Is your personality affecting your trading?
Learn how your personality can influence your trading. See techniques you can use to overcome personality dispositions that could hamper your trading success.
Reading time: 6 minutes
Trading level: Intermediate
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IG recently conducted comprehensive research to uncover valuable insights into how psychology impacts real world trading decisions. Throughout the project, our experts studied the results of over 30 million closed trades across 15 markets, examined third-party academic studies, analysed data from multiple surveys and consulted with several industry thought leaders. The following article has been developed using insights gained from this research.
In trading, like in life, your personality can be a driver of what you do and how you do it. Successful traders recognise when their personality traits could predispose them to make certain decisions and take conscious steps to ensure that their results aren’t being compromised.
Take a look at five key areas of personality - discipline, decisiveness, patience, rationality and confidence – and how you can work on them to help maximise your trading results.
Discipline
What does 'discipline' mean in trading?
Discipline in trading is the practice of sticking to strategies, avoiding holding onto losing trades and taking profit at the right time. It is an attribute that regulates attention, emotional responses and decision making.
Without discipline, traders risk letting their emotions cloud their judgement, which could lead to large losses. In fact, a study by Lock and Mann found that the median holding time for losses is over four times as long as the holding time for gains1, and this lack of discipline makes a trader less likely to be successful in the future.
How can traders become disciplined?
The best way to become disciplined is by creating a trading plan and outlining a risk-to-reward ratio – this compares the amount of money you are risking to the potential gain to your position. In theory, with the right ratio, you could lose more than you win, and still make a profit. For example, if your ratio was 1:3, you would only need to be successful on three out of ten trades to have an overall profit.
According to IG's survey, only 55% of investors believe that they are disciplined and will stick to the rules they have outlined for themselves. By sticking to your trading plan and risk management measures, you can reduce the likelihood of being caught out by large losses.
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Patience
What is 'patience' in trading?
Patience is the ability of a trader to wait for signals that indicate that it is time to enter or exit the market. This could include making decisions that delay instant gratification in the hope of a future benefit.
IG's survey found that 66% of participants trade or invest as they recognise it will provide a better return than cash savings. But if a trader doesn't have the discipline to stick to their trading plan and the patience to wait for the correct market conditions, it can have a huge impact on their long-term goals.
A study by Freeman-Shor found that only 21% of the stock investments analysed realised a return of over 100%, even though many of the shares went up by significantly more over time2. This was because very few individuals had the patience to wait for the trend to run, preferring to sell for a much smaller profit than risk losing what they had made.
Although it is unreasonable for traders to expect huge returns from every trade, it is important not to 'snatch profits' in small amounts out of fear or loss aversion. Although this might give a sense of instant gratification, there is the risk of losing out on a much larger gain.
How can traders become patient?
To develop patience, it is important to understand that your desired market movement might not happen straight away or at all. Building a suitable risk management strategy is a great way of managing impatience – this should include setting stop-losses and limit orders.
For example, a trailing stop-loss will automatically follow your position by a certain amount of points. This enables you to lock in your profit if the market moves in your favour, but it will remain in place if the market falls – closing out your position if the market moves against you.
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Decisiveness
What does 'decisiveness' mean in trading?
Decisiveness in trading is the ability to identify opportunities and act efficiently – this includes making decisions about when to enter and exit trades, assimilating new information into a plan and learning from mistakes.
According to IG's survey, 27% of investors 'go with their gut' when making decisions about money. However, research by Gollwitzer showed that ill-informed decisions can lead to excessive risk, because they cause a disparity between a plan and its execution3. Although it is important to act quickly, it is also important to make sure you have taken all the available information into account to give yourself the best chance of making rational decisions.
How can traders become decisive?
The best way to become decisive is to create a suitable trading strategy that outlines what you will need to see in your technical and fundamental analysis before you open a trade. This enables you to identify suitable entry and exit points before you start trading and ensures that your decisions have a solid foundation in historical data and trends, rather than 'gut feeling'.
If you focus on technical analysis, you'll use indicators to study signals and trends. The data they give off is then used to establish entry and exit points, and where to place stops and limits. Popular technical analysis tools include Fibonacci retracements, moving averages and Bollinger bands. If you choose to use fundamental analysis you'll evaluate macroeconomic data, company financial reports and the news to establish how and when to trade.
If you aren't confident in your ability to stick to your pre-made decisions, you could consider automating your trading strategy. This is where you would set the parameters of your order and allow an algorithm to analyse the market and respond to opportunities as they arise.
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Confidence
What is confidence in trading?
Confidence in trading is trust in one's own abilities and knowledge. Every trader requires a certain level of confidence so that they can identify and act on opportunities, as well as bounce back after a losing streak.
IG's survey found that investors and traders had higher levels of confidence when it comes to financial decision-making than non-investors. However, there is a difference between confidence and over-confidence, which is an unrealistic view of one's abilities. Research by Dorn and Huberman found that, of the 1345 German investors they surveyed, those who considered themselves more knowledgeable than average were actually more prone to excessively buy and sell assets4. This habit can lead to further losses and decisions that are based on fear rather than research.
All traders will experience losses, but a confident trader will know that everyone has bad days and that sets them apart is learning how to minimise these losses.
How can traders become confident?
The best way to become a confident trader is by trading using a demo account, which enables you to test your trading strategy in a simulated environment using virtual funds. Alternatively, you could opt to backtest your trading strategy by taking a chunk of real data from a selection of markets and running your strategy against it.
Both methods enable you to build up confidence in how your strategy would perform, without using any actual capital. However, it's important to remember that neither provides a perfect reflection of a live market, as they won't always take factors such as liquidity into account when executing your trades.
To avoid being overconfident, just remember that there is never an end to how much you can learn or how much experience you can develop. Even the most successful traders can learn more and develop their strategies further.
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Rationality
What is 'rationality' in trading?
Rationality in trading is the ability to make choices that will result in the best possible outcome given the information available. Rational decisions aim to maximise an advantage, while minimising any losses.
Although rationality is all about seeking the optimal outcome, studies have been quick to point out that this doesn't always mean making money – a rational decision can involve minimising losses and even accepting a loss.5
How can traders become rational?
A common way to improve rational decision-making is through a demo account, which enables you to practise trading and test your strategy without risking any capital.
A demo account can help you to familiarise yourself with market dynamics so that when you start to trade using your own money, you won't be overwhelmed by feelings of fear – enabling you to trade in a more rational way.
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How to control greed
when trading
You’ve probably heard the old Wall Street saying, "Bulls make money, bears make money, pigs get slaughtered". Well, most of the time it’s true – excessive greed is the enemy of long-term success. But when things are going your way, it’s very tempting to get a little greedy. Here’s how to rein it in. Read more
Know thyself. How to keep your emotions in check when trading.
Fear, greed, hope, frustration, boredom – most traders experience these emotions at some point. But letting them get in the way of your trading can take a significant toll on your success. Read the research our experts have compiled on emotions in trading, and how to keep them in check. Read more
How to manage fear and greed in trading
No one has a crystal ball, and constantly trying to predict the unknowable can feel like walking a tightrope, questioning yourself with every step. Am I being too greedy? Too fearful? What if I get it wrong? Here's how to handle fear and greed to make trading more emotionally manageable. Read more
How to improve your trading bias
While cognitive and behavioural biases often act as barriers to successful trading, a trading bias can be the basis for a sound trading strategy. A trading bias helps traders choose what market they want to trade, what side of the trade to be on, and how long to hold the trade. Read more
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Footnotes:
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1 Lock and Mann, 2003
2 The Art of Execution: How the World's Best Investors Get It Wrong and Still Make Millions, Lee Freeman-Shor (2015)
3 Gollwitzer, 2012
4 Dorn and Huberman, 2003
5 Pastor and Veronesi, 2009
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