Trading Psychology 101: Eight Ways to Avoid Emotional Trading

It doesn’t seem to matter how often people are told to take the emotion out of trading. Whether it is stocks or stock options, there still seems to be an overwhelming number of people who let their emotions rule.

There is nothing inherently wrong with emotions. They are part of what makes humans, well, human. It’s just that emotions need to be contained and controlled, especially in situations where the greater need is to make rational decisions, such as buying a car or a home or investing in the stock market.

Simple Truths About Emotions and Options Trading Strategies

A South Carolina preacher (who chooses to remain anonymous) wisely teaches:

Never love something that can’t love you back.”

When you love something, you make an emotional investment in it. When you invest in something, you hope to get a return in kind on your investment. That is a good reason not to love a car, a home, a business, or anything else inanimate. It is not going to love you back. To become enamored with inanimate entities is simply not rational.

The more renowned Warren Buffet offers this similar advice:

“Only when you combine sound intellect with emotional discipline do you get rational behavior.”

Putting Truth Into Action as an Options Trading Strategy

Rule #1 – Know what you are doing. Study everything you can get your hands on that makes sense about how stocks fluctuate and why they do. Study the companies in which you are considering putting your investments. Know what they do. Understand their market strategy. Do your own SWOT analysis of those companies. Based on their strengths, weaknesses, opportunities, and threats, would it make sense to invest in them? Warren Buffet would call this creating a “sound intellect.”

Rule #2 – Know why you are doing what you are doing. Many would say, “Have a plan.” It may be trite, but it is true, “Fail to plan – plan to fail.” If you don’t understand why you are investing what you are investing where and when you are investing it, you don’t have a plan. If you don’t have a plan, Warren Buffet would say that you lack emotional discipline. It is the plan that provides the discipline.

Rule #3 – Ignore the stock market. You are not investing in the stock market. You are investing in a company. Your return on investment is not based on the Dow Jones Industrial Average or any other index or exchange. Stay focused on the companies in which you choose to invest. It is possible for the market at large to tumble, yet your investments succeed or at least hold steady. It happens all the time.

Rule #4 – Focus on earnings. Unless you are an angel investor or have a regular seat on Shark Tank, you have no reason to invest in a company that is not profitable right now. Remember that when you purchase stock, whether directly or through options trading strategies, you are gaining equity in that company.

Rule #5 – Have no fear. There is no such thing as an investment without a relative risk. Your plan should include an assessment of your risk tolerance, i.e., how much you can afford to lose if you make a bad decision. If you adopt the first four rules, you should have no reason to invest (or not) based on the emotion of fear.

Rule #5 – Don’t get greedy. Be judicious. Just because you struck gold once does not mean that you will again. In fact, it has no bearing whatsoever on the future. Pride can ruin a plan like poison can kill a rat. When you do make some satisfying gains, congratulate yourself on having made a wise decision based on a sound plan, then work your plan again. It may not result in the same decision the next time. The greedy typically go with their last good decision while forsaking the fundamental plan.

Rule #5 – Don’t get overconfident. You haven’t found the secret to successful investing. Truth be told, neither has anyone else. Continue to stay focused. You may need to assess or even revise your plan from time to time, but always do so by including lessons learned in your revisions and planning with humility, regardless of your level of success.

Rule #6 – Don’t fall in love. Remember what the preacher says. If you fall in love with an investment, it may eventually disappoint. Never stop reviewing your investments objectively. Times change. Conditions change. Successful companies adjust to prepare for and keep abreast of change. It’s as true in the stock market as it is in life. You only hurt the ones you love. That being true, you are only hurt by the ones you love.

Rule #7 – Don’t get angry. If you have a good plan and make informed, wise decisions, this is unlikely to happen, but it could. Your move didn’t pay off the way you had hoped. Accept it and move on. Adjust your plan if it is the root cause of the failure, but don’t use the plan as your scapegoat. You will set yourself up to get emotionally involved in your next trade.

Rule #8 – Seek expert advice. Not everyone who claims to be an expert actually is. Do your homework. Listen only to what makes sense. Test drive before you buy. That’s why we offer people like you the opportunity to try us risk-free.

Click on the button and learn how we can help you to build an options trading strategy that makes sense and that makes money.