The psychological pitfalls of trading forex

According to world-renowned forex trader Justin Bennett, successful forex trading is 80% psychology and 20% mechanics. Once you acknowledge that the mental attributes required to prevail in the world of trading forex are crucial to mastering the markets, you are four-fifths of the way to winning the battle.

There are many instances of budding forex traders that have the technical aptitude for the markets. They can read the markets and pinpoint key areas of support and resistance, but they are unable to keep their emotions in check. The reality is that there are four psychological factors that can influence the decisions you make in the markets – emotions and moods, personality traits, behavioural biases and underlying social pressures that can change an individual’s attitudes and values.

Within this quartet of psychological factors lies a few key pitfalls the majority of losing forex traders fall into when entering the markets.

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Being driven by greed

Make no mistake, the forex markets are some of, if not the most, lucrative on the planet. Forex trading, which is the trading of one fiat currency against another, attracts average daily trading volumes of $5 trillion. It’s easy to see that there is money to be made in the markets, providing you know how to execute good trading positions.

Where so many losing forex traders go wrong is focusing squarely on their desire to get rich quick. It’s important not to look at forex trading or financial trading of any other kind as a ‘get rich quick’ scheme. Forex trading, in particular, is a small margin game. You don’t generate double-digit returns on a single trade very often, if ever. People wanting to generate those kinds of returns tend to over-stake and risk too much of their bankroll on each trade, increasing their chances of going bust.

The fear of missing out

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The general feeling of fear is triggered in the limbic system of our brains as a natural defence mechanism. According to Joseph Troncale, it is considerably more powerful than we credit it to be, particularly when it comes to the forex markets. The fear of missing out on a forex trade is particularly prevalent among day traders that seek to make daily returns from the markets.

The fear of missing out can be driven by various emotive factors in forex. These include going on long winning streaks with trades, as well as long losing streaks. During lengthy winning streaks, FOMO traders will feel invincible and demonstrate over-confidence, while those on a losing streak will take risky entries into the markets to try and chase their losses.

The desire to make correct decisions – 100% of the time

Last but by no means least, our brain is trained to make safe and sensible decisions all of the time. Some forex traders will have a stop loss for each of their trades as well as a take-profit point. However, many losing forex traders will take a smaller loss to avoid hitting their stop loss, only to watch their trade eventually move north into a green (profitable) position.

Additionally, some forex traders will also continue moving their stop loss to avoid closing their open position and having a losing trade, which can be a road to ruin if the open position continues moving against them.

Eliminating the emotional pitfalls of forex trading is only achieved through experience, confidence and sticking to your trading plan. Embracing and accepting the element of risk in every trade you do is vital, as is the need to understand the fundamental and technical forces that cause currencies to move up and down.