Trading can be a profitable business, but it comes with its own risks. Inexperienced investors often make trading mistakes that can cost them a lot of hard-earned money such as lack of planning, emotional trading, overtrading, poor risk management, etc.
To help you become a better trader, in this article we will discuss the most common trading mistakes and how to avoid them.
Lack of a trading strategy or plan
One of the most common trading mistakes traders make is having a bad trading strategy. Worse yet, some traders don’t have a trading plan at all. Going into transactions without a clear idea of what you want to achieve can easily lead to confusion and poor decision-making. The most likely outcome then is to lose money.
Therefore, having a well-established trading strategy or plan plays a central role in trading success. A trading plan is used to identify the trader’s objectives, the markets on which he will trade, the time frames on which he will trade and the risk management strategies he will use. Additionally, it helps him determine his precise entry and exit points, the amount of liquidity he is willing to invest, as well as the maximum lsses he is willing to incur.
Some traders are tempted to abandon their strategies after a few bad trades. This is another trading mistake that beginners tend to make.
A solid trading plan is the driving force behind any market movement. Having one or more bad days does not directly mean that the strategy is bad. Many other factors can come into play. For example, it could indicate that markets are not moving in the expected direction during a given period.
This is why sticking to the trading plan, through thick and thin, can often be the best solution (provided you have a good strategy, of course).
How to avoid this
There is only one way to avoid this trading mistake: take the necessary time to develop a solid, well-tested trading strategy before entering the market. When developing this strategy, traders should consider several key elements, including their goals, risk tolerance, tradable markets, and more.
Additionally, a trading plan should also include a set of rules that the trader will follow to execute trades and manage risks (e.g. entry and exit points).
Once the trading plan is in place, traders should review it regularly and modify it if necessary. This will ensure tt the trading plan remains relevant and effective.
Lack of an appropriate risk management strategy
Another common trading mistake traders make is not having a proper risk management strategy in place . Trading is inherently a risky practice, and having a risk management plan is just as important as having a trading plan.
A risk management strategy primarily serves to help traders reduce potential losses, including losing their entire account balance at once (for example, when trading with leverage).
A good risk management strategy should include, among other things, the use of stop-loss and take-profit orders, as well as position sizing. For example, although no-stop-loss trading can sometimes work, it is simply useless and in most cases results in significant losses.
Another widely used risk management technique is the so-called “one percent” rule. According to this rule, traders should never allocate more than 1% of their capital to a single trade. For example, if you have $5,000 in your trading account, the 1% rule implies that you should not place more than $50 on a single trade.
How to avoid this
To avoid losses, traders should have a clear idea of their risk tolerance and set risk limits that they will not exceed.
Stop-loss orders, position sizing, the one percent rule, and portfolio diversification are all reliable risk management techniques that have been around for decades.
As with designing trading strategies, new traders should also spend sufficient time developing a risk management plan and researching the most useful methods before entering the market. This helps minimize losses and protect capital.
