Why new traders in the stock market lose money and why they never recover from losses.
After the pandemic hit, a lot of Indians discovered the power of the stock market. Many started their first investments, and a lot of us discovered trading in the derivatives market and how much money could be made there compared to old school investing.
You might have heard that trading derivatives is risky. You might have heard that 95% of retail traders in India lose money. This is absolutely true and this fact has made trading options synonymous with loss making. Let’s explore why this statistic still remains true to this day.
How to invest in stock Market for beginners
- Lack of knowledge
I would say this is one of the biggest reasons traders fail. The experts in the financial services industry make trading look complex, mysterious and only for those who are wise and highly educated.
With little to no experience, new retail traders don’t know where to educate themselves. More often than not retail traders don’t educate themselves enough or join a class taught by these experts where technical analysis is taught which as traders come to know is useless as they start trading.
The next option is to self educate. The reality is self-education requires both commitment and work. With a ton of information available online new traders don’t know where to start and are often lost and complicate things.
An educated trader, however, understands the importance of developing a profitable trading plan. how to analyse a stock to know why they are buying and selling, and how they will manage the trade. More importantly, they also implement strong money management rules, such as a stop-loss and position sizing to ensure they minimize their investment risk and maximize profits.
2. Unrealistic expectation about trading the stock market.
A lot of new traders get lured into trading after they see some trader posting huge profits on social media. They carry these expectations when they start trading, and wont let go of any positions until they achieve this high return. This ultimately turns out to be a loss making formula.
In reality these huge profits are more of an exception than the normal. Every trader from time to time hits a jackpot and that jackpot should be treated as such.
Making losses is part of the game and new traders fail to understand this early on. Humans by nature are loss averse, for example we feel more pain losing ₹1000 than gaining the same amount. Treating losses and gains as equals and having realistic expectations tends to make money consistently.
Most people assume professional traders win up to 80% of their trades, which isn’t so. Professional forex, futures and stock traders have only learned to harness the power of risk to reward ratio. Which means they only have to win about 30% to 40% of their trades. They have come to understand the power of risk to reward ratio, and they now know that they don’t have to win every time to make money, they just have to ensure that their wins offset the losses by a substantial margin.
You also need to realize that you don’t have to be right all the time to make profit. It is okay to be wrong more than you are right, but you need to master the risk to reward ratio and how it works perfectly.
3. Trading Psychology
Learning to trade is the easy part; the hard part is understanding your psychology. If lack of knowledge is the main reason most traders fail, then psychology comes in a close second.
A trader’s attitude or psychology determines not only how they approach their trading, it also determines how they will approach the stock market. The emotions of fear and greed drive traders and investors alike, and without the correct education these emotions are often amplified, which leads to costly mistakes.
A rule based trading system will take emotions out of the equation when trading. Trading on gut feeling seldom plays out in the market. While this is easier said than done, it takes time to master your mind. While good profits can make you overconfident, losses may have the exact opposite effect. Keeping a level head in these situations is critical if you want to be successful while trading.
4. Taking on leverage and over trading.
New traders like the idea where you can earn extraordinary returns while having small capital. They take advantage of leverage that is available and take trades that is way bigger than their capital. While such gains are possible, the probability of those trades playing out in your favour is very less.
The downside to this is you can incur extraordinary losses as well. When this happens, many new traders tend to engage in Revenge Trading. Revenge trading is when a trader enters into positions to win back losses by taking as much trades as possible. This can have devastating consequences and possibly wipe out your account.
Sometimes the markets can be indecisive, or you cannot make sense of the markets. These are the times you should just sit back and watch what happens. Traders take trades sometimes just because of that compulsion to trade everyday. Not taking a trade is also a trade and every new trader should embrace this idea.
5. Treating trading as a business
If you are starting your business, the goal is to be able to maintain a level of consistent profitability, and you don’t just start and hope for the best. You make plans and future projections; trading should be treated in this exact way. Entrepreneurs have to come up with solid business plans, unique problem-solving abilities, look for team members that can fit into the team and increase productivity, but trading is a one-man show, and it is easy to forget the preparatory stage, and that would be diving in head first.
It is effortless to start forex, futures and stock trading. You need to set up accounts and fund it, and just like that, you can begin. A few smart traders go through the preparatory phase and plan for success. They are prepared for long-term success and to be real entrepreneurs.
If you want to be successful trading the market, your first step is to treat it like the business it is! Not as just a means to money.
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