Trading Psychology - Learning Market Behavior

By David Repnitskiy

Can anyone become a trader? The answer isn't a "yes" or a "no"; it's a "maybe." By now, you have heard that 90% of traders lose money to the market, and everyone believes that they will end up in the top 10% either break even or come out with a profit. Maybe you will. I have found that most successful traders have one thing in common, they all put in a lot of hard work to earn the title of a professional trader. So, to put your mind at ease, trading is something you are born knowing how to do; it's a skill that can be developed and learned.

• Language: English
• Publisher: Lulu.com
• Release date: Jul 25, 2021
• ISBN: 9781300029052

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Copyright © 2020 by Morning Frost, Inc. All rights reserved worldwide. No part of this publication may be replicated, redistributed, or given away in any form without the prior written consent of the David Repnitskiy or Morning Frost, Inc. or the terms relayed to you herein.

David Repnitskiy, Morning Frost, Inc, Denver, Colorado, 80216.

Limit of Liability/Disclaimer of Warranty: While the publisher and author have used their best efforts in preparing this book, they make no representations or warranties with respect to the accuracy or completeness of the contents of this book and specifically disclaim any implied warranties of merchantability or fitness for a particular purpose. No warranty may be created or extended by sales representatives or written sales materials. The advice and strategies contained herein may not be accurate and has been invented to make a point or explain a concept or situation. The information and examples contained herein may not be suitable for your situation. You should consult with a professional where appropriate. Neither the publisher nor author shall be liable for any loss of profit or any other commercial damages, including but not limited to special, incidental, consequential, or other damages.

ISBN: 978-1-300-02905-2

Table of Contents

Copyright

Preface

Introduction

Chapter 1

Chapter 2

Chapter 3

Chapter 4

Chapter 5

Chapter 6

Chapter 7

Chapter 8

Chapter 9

Chapter 10

Chapter 11

Chapter 12

PREFACE

Can anyone become a trader? The answer isn't a yes or a no; it's a maybe. By now, you have heard that 90% of traders lose money to the market, and everyone believes that they will end up in the top 10% either break even or come out with a profit. Maybe you will. I have found that most successful traders have one thing in common, they all put in a lot of hard work to earn the title of a professional trader. So, to put your mind at ease, trading is something you are born knowing how to do; it's a skill that can be developed and learned. However, it does come easier for some than others. The main reason for this is different backgrounds. For instance, a background in mathematics, chemistry, or psychology may help you learn to become a trader faster. However, there is no specific field that successful traders come from, and usually, one cannot apply most knowledge from other disciplines. Having a professional background may or may not help you. It may even hinder the learning process. What can help you? What many successful traders have in common is they learn to trade on their own and don't follow the crowd. Professional traders didn't get to where they are by coming across a book that told them exactly what to do. They learned the markets on their own through trial and error. The kind of traders that succeed and are on the right path are the ones who possess the skills and knowledge necessary to figure out what to do next. These types of traders are not following the crowd. They don't have someone next to them telling them what to do. They are learning what works and what does not on their own. They discover and classify their own patterns. They build strategies, and they test them. When something isn't working, they try to figure out why? They try and try again. Eventually, these traders will find a way to extract money from the markets consistently. On the other side of the coin, you have traders who need money and are just looking to make a quick buck. They heard that someone, somewhere, made a lot of money trading, and they want to see if they can too. These types of traders can be classified as gamblers. Their idea of work is sorting and testing strategies that others have created. They follow when someone says you should buy or sell something without understanding why. They spend much of their money buying robot traders to trade for them, buying indicators, take strategies out of books,  and usually lose money. They don't want to put in the work that is needed to learn to understand market behavior; they are simply looking for an easy way to get rich or a secondary source of income. These types of traders are without doubt part of the 90% of those who lose money. The hard-working traders are the ones who will succeed, just like any other field. You have to decide now that trading is trully what you want and are willing to put in the necessary effort. It is said that it takes about ten years of experience to become a successful trader, and this is about as long as it took me, although I am still learning every day. Of course, this is a long time, and hopefully, it won't take you as long as it took me. This book is written for the trader who wants to learn to trade and not have to make all the mistakes I have to get there.

INTRODUCTION

If you are like most beginner traders, you jumped into trading, assuming that all the trading material out there and everything that the traders tell you must be true. But, have you ever stopped to think, what if it wasn't true. I have found that much of the information out there isn't true or simply does not work. Suppose that pretenders have decided to become educators and flood the Internet with false information. They say that they've made a lot of money and tell others how they should be trading, but they are unqualified to be giving advice. Maybe they got lucky a few times and managed to make some money and now think they are on top of the world. Maybe they managed to find some kind of information that backs up their claims, but suppose that information is false as well. Or maybe they are simply trying to make money as educators, teaching others information that they don't apply themselves. How would you know what they are saying or their supporting information is true?

While we are considering false information, why not go further than false trading material? When a trusted friend or a family member tells you that you should be going long on a trading instrument because the price of that instrument is going to increase, how do you know what they are telling you is the truth? They obviously have nothing to gain by giving you false information but is that a reason to assume that what they are telling you is true? Maybe they are just as lost as everyone else and tell you to buy to make themselves feel better about their own decision to buy.

No one person nor any book can provide you with all the correct information. Yet no trading book starts by stating, More than half of the information you are about to read is and hasn't been able to make money in the long run. The other half, is information that I heard so many times that I assume must be true and therefore included it in this book. Even the professional traders who have been making money for years discover that their stock value assessment strategy has never worked because almost all of the stocks out there are overvalued. But this doesn't mean that you shouldn't bother reading any of the trading books out there; accurate information is usually followed by reasons and test results that support the claims that are made. As a trader, you need to learn and test the information you read and not simply learn and apply. Then, taking the reasons and the test results, you can decide for yourself if the one giving you the information arrived at the correct conclusions.

If you have been learning to trade for some time now and have been questioning for some time now, why is it that most traders lose money? You may even have found evidence yourself that some of the things you are being told are just plain wrong, mainly because most of the strategies out there simply don't work. You may have heard all sorts of things about trading. You've heard about the different types of indicators and oscillators. You have heard about trading robots and high-frequency algorithms. You have heard about the impact of interest rates and news releases on the markets. You have heard about market manipulation, about markets being efficient, and so on. You have acquired information that you thought was correct but haven't been able to apply it or profit from price fluctuations. You have acquired incorrect information that, when applied, resulted in failure and loss of money. You have acquired information that seems to be true under certain market conditions that may make you money one month and not another when applied. This type of information is usually wrong, as accurate information will make you money consistently. You have acquired information that is vague, such as support and resistance levels that the levels can be identified on every price level and don't guarantee a price reflection. You have acquired information that was intended for investing but was presented to you in a way that can be applied to trading. You have acquired information on popular chart patterns that resemble objects in the real world and what actions to take when they emerge but found that they aren't as reliable as they are claimed to be. You have begun the process of discovering what information is true and which is false. Hopefully, I can open your mind up further so that you are better equipped to evaluate the information that you were given. More equipped to discern truth from fiction that will take you out of the guessing and speculating game and put you into the day trading game.

CHAPTER 1

TRADING, GAMBLING, AND HUMAN PSYCHOLOGY

TRADER VS. GAMBLER

A trading carrier can lead you two different ways; you will either make a lot of money or lose your savings. The first way, traders acquire the mindset of successful trad

ers, base their trading decisions on accurate information, and develop a strategy that they stick to regardless of any distractions. They have a set of rules to follow, and they do not deviate from that plan. A trader with a plan will make money consistently month to month and year to year. The second path that traders find themselves on is closer to gambling than trading. Gambling traders will jump strategies constantly, break the rules in light of new information, and blame someone or something else when they lose. Many traders stay on this path until they have no more money to put into the account. So how do you know if you are a trader or a gambler? The simplest way to find out is to ask yourself, are you losing or making money? If you are losing money, there is a good chance that you are a gambler or trading on information that is wrong or won't benefit you. The markets are like a casino. In a casino, the games are designed so that the casino always wins in the long run. Similarly, what you have learned and the trading ideas that are out there may be designed for traders to lose money. In other words, if you are one of those traders that seems to lose money consistently, it's because instead of learning how to make money, you have learned how to lose money. I will expand more on this later in this book.

TRADING AND GAMBLING

As a trader, you will be making short-term trades. By short-term trades, I mean trades that you hold anywhere from minutes to a couple of days. You will be buying when you think the market is going up, then selling after the market has moved up a decent amount. Similarly, you will be selling when you think the market has run out of upward steam and buying back after it has moved down.

Some people find the concept of making money in the market confusing, so let's clear that now. You cannot buy or sell in the market without someone taking the other end of the trade. Meaning for you to be able to buy at a certain price, someone has to be wanting to sell at that price. Selling works the same way. When you want to sell at a certain price, someone has to want to buy at that price in order for you to be able to take the other end of that trade. Two individuals have to be involved, a buyer and a seller, for an exchange to happen. For you, most likely, the person taking the other side of the trade is usually the broker because it's faster and more efficient. So, when you buy, your broker sells to you, taking the other side of the trade. And when you sell, your broker buys from you, taking the other side of the trade. The way you make money in trading is when the market moves your way. When you're long, and the market moves up. And when you're short, the market moves down. If you were long and the market moves up, your profit is the difference between the two prices. You can now sell back to the broker the same amount of units for more money, pocketing the difference. That's your profit margin. The same goes for when you sell. When the market moves down, you can now buy back from the broker the same amount of units you sold and give it back at a lower cost. Since you are not working with real money, you pocket the difference.

Let's look at it another way, in terms of sticks. There are two sticks, one for when you open and one for when you close. When you open a buy position, let's say the stick's length is the price you bought. Then when the market moves up and you close, the size of the second stick is the price that you closed the position. Now you have two sticks that are different sizes. You put them together, line up the bottoms and break off the long stick to make them the same. The part that you broke off is your profit, the money you made. Now let's look at what happened with the broker. When you closed your position, the broker closed theirs as well. Because the market moved against the broker, his second stick is smaller than the first; that difference is the broker's money. This is fundamental, but traders need to understand how you can buy something or sell something you don't have.

To become a good trader, you need to become a good analyst. You need to look closely and form an understanding of how and why the markets move. Once you understand how the markets move, you'll know when to get in and get out of the market. An understanding of market behavior will come to you through trial and error. It's not something that only a select few can do; it comes from experience. After months or years of losing money, you may find yourself saying that you're not smart enough, but you don't have to be some genius to be a trader. Mathematicians, Engineers, Scientists, and other smart people with PhDs have taken their best shots at the market and couldn't beat it. Being smart is not bad, but keep in mind that depending on the field you work in may help or hinder you from becoming a trader because trading is entirely different. The knowledge you have will influence how you perceive and understand the market. Some of you may already know what I'm getting at; you will have to learn psychology to know how what you currently know is influencing your decisions and perceptions. I'm not saying to get a degree in psychology but learning the basics is a must. Over 90 percent of traders fail at trading, and I believe the reason is that we're human beings. Human beings are full of flaws that make us bad traders, and the study of psychology will help you avoid the traps that most people fall into when they analyze the market and make trading decisions.

Besides helping you not fall into common traps that traders fall into, psychology can help you build a trading strategy. Knowing what traps not to fall into, you will also know the traps others will fall into, and you can use that to your advantage. In addition, you will be able to more or less understand what is going on inside other trader's heads with how the market is moving.

There are several ways to profit from how people's emotional behavior. One way is momentum trading; this is when the market is trending strongly in some direction. People tend to buy simply because the price is going up. All this buying moves the market higher. Then the sellers see that the market is accelerating upward and start closing their positions, pushing the market even higher. Remember that closing a sell position is essentially buying. In momentum trading, your goal is to get into the market as soon as you see this happening, then close with a profit as soon as you can. In a momentum trade, you don't want to be the last one in or the last one out. You want to exit the trade when the market has run out of steam or when buying has slowed down. Momentum trading is an interesting way to trade the market as it goes against what you've been taught to Buy low, and sell high, buying when the market is no longer moving down and selling when the market is no longer moving up. In momentum trading, you're getting on for the ride and getting off before the ride comes to an end.

Trend and counter-trend trading is another way you can make money from understanding human behavior. Trend and counter-trend trading are both based on the idea of buying low and selling high. Trend trading is taking a position with the trend, and counter-trend trading is taking a position against the trend. They are opposite sides of the same coin. Inexperienced traders believe that a higher high indicates an uptrend, and lower lows indicate a downtrend—however, not every higher high or lower low results in the formation of a new trend. Traders often get stopped out when the market moves against them to make a lower low because they are taught to place stop-loss orders at those levels. Additionally, a lower low does not necessarily mean that the trend has ended, as trends often continue after breaking the trend definition rule.