I’ve often been asked whether trading psychology is really important for a forex newbie or if it’s just overrated. In this old man’s humble opinion, sound trading psychology is what sets consistently profitable traders apart from the rest.
I believe that a person’s ability to handle and overcome stressful situations, like experiencing a drawdown, having a losing position, and managing one’s greed, plays a central role in determining a trader’s success.
If you are not psychologically prepared to handle the stress that comes with trading, chances are that no matter how good your strategy is, you will not be able to execute it properly and will most likely see your account deep in the red.
As mikhail86 brings up, just take a look at the Turtle Traders’ experiment run by Richard Dennis and Bill Eckhardt. A group of traders was taught the exact same system, with the same exact risk management guidelines and principles. Some were very successful, while others floundered.
The difference? Trading psychology.
Some of the “turtles” were unable to handle the system’s drawdowns, or closed their trades early and were unable to maximize the best trade setups.
This is very similar to handing over the keys to an F1 car to a student driver and expecting him to carve the racing track like he’s Michael Schumacher. Even with a supercharged car, the student driver would probably lose a race to Huck’s broken-down Honda Fit as he lacks the mental fortitude to handle high speeds and sharp turns.
At the same time, we can’t overlook the importance of trading strategy. You may be the most disciplined and emotionless trader out there, able to stick to the plan and leave emotions at the door, but you’ll probably still end up in the red if the strategy that you’re following to a T is poor and not profitable in the long run.
The key is to find the proper balance between trading psychology and strategy.
Trading psychology may not be able to turn a losing system into a profitable one, but it can equip you with the right tools to develop a profitable system. Having the right frame of mind can provide you with valuable insights to tweak your trading approach to get better results. In effect, having the right trading psychology can lead to a better trading strategy.
Likewise, a lot can also be said about the positive effects a successful strategy can have on trading psychology. You may find that sticking to the plan and weathering drawdowns are much easier when you’re trading a tested and proven system.
The bottom line is this: To become a successful trader, you will need both the right mindset (trading psychology) and the right tools (trading strategy). Without either one, you’re bound to fail.