In the first article, the author explained the important ingredients needed to become a profitable share trader.
In this article about the psychology of trading, we are going to discuss what is it that leads to a minuscule percentage of traders to be annually profitable (approximately three per cent to five per cent), with a majority of traders failing at trading.
------------------------------
In the decade and a half I have spent in the profession, through conversations and discussions with many traders (both successful and the unsuccessful) and from mentoring over 200 mentees with a wide range of IQ levels and academic credentials, from basic graduates to highly qualified C-Suite professionals, I have come to the following conclusions which I will talk about in this and forthcoming articles.
Today, I will discuss two.
EGO
Right from childhood, we have been hard wired to be the best in whatever it is we take up, be it academics, sports, music or any other skill. There’s absolutely nothing wrong with that.
Let’s say you have been a brilliant student throughout your academic life, and went on to study further at the top institutes in the country, and did pretty well in your corporate career. You decide to try your hand at trading as your successful previous stints in your academic pursuits and your career have given you the confidence that you can perform well in trading as well. Unfortunately, you end up losing big time. What went wrong?
In the determination to always be on the winning side after few initial losses, you most likely ended up betting higher stakes hoping for a turnaround (commonly known as revenge trading) with the end result that your account gets blown up. It was your need to be right in every trade, the fear of ending up on the losing side of a trade. This is where ego comes into play.
Your internal self- talk begins. “I have been a brilliant student, a topper, I went to the best institutes, I am on top of the corporate heap professionally, how can I go wrong?” All your qualifications and your brilliance mean nothing when it comes to trading. But this is something that your ego cannot accept. This is the ‘ego barrier’ as Ray Dalio calls it, the subliminal defence mechanisms which, according to him, make it hard for you to accept your mistakes and weaknesses. Markets are random. The outcome never was/ is/ or ever will be in your control. No matter whatever amount of data you pull up or the analysis you do to justify your trades, in the long run nobody can predict the markets. This is what I meant by ego coming into play, your ego will not allow you to accept you have gone wrong in a trade, and get out of it quickly. Your ego can be your greatest enemy when it comes to trading.
That is why I say having a high IQ is not mandatory to win at trading but having a certain kind of temperament is. To quote billionaire investor Charlie Munger, "You need to keep raw irrational emotions under control. You need patience and discipline and an ability to take losses and adversity without going crazy. You also need the ability to not be driven crazy by extreme success."
Always remember, the market is not bothered about who you are, your educational qualifications, your prestigious achievements, your sparkling career. The market will only do what it wants to do, the market is always supreme. To win at trading, you need to let your profits run and cut your losses. And put ego aside.
CAPITAL
Under capitalization is another important reason why majority of traders fail. On an average, most first-time traders come to the market with a capital of between ₹1 Lakh to ₹1.5 Lakh and expect to take home crores, and that too within the shortest possible time. Their most preferred trades are in indices (NIFTY, Bank NIFTY) because of their liquidity and lower margin structure. Typically, a first-time trader would start off with one lot, in case of early success (which the market does at many times as the markets are known for beginner’s luck) and keep increasing the bet size till one fine day, when lightning strikes, (and it does so with everyone), only to have them realize that they have lost over 50 per cent of their capital and now they don’t have the margin required to buy one lot.
The next best option they feel now is to trade in options. It is cheap and affordable and will still keep them in the game. But unfortunately, about 90 per cent of the options bought end up worthless and eventually they end up blowing their entire capital. This happens with every new beginner. It happened with me too, as I mentioned in my previous article.
Every beginner has to accept that they will have losing trades irrespective of how intelligent or successful they are and that they have to factor in the probable losses before arriving at the capital required to begin trading with.
I will elaborate about the other factors that impact trading, and are essential for new traders to pay heed to in my next articles.
Follow the entire series here.
Kirit Manral is a professional trader, and has been running a mentorship program in trading since 2019, with mentees from around the globe. He can be found on Twitter at @KiritManral