Psychology plays an important role not only in life but also in trading. Trading requires patience. Not to forget, discipline in trading is necessary as well along with mastering your setup, you also need to understand trading psychology and a few more trading psychology hacks. Abhishek Kar has covered it all!
Why is Trading Psychology Important?
Most of us must have read plenty of books that are about trading strategies. You must have read about RSI, MACD, Bollinger bands, VWAP, and whatnot. But unfortunately, regardless of the strategies you have come across, you still end up making losses.
Have you wondered what could be the main reason for this?
Maybe you are ignoring the most essential and crucial aspect of trading, which is “trading psychology”. This blog will help you understand the various nuances of trading psychology with respect to the Indian stock market.
Basics of Trading Psychology
The implementation of discipline and risk-taking are two of the most crucial aspects of trading psychology. Trading psychology typically includes fear and greed, as well as hope and regret. Apart from this here are a few more basics of Trading psychology.
1. Anything Can Happen in the Markets
First of all, there are some basic assumptions that need to be made when it comes to the Indian stock markets. The first thing is anything can happen. For context, take 1992.
When the “Harshad Mehta Rally” was taking place, only eight percent of his entire move was based on fundamentals, the rest was speculative.
In 2000-2001 (.com bubble) the same thing happened. Even the rally, which happened across the globe, or even in India from 2004 to 2007, it seemed a lot of people were actually shorting.
But they got trapped really badly because this entire bubble burst in 2008 when the Lehman Brothers crisis happened.
The point is, in the markets if you are going with a bias, that is, because “I think things have to be bullish” and that’s why “the markets will be bullish”, it is a completely wrong notion. You need to understand that anything can happen!
What Should You Expect in the Stock Market?
The assumption is – it’s not necessary. You should know what is going to happen next in the market. As a trader, what’s important for you is your setup, your entry, your exit, and your levels, as simple as that. Other than that, you need not understand anything of another sort.
Let’s take an example of a particular group of stocks as currently going up with a very highly inflated price and people have been questioning that, “oh, it’s going so much. I’ve got to short”, but anyone who has been shorting those particular stocks has been going wrong. I’m talking about Adani Group.
We have to understand that basically, people are having a bias because this particular stock is having so many valuations. Let’s short it, which is a completely wrong approach toward stock markets. So anything can happen in the market. You have to work around the four aspects.
We have talked about the levels and all those things support, and resistance is the key out here. The next thing is in your entire trading career. There would be a random distribution between events and losses. And what’s important is that it’s not the number of wins that has to be greater.
It is the amount that you are winning in a particular trade. What I mean to say is that, even if let’s say you lose 50% of the time and you win only 50% of the time when you are winning, you are making 2x the amount, you’re essentially going to make more money.
Basically what is happening is you’re losing one rupee. So, in 50 trades, you lost Rs. 50. That is 50% of the trades, but in the rest of the 50, you’re multiplying by two. That’s a hundred so net-net, you’re still profitable.
In life and stock markets, you have to understand there would always be random distribution. You have to make sure that your wins are much bigger than your losses.
And then finally, you have to understand that there is something that every trader needs to understand. If you want to master your psychology and trading you need to have an edge!
What Does Having an Edge Mean in Trading?
Edge is nothing but an indication of higher probability. That one thing would happen more than others and you have a specialty in that. And as in assuming that, what does it mean? Let’s take a few examples of edge cases.
So my personal edge numbers, it could be. The number of candles, the number of volumes, it could be sales numbers, it could be the number of orders. Personally, I am able to gauge the sentiments really well, with the numbers, that’s my edge.
It could be tape reading merely by looking at the price fluctuations. Over the screen that would be their edge for someone. It could be price action when people are actually running after various patterns like a head and shoulder pattern.
Or you know, a simple trend line action so the edge could be different for everyone. But yes, until and unless you don’t have an edge you can’t become a good trader.
Trading psychology is something that you need to clearly understand before you decide on your edge. Because the edge is a very important aspect. Edge will actually give you a multiplier effect because once you start mastering your edge, it would be possible for you to compound at a faster rate.
What are the three things which you need to ask yourself in order to narrow down? What could be the edge? Because this is one particular question that a lot of people want to know.
You said that we need to understand what an edge is but how do we find our edge? Here’s a walkthrough.
1. Know Yourself
You have to ask yourself – what are you best at now? Are you best with cash, trading futures, and options? Or are you good with currencies or are you good with commodities? What asset class, what style, what specific thing do you have to ask?
The second – you have to, out of these things, not narrow down one immediately. Have at least two to three options out of all these options which is the area where you have been most profitable in the past.
It could be with just one lot or even 100 quantities, but you gotta check out in which area you have been most profitable. You have been able to ride it more.
For some people who might be assuming that they’re good at intraday, they might come to the conclusion that, no, I am actually good with swing trading. This is exactly what you have to find out – your most profitable area.
Finally – what you are passionate about and which aspect. Some people are really passionate about option selling. Some people are good with ratios and hedging. Some people are really passionate about only long-term holding.
These are the three questions that essentially you need to understand before you narrow down, which edge to pick now.
Overcoming Psychological Barriers in Trading
Since we are talking about psychology, once you have asked these questions, you have got this answer. You got to understand that there would be a few psychological barriers, which you need to overcome specifically if you want to become a good trader and what are those.
There are four key areas that you have to consider at this point in time which could be psychological barriers: one would be gambling. One could be the fear of missing out. One could be revenge trading. Another one is policy.
Any trader who is able to consistently keep a tap on his emotions and tap on all these four areas could be in a better position to make money out of the stock markets. Now, there are a few things you have to understand.
When we talk about psychology, if you are able to follow these five really important indication nuances out here, you could be a better trader.
Things to Keep in Mind
You need to understand that there are times when it’s better to jump out of the ship and save a lot of time. We actually get stuck in a bad trade and anticipate that because last time the trade recovered, this time the same thing may happen. You would actually be stuck.
Believe me, the kind of relaxation you will get after jumping out of the ship and instead putting out the money to good use in some other trade would be much much better so just tell yourself that. Okay, the trade would have been bad.
It was really not in your favor and just jumped out of that trade. That’s the best thing. Next thing, on the psychology part, you have to understand – what was the experience?
The more experience you will have, the better you will understand that everything which is white is not sugar. What does it mean? Is that in trading anything?
Which is appearing to be really nice, which is looking like a very good opportunity may not be a really good opportunity. Every time you enter a trade, have a preconceived notion that you have to enter only high probability trades.
Typically high probability trades would be where your risk would be. 1:3 basically you’re risking one rupee to make at least three rupees, that’s the probability.
Now some of you might ask that there are times when you are not finding this opportunity because everything is at an inflated level when the markets are all time as simple as that if you’re not finding a high probability trade, either reduce your position by one-tenth or sit on the sidelines.
That’s the best thing which one can do. So, that’s another thing which you have to understand is to see when you have to be a good trade. The third point is you have to be psychological, and active, and you can’t be psychologically active. If you’re only working doing analysis, doing charts, it’s very overrated.
Yes, once you become a trader, you have to do a lot of analysis. A lot of charts, reading, and all that stuff. You have to spend countless hours practicing charts and all those things.
But if you’re moving out, not speaking with your family, trading is a very isolated profession. If you’re not doing all that stuff, you’re not traveling, and all that could really create a hamper. So he has a hack, if possible in a year.
If your budget actually allows traveling to at least three places in a year that helps you to open up your horizons, and that is actually good for this thing, your mindset also.
And so these are three things, which you have to understand. Other than that, you also have to understand a lot of people psychologically also face issues because they are holding on to their previous losses, whenever you’re coming into the market.
Even if you have incurred some losses in the past, you have to assume that today is a starting it today. You are starting with a fresh slate. Because if you are holding on to the burden of previous day trades, that is ultimately going to affect your next trades.
Because you will always be under pressure to recover the previously lost amount. So, whenever you’re coming into a new trading day, come from a fresh perspective, if you’re not able to let go of your previous losses, the better thing is to take a break of a week and then come back.
This always works better for us. One more thing which can be suggested over here is that the most important aspect of the psychology of trading is position sizing. That’s why position sizing is something that you have to understand.
Just because you have one lakh rupees in your account, doesn’t mean you should bet for one lakh rupees, you should always calculate your risk. What if tomorrow the stock or the underlying or the index opens against you by 5%, if you are completely leveraged with it?
With that one lakh rupees, you might even end up losing 50,000 rupees in case of an adverse event. So, you have to make your calculations because your positions are so restricted.
Things That Can Help You!
You can read books, you can listen to podcasts, and do some motivational stuff. See is concentration while you are trading, try to find out your own hacks to concentrate.
Well, personally I listen to music while trading which helps me to remain concentrated and stands for optimistic without optimism. And optimism is not in terms of the market, it means your mindset has to be positive regardless of whatever people say, how much they defame trading.
You can still stand for relaxation. It has to be relaxed if you’re forced to do something, or if it is creating a lot of anxiety about punching into trade, it’s actually not good and E stands for enjoyment.
You have to enjoy the process because if you want to play in the long run unless your attention is not divided into all these five aspects, you may not be able to make it big.
To conclude the things you have to do in order to build psychology – first, identify your edge. Second, don’t get carried away by the euphoria because you might get stuck. Third, from the purpose of probabilities, you cannot be right every time. But even if you are right 50% of the time, you will end up making a decent amount of money.
Always have a carefree mind, don’t just get bucked by a lot of those things. And finally, a secret hack because you stuck around till the end, that always maintaining a trading journal is very important. Because of that traders are able to keep a constant tab around, which things to consider, which things not to consider, and so on.
On a Side Note…
Until now you might have understood trading and psychology now it’s time to implement it in your trading setup with Trader’s controls on Dhan. Get alerted on over-trading & trade losses, keep your trade buddy updated, or stay away from overtrading with the Kill Switch.
Let us know if you have any thoughts or feedback about what we should cover next.
See you in the next one 🙂
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Disclaimer: This blog is not to be construed as investment advice. Trading and investing in the securities market carries risk. Please do your own due diligence or consult a trained financial professional before investing.