Why A Trader Is Prone To Losing Profits Gained From A Winning StreakWhy A Trader Is Prone To Losing Profits Gained From A Winning Streak

Do you remember the last time you enjoyed a solid winning trade? Or at least a bunch of smaller winning trades? If yes, you can also probably recall that you proceeded to lose all of your profits, or maybe even more! Such a scenario is a common occurrence and even I had to go through it a few times during the nascent stages of my professional trading career. I can easily imagine your frustration while assessing such a turn of events. Thus, I explored why traders contrive to lose their profits and how you can avoid experiencing such a scenario during your future trading sessions.

Giving Back Your Profits: A Psychological Explanation

Most difficult questions do not have a single, simple, straightforward answer. The answer to this mystery can be explained through many different reasons, but giving back trading profits have one common theme running through all of the occurrences: the Recency Effect.

 

Recency Effect can be described as a psychological phenomenon where individuals tend to recall events which took place recently and proceed to make decisions based on them. While recent events are recalled, the events preceding them are conveniently forgotten or ignored. This can be attributed to human nature in general as well, but it is crucial that traders are aware of the influence of this particular effect.

As soon as a trader narrows down her/his vision to only their recent results in trading, it is bound to result in a loss of focus and ignorance of trends or the ‘bigger picture’. The Recency Effect has an exceptional amount of influence on traders and leads to them to make all kinds of dumbs decisions which are based purely on a few recent trading results.

In other words, Recency Effect can be considered as the single biggest reason why traders tend to lost their profits on a recurrent basis. It tends to instil in them an unnatural (or even false) amount of confidence regarding their own decision-making powers.

The Danger Lurking In The Shadows: Over-Confidence

Thanks to the Recency Effect, a trader becomes affected by her/his trades to an unnatural extent. This undue influence can usually observed in the form of excessive or a false sense of confidence.

                                                                                        

Let us examine the case of a fresh-faced trader who is enjoying some beginner’s luck and doing pretty well after stumbling onto 3 successive winning trades. This can sometimes take place for even someone without an iota of trading knowledge. Now, let us assume that the condition of the market when the consecutive winning trades were placed was “easy”, in other words a situation where making a quick profit was a cake-walk. After making some easy money, a young trader can easily feel over-confident and just continue trading without paying any attention to sudden market fluctuations. Such a false sense of confidence could eventually result in the trader losing all the profits made from the 3 successive trades.

Such a scenario is very common in the trading world and has taken place thousands of times. Nearly every trader with a fair bit of experience has had to go through the crushing moment of throwing away all of her/his “easy” profits. False or over-confidence tends to make a trader feel way smarter than she/he really is. Sometimes, such traders even think they have a ‘natural gift’ for trading. Such a natural gift for trading is a pretty rare occurrence and is pretty unlikely to pop among most traders. And if you do feel over-confident, take it as a sure sign that you are about to lose your money in the trading market.

The best way to negate the influence of Recency Effect and over-confidence is to long-term trading success is built on a foundation of viewing the market in terms of probabilities. The market does not deal in certainties or guarantees, it only deals in probabilities because every new trade is never influenced by its predecessor. This is the starting point of building a sound trading mindset. So stop giving too much attention to your most recent set of trades.

The Feel of Real Cash in Your Hand

Cash in the hand is one of the physically intense feeling one usually experiences. Its weight, fragility and smell creates a personal connection, in terms of emotions and feelings. It is the complete opposite of what you would usually feel while looking at the money in your online bank account.

The explanation is that the more intangible your profits are, the less value you attach to them. The value you attach to something you can hold or smell is far more than that of something that just sits digitally in your bank account. If a robber were to take away $500 from your profits, you would be furious. But if some stranger were to take away $500 from your bank account, you simply pity your own bad luck and transfer $500 worth of fresh money into your account.

It is vital that you start treating digital money as the real deal. Hence, at the end of each month, withdraw some of the profits you made from the trading account. Place it in a jar, smell it, gaze at it from time-to-time, and simply understand its value. Once you start perceiving digital money as real money, your trading mindset becomes more defensive so as to ensure the preservation of your trading capital. This is how can be a successful trader in the long-term.

Conclusion

Losing your trading profits in a needless manner is one of the most irritating aspects of trading. And if you cannot curb such bad habits, it could easily end up costing you dearly in the form of a blown trading account. I have shared these insights with you in the hope that you can avoid such a drastic scenario. If you do end up in such a dire situation, then the mental consequences are severe. Your confidence and trader mindset could take a beating from which recovery would be tough.

After a decade’s experience in the trading world, the most common aspect, that I have witnessed, to bringing down a trader has been over-confidence. Traders should hold onto a certain level of humility and treat each trade in a unique perspective. Do not bring your ego or anger or any ulterior motives into the trading market. They only end up with you trading like a maniac so as to cover your losses or trying to hold on to losing positions in a stubborn manner.

by John Arnold
References and Bibliography

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