Investing Psychology and Why It’s Important
"Winners think differently. It is not a matter of how much knowledge you possess, although knowledge is essential. It is not a matter of how much you work, even yet nothing worthwhile can be accomplished without much effort. It is not the amount of experience you have, even though you cannot become an experienced operator without having some. The true difference between winners and losers is how winners think." These are the thoughts of Colin Nicholson in his book “Building Wealth in the Stock Market.”
Read the comprehensive FXOpen guide to investing psychology to learn how to deal with emotions to avoid bad decisions.
Talking about investors, we mean investors and traders, even though these terms aren’t entirely interchangeable. Still, they relate to people who make financial decisions.
What Is Investing Psychology?
Investment psychology, often known as behavioural finance, is the study of human behaviour in the financial markets. It integrates behavioural economics and psychology insights to examine why investors behave irrationally, even when they have the information and tools necessary for making optimal decisions.
When you have a firm grasp on the mental side of investing, you are more equipped to spot the signs of any underlying psychological biases. It can also aid in avoiding these biases and making educated, thoughtful choices.
The Role of Emotions
Neoclassical economics considers humans "rational" regardless of external and internal influences. However, behavioural finance seeks to understand people's financial decisions and emotions. The latter can make you act irrationally, hurting your portfolio and experience.
Even if they don't admit it, most investors and traders are influenced by emotions. Uncontrolled emotions can create a loop of acts and reactions, especially in highly volatile markets. The most common trader mistakes include:
- Changing exit points after opening a trade;
- Adding more funds, trying to fight the market;
- Opening a trade just because someone said it’s time.
Such decisions are made based on emotions, not rational thinking. Therefore, understanding the investor psychology cycle is important.
One Thing that is helpful
Individuals ask themselves, "How to be a successful investor or trader?" Experience is the answer. With experience, investors and traders learn how to control their emotions and behave rationally. Emotions may affect positions regardless of whether you implement stock, crypto*, commodities, and Forex trading. Moreover, the psychology of markets varies. Therefore, traders and investors need to learn and practise a lot to get familiar with their unique features.
How to Take Advantage of Human Psychology When Investing
Although it’s impossible to get rid of emotions, it’s possible to control them. Some techniques may help you deal with emotions.
Comprehensive Research
Spending some time on research will pay dividends in the form of smarter investment decisions. You can learn from webinars and videos, read tutorials, and practise. Having more information at your disposal may help you deal with your anxieties and make reasonable decisions.
A Well-Developed Plan
A developed plan is one of the secrets to investing stability. It may reduce the risks of emotional decisions. Therefore, many traders and investors start with developing a comprehensive trading plan and stick to it, especially if they have just entered the market. The TickTrader platform may be helpful in developing a plan.
Flexibility
Markets are highly volatile. Therefore, some of the keys to success include being flexible, closing losing positions, and dealing with different assets to hedge and diversify a portfolio. Investors and traders should be ready for experiments.
Patience
Traders and investors should be patient. Don't expect to make a fortune overnight; be ready for mistakes. It may take time to learn, consider various options, and organise a particular approach. Investing and trading require lots of time for learning, practising, and waiting for results.
Acceptance
It's been said that it's preferable to miss out on a chance than to let money go to waste. It may sound wrong for some traders but unwillingness to miss a potential reward often leads to bad decisions. A trader should strengthen their technique and then carry on. When asked about their most profitable investment, most seasoned financiers will tell you that they got out of a losing deal early on.
The Bottom Line
Psychology is a vital but frequently overlooked aspect of investing and trading. Emotions determine what position you will open. Therefore, it’s worth learning how to keep your head cool. One of the ways is practising. You may use a free demo account for this purpose. If you have mastered your investment psychology skills, you may be interested in trying real trading on a live account.
*At FXOpen UK, Cryptocurrency CFDs are only available for trading by those clients categorised as Professional clients under FCA Rules. They are not available for trading by Retail clients.