Trading Psychology - What It Is and How to Master It

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Trading profitably in the stock market involves doing a lot of things well. One of those things is maintaining an effective trading psychology.

Even the best-laid trading plans can come crumbling down without a robust trading psychology. No matter how good a trading strategy you have, if you lose control every time there is a losing trade, then you lower your odds of trading profitably.

This is a guide to trading psychology that explains what it is, how it impacts traders, and how traders can get better at it.


What Is Trading Psychology?

Trading psychology refers to the psychological and emotional factors that influence a trader's decision-making process.

Emotions such as fear and anger can impact a trader's ability to make rational and profitable decisions. For example, if a trader takes five losing trades in a row, that might ignite some powerful emotions and thoughts.

How a trader responds to those emotions and thoughts is considered trading psychology. Understanding and managing these emotions can play a role in being able to trade profitably over time.

This video we made about trading psychology offers more information:


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The Power of Emotion

To visualize how much of an influence emotion can have on us, just imagine a time you felt rage. It should be a time where you were filled with so much anger that you can still remember it today.

During that time, did you say or do anything that you regret? Perhaps you made a rude remark to someone. Perhaps you slammed a door. Perhaps you did something more extreme.

As you think about the incident now, do you feel any regret about the action you took? Now that you're in a more calm state of mind, does it seem like your reaction was irrational or excessive?

Many people have done things they later regret while feeling extreme anger. That gives us evidence of just how powerful emotions can be. It's like they can override our ability to think rationally.


Trading and Emotions Go Hand in Hand

Trading, with its potential for substantial financial gains or losses, holds a unique capacity to elicit strong emotions.

If you've ever traded before and taken a big loss, or taken a string of losses, you might have firsthand of about how that feels.

Maybe you were beside yourself with fear about the money you just lost on a trade. Or maybe you were angry and felt like screaming (or actually did scream). Those emotional responses are a reflection of your trading psychology.

If we know that strong emotions can override rational thinking, and we know that trading can elicit strong emotions, then our task with trading psychology is to find a way to de-escalate those emotions or to find new ways to respond to them.


Why Do We Feel Fear and Anger When Trading?

To get better with our trading psychology, a key first step is to understand why we feel these extreme emotions when trading.

To some, it might seem like it's obvious: any time money gets lost, it causes fear or anger.

But let's dig another layer deeper. Why does it create fear or anger when money is lost? What exactly does money represent?

The answer to those questions are unique for each person. Each trader has their own experiences, perspectives, and emotions, and that's why trading psychology is unique for each person.

Let's review some common answers to those questions about what money represents to people:


Self-Worth Defined by Money

Some people believe that their self-worth is closely tied to the amount of money they have. In other words, they feel that if they have less money, they might be less valuable as a human being.

For these people, they believe that if they get more money, they will be more likeable or loveable. They believe they will be less likeable or loveable if they have less money.

A lot of people in the United States in particular have some degree of this belief. There is a societal norm prevalent in many parts of this country that the more you accomplish or earn, the more awesome you are. That feeds the notion that of our self-worth is tied to money.

It's easy to understand how, in terms of trading psychology, a trader with that belief might feel extreme emotions when they take a big loss on a trade. For them, it can be as if their very existence is under attack when they suffer losses. That can evoke strong emotions.


Grew Up Poor

Some people grew up poor and then in adulthood earned enough income to have financial stability.

For people with that background, there can be fear about losing what they've earned and going back to being poor. That can be driven by this perception that their money represents everything they worked for, and to lose it would be to flush all the hard work down the drain.

People with that outlook might also struggle with trading psychology since they might have to contend with strong emotions when taking losses on trades.


Other Money Outlooks - Possibly Formed in Childhood

Ultimately, each person has a unique way of looking at money, and therefore a unique trading psychology.

It is therefore up to you to find out for yourself what your own beliefs are about money. You can't improve your trading psychology if you don't first have a good understanding of the way you are personally conditioned to look at money.

One helpful tip is that your childhood experiences might play a big role in how you see money.

For example, if you grew up in a household where your parents placed a high value on money or performance, that might have influenced your perspective and might mean you associated money with self-worth.

Take a look back into your own childhood. What did money mean to your parents? What did it mean to you? If money is lost, what does that represent to you?


Can Traders Change How They Respond to Thoughts and Feelings?

The answer to this is a resounding, "Yes!"

The human brain possesses a remarkable ability known as neuroplasticity, allowing it to adapt and rewire thought patterns over time. There has been a lot of scientific research proving that our brains can do this.

This capacity forms the cornerstone of changing how we respond to emotions, particularly in the context of trading.

By consciously redirecting our thought processes and reinforcing positive responses to extreme feelings of anger or fear, we can rewire our brain to default to more rational, constructive reactions. This can allow us to make rational trading decisions even after taking a string of losses.

A lot has been written about neuroplasticity, particularly in the field of mindfulness. Renowned authors such as Rick Hanson and Jon Kabat-Zinn have extensively explored the topic.

Their works delve into the malleability of the brain and how deliberate practices can lead to substantial shifts in thought patterns. These insights underscore the potential for traders to reshape their responses to emotions, ultimately enhancing their trading psychology.


Practical Steps to Improve Trading Psychology

So we know it's possible to change our brains and how we respond to different emotions or thought patterns. The question, then, is what exactly should we be trying to change them to in order to achieve optimal trading psychology?

We've compiled a list here of ideas that we've found helpful:


Redefine Self-Worth

Recognize that money does not define your self-worth.

Do you think your family and friends will love you more just because you have more money? In many cases, this is simply not true.

If you agree it's not true, then it means money does not define your self-worth and it's a false belief. You can hang on to that realization and remind yourself of it regularly, making it your new default outlook over time. This shift in perspective can mitigate the emotional impact of losses and improve your trading psychology.


Avoid the Search for Perfection

Some people don't like the tough feelings that come up with losses, and they in turns are constantly looking for the "Holy Grail" trading strategy. They feel that if they can just find that one perfect strategy, then they'll never have to feel the pain of a loss and they can just make tons of money risk-free.

We've done a whole bunch of of historical research on stock market trading strategies (that's our specialty here at Stock Market Guides), and we have never found anything even close to a strategy that doesn't lose. In the tens of thousands of backtests we've run, every single trading strategy we've tested goes through periods with losses.

So you might help your trading psychology by coming to grips with that. Accept that losses are an inherent part of trading.

Instead of endlessly seeking an infallible strategy, focus on robust approaches with a genuine edge, and then expect and accept that there will be losses along the way.

If you can truly accept losses, then you might not get so charged up each time you take a loss.


You Are Not Your Emotions

Understand that emotions are transient feelings and do not define your identity.

They are just feelings, which means they're just sensations in your body. It's safe to feel your emotions.

If you allow yourself to truly feel those emotions, knowing that they're safe to feel and that they aren't permanent, then when strong emotions come up, it turns into more of a sensory awareness experience rather than an out-of-control reactionary experience.

When you do that successfully, sometimes the emotion itself ends up fading naturally, making it easier to think rationally. It's almost like our emotions just want to be given awareness before they can relax.


Understand the Lack of Physical Danger

Realize that trading losses do not pose a physical threat.

This may seem obvious, but if you think about it, sometimes the fear that comes up during trading makes it seem as if our lives are on the line. But in reality, they're not. We're typically sitting safely in our homes with no true physical danger in sight.

The part of our brain that sends these emotional charges is something that evolved back when humans first became a species, and at that time we had to fight for survival out in the wild. Emotions like fear helped protect us from physical danger.

Things have come a long way since then, but we still have that part of our brain that stimulates those emotions. We can acknowledge the feeling, which is there to try to protect us, but also remind ourselves that we are not in actual danger and are physically safe. This may calm the fear response while trading.


Trust in Your Adaptability

Have confidence in your ability to adapt to any circumstance, both in trading and in life.

If you're reading this now, it means that no matter what life has thrown your way, you have found a way to deal with it. You're still alive, after all.

That means that no matter how bad things might seem in the moment, you will likely find a way to get through it.

Sometimes humans have a tendency to over-dramatize things that seem like a problem, and that certainly happens in trading with losses. It's not that losses won't have consequences, but that we will very likely find a way to adapt and deal with them. We've always adapted to everything else that's come up in life.

That means that maybe we don't need to take trading results quite so seriously. It doesn't mean we aren't facing real risk or that we shouldn't think carefully before making trading decisions. It means that no matter the outcome of a trade, we can trust that we will find a way to deal with it.


Learning More About Trading Psychology

Mastering trading psychology is a journey of self-awareness and deliberate practice. By implementing these practical steps, traders can take charge of their emotional responses, paving the way for more consistent and profitable trading outcomes.

Trading psychology is not about eliminating emotions, but rather about harnessing them for strategic advantage in the stock market. The payoff might extend far beyond your account balance; you might find that these tools improve your entire quality of life.

You can contact us any time if you would like to ask any questions about trading psychology or about the stock market in general.

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Stock Market Guides identifies stock and option trading opportunities that have a historical track record of profitability in backtests.

Average Annualized Return
This takes the average return in backtests of all the stock picks featured in this service and annualizes it.


Learn More