How to Overcome Fear in Trading

All  traders and investors in every kind of market feel fear at some level. Turn on the news one day and hear that a steep, unexpected selloff is taking place and most of us will get a queasy feeling in our stomachs.

But the key to successful, profitable market timing—in fact, in all trading—is in how we prepare ourselves to handle trading fears. How we prepare to deal with the risks inherent in trading.

Fear is probably the most significant emotion for traders. Many traders struggle with this emotion and fear can demobilize you from applying your hard learned technical skills.  Significant trading losses often lead to emotional distress and turmoil. Unless addressed, the trader may re-experience those painful memories in future trades. Following anguishing losses, a trader may become paralyzed and unable to enter the trade or act in other fear-based ways. After all, traders are human and naturally fear that which causes pain. Although the desire to trade may be strong, the mental response to fear can be stronger. Anticipated pain is sidestepped by not pulling the trigger. This is not a sign of weakness. It is merely the mind’s attempt at self-protection, though it causes much frustration and distress, and works against our interests as traders.
When suffering from fear, you may
  • Cut winners short in fear of giving profits back
  • Hesitate in pulling the trigger because you fear the prospects of a loss
  • Hang on to losing trades because you fear taking the loss
  • Jump into unplanned trades because you fear leaving money on the table

Mark Douglas, an expert in trading psychology, says this about trading fears in his book, Trading in the Zone: “Most investors believe they know what is going to happen next. This causes traders to put too much weight on the outcome of the current trade, while not assessing their performance as a probability game that they are playing over time. This manifests itself in investors getting in too high and too low and causing them to react emotionally, with excessive fear or greed after a series of losses or wins.”

As the importance of an individual trade increases in the trader’s mind, the fear level tends to increase as well. A trader becomes more hesitant and cautious, seeking to avoid a mistake. The risk of choking under pressure increases as the trader feels the pressure build.

Have you ever questioned why it is so difficult to trade even when you have solid technical skills?

Every trader faces fear, sooner or later. In a perfect world, we’d be fearful at exactly the right times and use that fear to manage our risk, but we all know it doesn’t work like this–markets naturally seem to provoke the “wrong” emotions at the wrong turns, and following those emotions blindly can get us in a lot of trouble. For some traders, fear can be nearly debilitating, and this is as true for purely systematic/quantitative traders as it is for discretionary daytraders. Today, I’ll share a few ideas that have helped me, and many traders I know and have worked with, to manage the emotions of trading. Probably nothing I write today is my own, original work, but I’ve kept the most useful tools and ideas I’ve assembled from many sources.

Acknowledge the fear.  The first step is to allow yourself to experience your fear, and one of the ways to do that is simply to say “I am feeling fear.”  Whatever works for you, just invite that emotion of fear to be fully present in your experience–this also has the effect of grounding you in the “now” and bringing you into a mindful awareness of the present moment. It just so happens that this present moment is tinged with fear, but that is perfectly fine. However you do it, first, allow yourself to fully experience the fear.

How are you creating your fear of loss?

Is it from taking excessive risk and aiming to trade positions that are above your threshold and propensity for loss?

From a self-protection perspective, by not trading you are saving yourself from the pain of loss. If you reduce your trading size and take less risk, you may find that your ability to actually
execute improves dramatically.

In fact, I would say in the majority of cases I have come across where traders are having challenges pulling the trigger, excessive risk-taking is one of the core causes. Consider your sizing in relation
to your own threshold for loss, your trading account, and, where appropriate, your personal wealth.

I remember one of my students who took my Psychology course a seminar on improving trading strategy execution and one of the key points was trading appropriate size and managing risk so that you are free to execute.

One of the people who attended that seminar emailed me a few days later to say how, after months of getting frustrated and annoyed about not pulling the trigger on their trades, they had made a significant breakthrough with their trade execution.

What had changed?
They had reduced their trading size to the minimum – reduced the level of stress and fear that had been keeping them out of the market – and were now free to execute without hesitation.

This shows that, as a trader, you have not embraced one of the fundamental facts of trading life; that losses are a natural part of the trading cycle. No one likes to lose, but unless you deeply and truly accept its statistical inevitability then there will always be interference in your trading, and you will not achieve your full trading potential.

Imagination and fear

When we encounter something we fear, we experience both a neural response (memory and sensory processing brain regions activate) and a physiological response to this potential threat, such as getting sweaty palms or a faster heartbeat. Imagining a threat stimulus activates emotional processes in response to the threat with a highly similar network of brain regions as when the threat stimulus is actually in front of us.

But because there’s no immediate danger when the threat is imagined, repeatedly imagining it will help detach the stimulus from the expected threat since none appears. This weakens the brain’s association between stimulus and expected outcome. As a consequence, it also reduces the neural and physiological effects that happen in response.

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