The road to becoming a trader is a long and windy one. While it’s certainly more accessible than ever to get into trading, even if you don’t have much capital, you still need to spend years getting the proper education, going through professional development, perfecting your strategies, and familiarizing yourself with the markets. Then, once you finally reach the stage where you can make your first trade, it’s easy to let your emotions get the better of your judgment and make a simple mistake that could cost you thousands of dollars.
Mistakes are an essential part of the learning process, regardless of your career choice. However, you don’t always have to make them yourself to learn from them. As a general rule of thumb, it’s much better to learn from the mistakes of others and do all you can to avoid repeating them, especially as a new trader.
So, take a look at some of the most common newbie trading mistakes, and see what you can do to avoid them.
1. Relying on your gut feeling
When you first start trading, the whole process can be overwhelming. You need to consider so many things, so many markets you need to study that it might appear impossible for anyone to make calculated, thought-out decisions before making a trade. However, that’s precisely what experienced traders do. They prepare, do extensive research, and develop strategies. They never rely on their gut feeling only. Even when making snap decisions, they take pre-calculated risks and use their better judgment – they don’t rely on their emotions.
As a new trader, you’ll find yourself in an unfamiliar, stressful environment. You’ll become anxious about losing your investments, and you’ll be tempted to let your fears guide your trading decisions. But, depending on the type of trader you are, you might even forget about fear entirely and become too greedy. Neither is a good option.
When relying on your gut feeling and emotions to make trading decisions, you’re essentially doing nothing more than gambling. There are only two possible outcomes when you gamble, one much more common than the other.
Your gut feeling might be right. You might strike gold and win big. However, that’s just a stroke of luck and nothing else. It won’t make you a better trader, and it won’t help you progress through your career.
The second outcome is much worse and more common – you’ll lose big, damage your portfolio, and hurt your clients.
Therefore, if you want to become a successful trader, you’ll need to avoid the costly mistake of relying on your gut feeling.
2. Trading without a well thought out plan
Trading without a plan is one of the worst mistakes you could make. It leaves you vulnerable, exposes you to too much risk, and prevents you from ever succeeding. Without a plan, you’ll have no choice but to rely on your gut feeling (which is something you don’t want to do, as we’ve discussed). Additionally, you won’t be able to measure and improve your performance.
Every good trader needs a well-defined plan.
However, before developing a plan, you need to consider your short- and long-term trading goals and then define your main milestones. Be as specific as possible. Don’t just put “make money” as your primary objective – it’s too vague and won’t help you in the slightest to develop a plan for success.
Instead, focus on goals you can achieve, such as minimizing risks or protecting your trading capital. Then, determine what you can do to achieve such a goal, aka, make a trading plan – place stop-loss orders, incorporate risk management strategies, set entry and exit limits.
Whatever you do, make sure that you stick to your plan. Unfortunately, many novice traders mistake entering a trade with a plan, then abandoning the said plan altogether due to unexpected changes.
Market shifts happen. Consider them when developing your plan and stay on your course.
3. Clinging to losing trades
Every novice trader’s biggest fear is losing a trade. After all the time, money, and effort invested in a trade, losing is the worst thing that could happen, especially when you’ve followed your plan to a T. However, you need to accept that losing is part of the game.
You can never predict exactly how your investment will behave. The best thing you can do is analyze the market, do your homework, and stick to your plan. Sometimes it will work out; sometimes, it won’t. When it doesn’t, you need to learn to cut your losses.
Clinging to losing trades will only put your portfolio at greater risk. At best, you might minimize your losses ever so slightly. At worst, you’ll lose everything.
That’s why it’s so critical to have a defined plan and precise entry and exit limits. If a security is performing poorly and there are no indicators that it will recover, exit the trade once it hits your exit limit, and don’t look back.
4. Putting all your eggs in one basket
One of the most important things you need to do to ensure your success is diversify your portfolio. Unfortunately, many novice traders fail to do just that.
They familiarize themselves with only one type of security – they invest all they have into it and then just sit back and hope for the best. That’s the fastest way to lose money.
The only way you can protect your trading capital is by committing to diversification. It’s what will allow you to win and lose confidently. When one security underperforms, another will pick up the slack, so you won’t feel like you have no choice but to cling to a losing trade.
Of course, you don’t want to go to the other extreme and spread yourself too thin. There is such a thing as too much diversification. Jumping from one security to the other, trying to keep track of all your investments, and analyzing a bunch of different markets at once will only give you a headache and prevent you from perfecting your trades.
Stick to just a few different markets and make sure that they’re well-balanced.
5. Going in over your head
One of the first things you’ll learn as a novice trader is that the more money you invest, the more money you could win back. While there’s undoubtedly some truth in that, you’ll always need to keep in mind that trading is a high-risk-high reward game. If you risk too much and go in over your head, you might just lose it all.
Taking too big of a position on a single trade might seem tempting after you’ve done your market research and are all but certain that the odds are in your favor. However, try as you might; you can never know for sure which direction the market will take. So, you’ll always need to trade with caution.
Incorporate risk management techniques into your strategies and never risk a big chunk of your capital on a single trade.
Making mistakes is how you learn. There isn’t a single trader out there who hasn’t made mistakes, and regardless of how fantastic your plans and strategies are, you’ll make mistakes, too. Still, you should always strive to avoid them when you can and protect your capital to the best of your abilities at all times.