In the stock market, individual investors often end up being their own worst enemy when they repeatedly commit one or several common investment mistakes. Even though the stock market can be a place for building up a portfolio over time, investors are prone to taking missteps, which can eventually diminish their overall returns. Thus, for all the hopeful investors or traders out there, here are ten common stock trading mistakes that are seen in the market.
Lack of a trading plan or investment strategy
Every trader, regardless if one is in it for long-term profits or short-term gains, needs to have an investment strategy or trading plan in place that can serve as a framework for future decisions. A well-planned strategy should take into account a trader’s tolerance for risk, time horizon, amount of investable assets, and planned future contributions. They should have a clear idea about what they want to accomplish and the amount of volatility they are willing to bear from the beginning.
A trading strategy should consist of a checklist of rules that will help the trader in analyzing any potential trade they want to enter. It should answer key questions such as when to get in when to get out, where to put the stop loss and how much money to invest in a single trade. Most importantly, a trading plan should also contain clearly defined rules of when not to get in or get out of the market.
Lack of Timing
Novice traders make common timing mistakes where they may have a good trading idea but ends up buying the stock at an inopportune price. While there are no concrete rules of when timing a trader, traders should always remember that there are times when it may be prudent to cut a loss or lock in a profit.
Lack of proper understanding and implementation of Risk Management
Proper risk management is key for one’s trading success, especially in the stock market. While no one trade will make some trader rich, one losing trade can have devastating consequences for a trader’s account. If one risks 1 to 2% of their entire portfolio on any single trade, he or she risks losing a big chunk of their trading account within a few losing trades.
Incorrectly Placing Stop Orders
Many traders make the mistake of incorrectly placing their stop orders, which can cause their positions to get stopped out too early. It’s a common practice amongst novice traders to place stops according to a set percentage or a set amount. This is, however, discouraged as traders should let the stock’s behavior or standard deviation dictate what their stop placement should be.
Anticipating Profits in Advance
The majority of traders do not take into account a trade that can turn against them. They usually enter the market with the assumption that they will get success in the market. However, trying to anticipate profits beforehand could either directly or indirectly affect one’s trading style and decisions. Traders would find themselves making costly mistakes influenced by greed or other factors. However, the best way to approach the market is with a neutral attitude. The market will give them information on how much profit they will make during the course of their trading.
Not Following Your Own Trading Plan
After you have set your goals and built up your trading plan, never let others influence your plan or whatever decisions you take in the market. Trying to take on other people’s analysis in the stock market can have the opposite effect of making you doubt your own trading decisions. You may end up not following your own trading plan.
Following someone else’s recommendations in the stock market is similar to putting one’s money and future success into someone else’s hands. Apart from the fact that there is no guarantee that the person you are following will continue to deliver profits, every trader has a different approach. Hence their style can clash with your trading strategy or plan, affecting your outcome.
Decision Making Influenced by Tax Avoidance
While it is recommended that stock traders and investors in the stock market should have complete information about the tax implications of their actions, the first objective should always be a sound investment or trading decisions. Some investors allow the value of shares in a well-performing stock to grow so large that it accounts for a huge percentage of their overall portfolio, simply because they do not want to pay a large capital gains tax. Similarly, when it’s time to harvest the profits, they should not be overly concerned with holding on to the stock past the one-year purchase date. Simply to take advantage of the lower capital gains rate.
Blindly Following Mechanical Trading Systems
A significant part of modern traders uses technology to help them refine their trading strategies. These can include online trading platforms and other tools that provide tools for charting, back-testing, and research. It’s true that a software program can provide valuable information about a stock’s fundamental and technical characteristics. However, as a trader, never make the mistake of relying too much on these tools without fully being aware of their capabilities.
Emotion Based Decision Making
Emotions such as anxiousness, excitement, and fear can all prevent a trader from following their trading plan. While trading, emotional decisions can take the form of the following:
- Not taking trades one should
- Taking trades that are detrimental
- Risking more or less money than specified in their plan
- Not getting in or out of the market according to their plan.
Fortunately for traders, there are ways they can desensitize their emotional connection to money. They are advised to trade smaller share sizes such as 100 shares per trade. Trading in smaller quantities will assist in minimizing losses and the emotional distress that comes along with losing large amounts.
Not Knowing Real Tolerance for Risk
There is no such thing as risk-free trading. To determine your appetite for risk, you have to measure the potential impact of a real dollar loss of assets on both your psychology as well as your portfolio. A general rule for those in it for the long-term is to assume more risk in exchange for the possibility of greater rewards. Not knowing your tolerance for risk will end up negatively affecting your trading decisions.
While its common to hear about other people’s success in the stock market, we rarely hear about or are interested in hearing about the losses. Luckily the above list will help novice traders or traders who are stuck in a losing streak to regroup, re-evaluate and avoid making these mistakes.