best possible profit-taking level before the market reverses, not at the first sign of a profit.