A sound technical knowledge of relevant terminology, how the forex markets operates and the fundamental impacts of geopolitical and economic situations is an integral part of your forex education. However, for those looking to truly immerse themselves in the fast-paced world of forex, you also need to understand the psychology involved when it comes to honing your forex trading strategies.
Whether you realise it or not, trading psychology is a vital component for succeeding on the forex market as it requires good judgement, nerves of steel and self-control to make informed and calculated decisions on when to enter and exit deals at the right time. However, it’s human nature for emotions to come into play, but these often appear as negative emotions that can often cloud judgement in high-pressured situations.
All is not lost though. In this post, we’ll walk you through the psychological journey of forex traders – arming you with the right know-how to recognise the core emotions involved in trading, how they impact your forex trading strategies and, more importantly, how to use them to your advantage. Armed with this knowledge, you’ll be better prepared to plan and adapt your forex trading skills to suit your temperament and make better-informed choices when trading.
The big four
When we’re talking about the psychological aspects of trading, there are four main emotions that are the biggest hurdles to overcome if you want to effectively manage your mindset while trading – and subsequently better manage the risks you take.
These emotions are: fear, greed, revenge and euphoria. Each of these psychological elements typically have negative connotations in the context of trading as they can lead even seasoned traders to start making irrational, emotionally-led decisions that can lead to greater losses. That being said, if these emotions are acknowledged and used in the correct way within forex trading strategies they can also be valuable assets for achieving success.
The fear factor
Fear has a crucial part to play in forex trading. As one of our most fundamental emotions, experiencing fear is perfectly normal in all walks of life – after all, if we didn’t feel fear we wouldn’t be able to identify situations or things that could potentially harm us and impact our survival. However, fear can also drive us to make irrational decisions that could in fact cause greater risk or harm.
In the case of forex trading, allowing fear to influence your decision-making process could result in making unsound choices on trade deals that lead to losses. The reason is that fear has the potential to introduce doubt into your decision making process, causing you to be more hesitant and resulting in you convincing yourself that you’re making the wrong decision as a result. This negatively impacts the brain’s ability to analyse and assess situations with clarity and could mean missed opportunities for successful trades, just as much as it could mean losses.
This isn’t the only fear factor at work here in the forex trading realm, either. There’s also that niggling fear of missing out, also known as FOMO. Just like in your everyday life, this need to not miss out on good trades can negatively affect the decisions you make as a trader, resulting in greater risks – for example, entering deals without doing due diligence on whether there is real profitability. If you allow yourself to become a trader that’s dictated by fear, you’ll soon find you lose your sense of rationale when it comes to making informative decisions.
That being said, we all need a sense of fear to allow us to analyse the risk in situations. When harnessed correctly within your forex trading strategies, fear can be controlled and in fact become a valuable asset that helps you to retain a clear and level-headed perspective.
The first step to this is recognising what you’re afraid of and why, which for most traders is likely to be the loss of your hard-earned money. The second step is to construct a well-thought out forex trading plan that works to minimise this outcome by taking calculated risks. This could include limiting the number of currencies you trade in and implementing a cap on the amounts you trade so you have a better handle on your potential losses.
Taking a measured and educated approach that uses fear in a controlled way to analyse both the markets and your own personal liquidity will ensure you’re making more rational decisions overall. Even when losses are made, with sound decisions, they should be easier to recover from, rather than letting fear take hold and allowing losses to spiral out of control.
Gain control of greed
Most people get into forex trading to make money and, when the markets are up, this desire and ambition can be a brilliant motivator. On the other hand, it can also turn into greed – a selfish emotion that can, in some cases, be more dangerous than fear.
Like fear, if left unchecked, greed can become a powerful psychological factor with sometimes devastating consequences. Common sense and rational thought are often the first things to suffer when greed takes hold, and while fear may cause you to be too cautious, greed has the opposite effect – fuelling the constant yearning to make substantial profits through risky trades.
Naturally, this isn’t a sustainable way to trade forex as it can lead to an empty trade account and heavy losses. However, there are ways you can manage greed more effectively to ensure it doesn’t have a damaging effect on your FX trading career.
Greed is typically an instinctive behaviour – a deep-seated part of a person’s psyche that makes them want to achieve more, be that social status, monetary value or anything else. When it comes to creating your forex trading strategies, it’s important to recognise signs of greed in your own personality. Have you always been driven by monetary value and highly competitive? If the answer is yes, this could suggest you might be more susceptible to greed in this fast-paced and exciting world of currency trading.
To overcome this obstacle, it’s advisable to devise a robust forex trading plan that you stick to at all times, even when you make substantial profits. This means ensuring your forex trading strategies are based upon rational business decisions and uses best practices for managing and assessing the risks of each and every trade deal. This includes reminding yourself frequently that you shouldn’t trade any amount of money you can’t afford to lose. Additionally, this should entail ensuring that all your forex trade deal decisions are made on real data analysis and not on greedy, emotional whims or unfounded gut instincts.
The reality is that any business investment (be that in the forex markets or in your own small business) will expose you to risks of not getting the return on investment you expected or, worst still, suffering heavy losses. However, how you handle these emotions as a forex trader could be key to your recovery and overall success.
When trade deals don’t go the way you predicted, it can naturally lead to feelings of resentment in FX traders who often blame the market for their losses, sparking the need for revenge trading as a result. This comes in the form of irrational and aggressive trades that are purely driven by emotions rather than rational, business-based analysis – making these trades more like an act of gambling that actual trading.
As a result, many vengeful traders disregard logic and their well-crafted forex trading plan in search of what’s owed to them in order to recoup their losses, which invariably leads to further ill-informed trade deals and further losses that can consume your trading account balance quickly.
Much like greed, revenge can be a destructive emotion that all forex traders need to be aware of. Although there is always an element of risk involved with financial investments in the currency market, revenge trading can be avoided by ensuring you stick to your set trading forex strategies. As with the other emotions, emphasising the importance of using rational thought processes and accurate data analysis to inform your decisions will ensure your judgement isn’t impaired by frustration at previous losses or market fluctuations that are out of your control.
Err on the side of caution with euphoria
On the flip side of heavy losses and revenge trading is that overwhelming sense of euphoria and excitement from a succession of lucrative trades. It’s only right that this feeling gives you a confidence boost in the belief you’re doing a good job of reading market movements and making the right decisions.
However, this typically positive emotion also comes with a darker side of overconfidence that can be a danger to traders if they’re not mindful of it. After a series of successful trades, it’s perfectly normal to feel the buzz of excitement and self-assurance that you know what you’re doing, but with global currency markets often moving unpredictably, you can never afford to rest on your laurels and think you know best.
Overconfidence in your own abilities can often cause you to abandon your forex trading plan and go ‘off piste’ on the markets without fully assessing the integral factors involved in the deal. Unsurprisingly, this will end in losses more often than wins, which like all of the above emotions can soon spiral out of control.
Instead, allow yourself to feel buoyed by your successes, but ensure you always remain grounded in your decisions – entering into any trade deal by following your set rules laid out in your forex trading plan. This will ensure that even when you win big, your humility and realistic attitude towards forex trading will help you approach every deal with a clear and level perspective.
When it comes to educating yourself on forex trading strategies, it’s essential to look beyond just the technical aspects of trading – being sure to verse yourself in the fundamental psychological elements involved, too. Having a good understanding of these key emotional traits and how they can be effectively managed within your forex trading strategies will bring you one step closer to learning to trade.
If you’d like to know more about the psychology behind forex trading strategies and how you can further your forex education, get in touch with us today. Our experienced trainers are always happy to share their expert knowledge to ensure you receive just the well-rounded education you need to succeed in forex trading.