Recent market movements and influx of questions from friends and relatives prompted me that there is a need to share this topic :) It seems to me that most readers are now feeling euphoric that our sharing are doing great, helping readers to earn double digit (percentage) gains. Euphoric refers to a state of feeling intense excitement and happiness. If you ever have that feeling (ini kali lah, ho seh liao, feeling gung-ho), your emotional feeling will likely lead to bad decisions, ignoring risks (lot size, red flags) and enter trades that does not fit your TRADING PLAN (your logical brain). Without you realizing it, biases starts to kick in. Biases are like shortcuts for your brain. They can have an unusually large impact on how you make decisions in your everyday life, but particularly when it comes to your trading.
Below are some of the biases that increases the odds of a loss:
- Bandwagon effect
- Also known as the herd mentality. The tendency to do or believe things just because others doing the same
- Recency bias
- Recent experience becomes the baseline of what is going to happen in future. Recent win or loss impacting your decision, or certain rumours/information forming the basis of your trades leading to fear of missing out (FOMO).
- Overconfidence effect
- Believing that you are right in your trades, which ultimately leads to taking higher risk (big lot size), hold losses for longer than you should (ignoring stop loss level), ignoring risk reward ratio, become arrogant or complacent and leading to disaster - capital losses
- Aversion to loss
- The tendency to prefer avoiding losses to acquiring equivalent gains: better to not lose $100 than to earn $100. Hence, ended up adjusting your stop loss when it goes against your initial plan as you believed it will turn around.
Erm... Wait a minute. Am I scaring you off? Are you questioning yourself again as I may have pointed some of the exact situation that you are going through?
Well, the good news is - Most of us don’t even know that we have such biases. I have it too!!! Even if we knew it, its difficult to challenge our reasoning behind making our decisions. Hence, its always good to pause and think about it before getting into a trade. Some of the questions below maybe helpful:
- What drives you to enter this trade?
- Was it technical charting (price actions) or fundamentals (cheap valuations)?
- How does your recent trades performance and could that performance influence your decision?
- Is this trade the talk of the town and you fear missing out?
- If you have decided to enter, what is your trading plan?
I would also like to share the image below. Internalize each sentences and I hope it will also inspire you to be a better trader.
This article remained relevant and together with the article posted in January (My Experience with Target Profit), the same question that keeps repeating in your mind is that at which level/% should you exit. I hope such recency bias will not impact your decision.
ReplyDeleteMy only sharing or opinion will be at times when you felt that "Aiya, I should have waited to exit higher or I should have just ride the trend higher!". Just remind yourself the power of compounding effect. Any trades that gives you a 5 to 8% gain within a month is a good trade comparing to fixed deposit rates. Keep reminding yourself and if you have to, create a spreadsheet and have a look at the impact of compounding effect. That will keep you from experiencing recency bias and thus impacting your future decision.
Good luck and all the best!!!