Not enough market research

Some traders will open or close a position on a gut feeling, or because they have heard a tip from a colleague or read something on trading platforms like StockTwits. While this can sometimes yield results, it is important to back these feelings or tips up with evidence and market research before committing to opening or closing a position.

Is the stock traded on NYSE or NASDAQ? Or on smaller trading exchanges like NYSE American or even OTC, where liquidity is much smaller and hence you could encounter very volatile stock prices.

Trading without a plan

Trading plans should act as a blueprint during your time on the markets. They should contain a strategy, time commitments and the amount of capital that you are willing to invest. An excellent definition and example of a trading plan can be found here.

After a bad day on the markets, traders could be tempted to scrap their plan. This is a mistake, because a trading plan should be the foundation for any new position. A bad trading day doesn’t mean that a plan is flawed, it simply means that the markets weren’t moving in the anticipated direction during that particular time period.

One way to keep a record of what worked and didn’t work for you is to have a trading diary. This would contain your successful and unsuccessful trades and the reasons why they were so. This can help you learn from your mistakes and make more informed decisions in the future.

Over-reliance on blogs/trading software and forums

Some trading software can be highly beneficial to traders, and platforms such as MetaTrader 4 or thinkorswim (by Charles Schwab, originally developed by TD Ameritrade) offer full automation and customisation to suit individual needs. However, it is important to understand both the pros and cons of software-based systems before using them to open or close a position.

The primary benefit of algorithmic trading is that it can carry out transactions at lightspeed rate and quicker than any human is capable of. Today, automated trading systems are becoming so advanced that they could be set to revolutionise how we interact with the markets in the coming decades.

However, algorithm-based systems lack the advantage of human judgment because they are only as reactive as they have been programmed to be. In the past, these systems have been seen as responsible for causing market flash crashes, due to the rapid selling of shares or other assets in a market that is temporarily declining.

Another big mistake is taking for granted advice that is abundant on platforms like StockTwits, Reddit or other platforms that are all about trading and investing. It’s full of people who try to pump and dump a stock (try to push a price higher and sell their positions with profit). Take everything there with a grain of salt (at least).

Failing to cut losses

This is the most important point and lesson in my eyes. Maybe you guess it, but most traders are stepping out of trading and investing. Not because they have become filthy rich. Because they lost so much money or might even be broke. That’s the hard truth, and always keep that in mind. Don’t believe that you found the holy grail of investing because you’re on a lucky streak. You will lose money once in a while, sometimes more, sometimes less. But the art of staying business is to keep the potential losses to a minimum. That’s why you need to internalize the concept of stop losses.

The temptation to let losing trades run in the hope that the market turns can be a grave error, and failing to cut losses can wipe out any profits a trader may have made elsewhere.

This is particularly true on a daytrading or short-term trading strategy, because such techniques rely on quick market movements to realise a profit. There’s little point in trying to ride out temporary slumps in the market, as all active positions should be closed by the end of that trading day.

While some losses are an inevitable part of trading, stops can close a position that is moving against the market at a predetermined level. This can minimise your risk by cutting your losses for you. You could also attach a limit to your position, to close your trade automatically after it has secured a certain amount of profit.

It is worth noting that stops don’t always close your trade at exactly the level you have specified. The market may jump from one price to another with no market activity in between – which can happen when you leave a trade open overnight or over the weekend. This is known as slippage.

Guaranteed stops can combat this risk, as they will close trades automatically once they reach a predetermined level.

Overexposing a position

A trader will be overexposed if they commit too much capital to a particular market. Traders tend to increase their exposure if they believe that the market will continue to rise. However, while increased exposure might lead to larger profits, it also increases that position’s inherent risk.

Investing in one asset heavily is often seen as an unwise trading strategy. However, overdiversifying a portfolio can have its own problems, as explained below.

The same goes for relying too much on certain industries like tech. Tech stocks are on a hon-stop bull run as it seems. Most of these stocks have a high beta value, i.e. they move more than the market. So if the market goes up 1% and a stock has a beta value of 2, the stock should rise on average by 2%. The opposite is true as well. Don’t own too many stocks with ultra-low beta below 0.5 or even lower. It means that you might have a good protection on market pullbacks. But in general, you’ll miss out all the gains and will tread water.

So keep a good balance and always have some remaining cash reserve (dry powder). Not too much tech, not too much pharma, not too much Chinese companies etc. I think you’ll get it.

Overdiversifying too quickly

While diversifying a trading portfolio can act as a hedging protection in case one asset’s value declines, it can be unwise to open too many positions in a short amount of time. While the potential for returns might be higher, having a diverse portfolio also requires a lot more attention and effort from you.

For instance, it will involve keeping an eye on more news and events that could cause the markets to move. This extra work may not be worth the reward, particularly if you don’t have much time, or are just starting out. If you have too many companies in your portfolio, the risk of negative headlines also increases. Let’s assume you now have 25 positions instead of 10. The chance that one of these companies will now be affected by a profit warning or a product recall, for instance, increases enormously.
So a good trading day could be dragged down by one “disaster” stock and end up disappointing, although your other positions performed quite well.

That being said, a diverse portfolio does increase your exposure to potential positive market movements, meaning that you could benefit from trends in a lot of markets, rather than relying on a single market to move favourably.

Not understanding leverage

Leverage is essentially a loan from a provider to open a position (so called margin trading). Traders pay a deposit, called margin, and gain market exposure equal to as if they had opened the full value of that position. However, while it can increase gains, leverage can also amplify losses.

Trading with leverage can seem like an attractive prospect, but it is important to fully understand the implications of leveraged trading before opening a position. It is not unknown for traders with a limited knowledge of leverage to soon find that their losses have wiped out the entire value of their trading account.

Don’t use leverage (e.g. margin trading) if you’re a beginner or don’t have enough time to really watch your positions. Margin calls can exceed your original investment considerably and force your broker or bank to sell stocks at their will to cover for the losses. So please be cautious here!

Overconfidence after a profit

Winning streaks don’t exist in trading. The euphoria that comes from a successful position can cloud judgment and decision-making just as much as running losses. The buzz from a win could lead traders to rush into another position with their new-found capital without carrying out the proper analysis first. This may lead to losses and could potentially wipe out the recent gains on their account.

Sticking with your trading plan can go some way to combat this. A profit suggests that a plan is working, and should serve to validate your previous analysis and predictions rather than act as encouragement to abandon them.

Letting emotions impair decision making

Emotional trading is not smart trading. Emotions, such as excitement after a good day or despair after a bad day, could cloud decision-making and lead traders to deviate from their plan.

Another big mistake is to invest in a company you’re familiar or connected with. Let’s say, you are working in an IT department and use, let’s say Adobe Acrobat regulary. You’ll love the program and it’s your everday companion. And because of that, you invest in the stock and buy stocks from Adobe (Ticker: ADBE). Emotions have taken over and clouded your investment or trading plan. Gone is caution, gone are all the good intentions. Maybe the trade works out. But the point is, you left your pathway of good investing and forgot a major rule.

After suffering a loss, or not achieving as good a profit as expected, traders might start opening positions without any analysis to back them up.

In such an instance, traders may add unnecessarily to a running loss in the hope that it will eventually increase, but it is unlikely that this will cause the markets to move in a more favourable direction.

Therefore, it is important to remain objective in your decision making during your time on the markets. To cut out emotions from your trading, you should base your decisions to enter or exit a trade on fundamental and technical analysis that you have carried out yourself.

Moving the goal posts

There are many ways to avoid admitting you’ve made a mistake, but it’s generally better to acknowledge a small loss than to keep digging in and lose more.

Say you’ve set a stop order on a position so if it falls below that price, you’ll automatically sell. Pulling—or canceling—a stop is often an unconscious attempt to avoid admitting you were wrong. After all, as long as the position is open, there’s still a chance it could come back.

It’s usually best to stick to the plan you had, using the indicators you typically rely on, and take small losses quickly rather than dragging out a losing trade.

Another dangerous trading technique is averaging down. Let’s take an example: you buy 1000 shares with a buy price of 10$. The trade has a value of 10,000$. After the purchase, the stock falls to 8$. You think: “well okay, if I buy some more, my cost basis will get lower”. That’s what we call “averaging down”. If you buy another 1000 shares for $8, your cost basis for this specific stock position is now $9. So to get into the green, the stock has to rise only to 9 instead of 10 US$. But the risk you take has become much bigger. Now you doubled your position, and if the stock price falls any further, your pain is getting much worse.

I use averaging down too, but only very cautious and limited. Don’t overuse this technique, because it will end you up in more and more losing trades, and you become a bagholder. Nobody wants to be a bagholder!

Playing earnings season

During earnings season, you might find yourself with a firm conviction about which way a stock will move after the earnings release – maybe your preferred indicator points a certain way or you feel you know everything there is to know about a company’s fundamentals—but that doesn’t mean you’re right. And markets can surprise you. So, it’s risky trading around earnings without proper preparation. Our Earnings Release Sheet can help you gaining confidence with earnings.

Trying to pick tops or bottoms

Which story is more fun to tell: The one where you made money following a strong trend, or the one where you picked up a stock at a bargain low? If you’re like many traders, you’d prefer the second one because it’s a lot more dramatic.

Perhaps that’s why some traders spend a disproportionate amount of time trying to buy bottoms or short-sell tops. Of course, the problem with this approach should be self-evident. If you’re more concerned about how you made money than actually making it, you might be trading for the wrong reasons.

No trading plan

Every trader needs a trading plan. If they don’t have one, it’s time to get one and the best place to start is by thinking about why you’re trading.

• Is it because they want to earn a bit of extra money on the side of their regular job?
• Do they want to make a career out of tracking the stock market?
• Is it just something they’re doing for a challenge?

Whatever the reason may be, the goals will help dictate the way a person trades. 

Traders need to think about what they really want to get from trading and then work out how to get it. Consider the amount of time available to dedicate to trading, the types of trades to pursue (e.g. high volume, low profit), and whether the level of knowledge is sufficient or if more time is needed on education.

Trading too much, too soon

Due to the potential to earn money from trading the temptation, especially for new traders, is to push limits in the hope of getting greater profits quickly. 

But going into trades too enthusiastically – either in volume or value – only serves to raise your level of risk. If you overreach and things go against you, you might bounce yourself out of the market before you’ve even had a chance to settle in. Too many people enter the trading markets with the idea that it’s going to set them on a fast path to millions.

The reality is that trading isn’t the kind of thing where you casually throw in a bit of money and get untold riches in return – it takes a lot of skill and patience to get anywhere near those lofty heights.

Build slowly and steadily. Test things out with a papertrading account first, then once you open a live trading account with real money, invest a small amount and trade in one or two markets to get a feel for things.

The more time traders are able to dedicate to trading, the better they become, the easier they find it, and the more trading opportunities reveal themselves.

Guessing

If traders enter into a trade without doing any preparation, they’re not really a trader. 

In fact, trading without putting any effort towards education or understanding how the markets work is more like walking into a casino, throwing some money on the roulette table, and hoping for the best. While it’s true that there’s an element of unpredictability and volatility inherent to trading, by spending time learning and observing how the market works, traders can form an idea about the types of trades best suited to them.

Educate yourself and be prepared before every trade. Axi offers a wealth of educational content in whatever format you prefer: courses, blogs, eBooks, webinars, and more. Take what you learn and apply it in your demo trading account where you can practice with no risk before moving into the real environment.

Taking too big positions

There is no doubt the attraction of a big winning trade is on every trader’s mind. And the temptation to take a big position (thinking it will be a winning trade) is always present. Money management for traders is essential to keep them in the markets.

But as proven time and time again, taking too big a position on a trade can be risky. There is no guarantee the trade will go the way you want it to go. So, if you risk 50% of your capital in a single trade and that trade turns against you, it will seriously decrease your trading capital.

And it may also take a big psychological toll on you as a trader. It’s important to learn position sizing techniques to help reduce the amount of risk and develop a sound approach to entering and exiting trades.

Letting profitable trades turn into losses

If you’re making this mistake, you’re not alone. Even the big guns are guilty of this common trading mistake.

How many times have you perfectly timed your entry, seen a nice paper profit, only to see it vaporised by a sharp reversal? I’m going to bet more than once.

Letting a good trade go bad is the first major mistake you can make trading the financial markets, but there is light at the end of the tunnel. 

The best way to correct this mistake is planning. You should know when you are going to exit before you enter into the trade. And you should have multiple reasons to exit. 

Traders need to develop their own trading exit strategies that allow them to achieve an objective from the trade – even if it does not go exactly as they might have hoped. This can include a combination of:

• Profit target(s)
• Wide trailing stop (for trending markets)
• Tight trailing stop (for fast exhaustion moves)
• Risk/reward stop (for when you get close to your profit target)

You can also scale out of your trade. Take a bit of your position off when the market makes some available, take a bit more as the move progresses, and leave some on for the big wins. This type of approach will help you to smooth out your equity curve.

Not tracking trades in a trading journal

Using a trading journal is a very critical part of becoming a successful trader. It isn’t as simple as recording your entry and exits for profitable trades, it requires a bit more information and attention.

Your trading journal should include all trades, good, bad, and even really bad ones. And this means some extra work, no doubt about it. But eventually it will come to your rescue because it helps you avoiding the same mistakes again and again. And it will show you the real winning trades you’ve made. This will come in handy when you need it.

Some types of information that should be recorded in a trading journal include:

• Date and time of trade
• What instrument is being traded
• Screenshots of the chart setup when trade was entered
• Position size
• Your thoughts and reasoning for entering the trade

By having a trade journal available to you, you’re able to go back and review your successful trades and trades that weren’t so successful to highlight opportunities in your trading strategy where you can improve.

Not using a trade strategy

Some trade strategies have evolved and developed over decades and are used by experienced traders and investors. They’re tried and tested and have proved their existence.

Learn from these strategies, study them and try them out. Without trading strategies, it’s mostly guessing and “gut buying”. A good primer on trading strategies can be found here.

Don’t forget about your investment time horizon

Investing without a time horizon in mind can set you up for failure. This is because all investments are either long-term or short-term, and they will have different rates of return depending on the length of your investment. 

For example, stocks that perform well over long periods but not so much during shorter ones may make sense to hold onto when considering retirement savings.

When you understand your time horizon, you can better match the right investments to your portfolio.

Accept to make losses

Many traders are under the impression that they can’t make mistakes like investment professionals, but this is simply not true. 

If you jumped into a trade without doing your due diligence or you’re a long-time earner and your portfolio has suddenly taken a dive, it’s important to accept what happened and move on instead of letting your pride control your trading style, and hold onto those losers longer.

There is always going to be another day and another trading opportunity. Learn from those previous losses to continue improving your skillset on the way to becoming a successful trader.

Following the crowd

Following the herd is a common trading mistake where inexperienced traders blindly follow the herd mentality, finding themselves in detrimental trades.

It’s important for novice traders to think about their own trading style when making decisions so that they don’t jump into trends without conducting their own research and without understanding why it might work out better for them. If you enter into a trade by following someone else without performing any technical or fundamental analysis and a trade loses, you only have yourself to blame.

Trading in too many different markets at once

Inexperienced traders may jump from market to market – from forex to indices and cryptocurrency to commodities. This is a common mistake and it can lead to over-trading and significant losses.

Getting a better understanding of a market is important for traders of all levels so that trading decisions are based on facts instead of gut feelings or emotions. Before branching out, it is wise to come to grips with one market and gain valuable trading experience before jumping into multiple markets at once.

Chasing markets with strong past performance

It’s common for many traders to select a particular asset or market that has seen strong past performance over the past couple of years. This ‘Fear Of Missing Out’ (FOMO) mentality has probably caused more negative investment decisions than positive ones. The above links contains some valuable tips and techniques to overcome FOMO.

The market that has been performing well for those few years may well be nearing its end, with all the smart money being moved out and the traders making the mistake (the dumb money) pouring in.

Traders need to understand the best time to have invested in that market was three or four years ago, not now.

Not knowing what you can afford

Apart from minimizing losses and maximizing profits, many traders forget to manage the risk of wiping out their capital as well. Setting limits on how much capital you are prepared to risk at any given time is a useful strategy to stay trading and not find yourself in an overexposed position. While overexposure can maximize profits, it also amplifies losses and can signal the shift from trading to gambling.

Daytrading bonanza

Daytrading means that you buy and sell stocks on the same business day. While normal investing accounts have a limit on day trades (or you will be flagged as day trader, you can read more about it here).

Daytrading needs your full attention and lots of experience to recognize technical patterns, among others. Otherwise, most of your day trades will end up with losses. And it’s not daytrading if you keep the stock overnight.

So yes, there are daytrading experts (preferably full-time) that earn a bunch of money. Often, they don’t even know what company they’re buying. They just look at the patterns and buy if the technical indicator tells them.

So only start daytrading after some years of experience with trading, trading signals, technical indicators and with a good winning-ratio in the past.

There are some good books about Daytrading. But be warned of quick profits. If you’re not sure about it, keep that stored away for now and focus on your regular trading and investing success.