How to Avoid Overtrading: Key Strategies for Maintaining Discipline and Profitability
To prevent overtrading and reduce associated risks, focusing on three key factors is essential to maintaining discipline and profitability in trading:
1. Position Sizing:
One of the primary causes of overtrading is entering trades with disproportionately large positions. To avoid this, traders must adjust their position sizes based on risk management strategies. These strategies include fixed position sizing, risk-adjusted position sizing, and variable position sizing based on performance. By doing so, the risk of each trade is controlled, preventing overtrading.
2. Establishing Clear Entry and Exit Rules:
Having a well-defined trading strategy with clear rules for entering and exiting trades can help prevent impulsive and unfounded decisions. This includes setting stop-loss levels, take-profit targets, and specific market conditions for trade entry. Traders should avoid entering trades without proper analysis or due to emotional impulses.
3. Emotional Control and Trading Psychology:
Emotions such as fear, greed, or guilt can lead to overtrading or irrational decision-making. Managing emotions and being aware of one’s psychological state through mental exercises or counseling can help prevent overtrading. Mastering emotional control allows traders to stick to their strategy and avoid baseless decisions.
Focusing on these three key factors can help traders avoid overtrading and achieve greater success in the market.
Factors Leading to Overtrading:
Factors such as financial or psychological dissatisfaction, emotional trading, revenge trading, lack of discipline, and reliance on outdated indicators or methods are among the primary causes of overtrading. Below, we present three tools that can permanently address overtrading and help you make the most of this article:
1. How Does a Trading Plan Help Prevent Overtrading?
Your trading plan should be precise and robust enough to ensure the best entries and minimal idle capital. If your trading strategy is profitable and brings peace of mind, your trading plan acts as your roadmap. By adhering to its rules, you can achieve your desired profits and protect your capital.
Following your trading plan filters out almost all trades that could lead to overtrading and prevents you from taking unauthorized risks or entering emotional trades during moments of excitement. Without a plan, emotions like greed, fear, doubt, or revenge can take control.
2. How Does Having a Trading Supervisor Help?
A trading plan essentially acts as a trading supervisor, always by your side to ensure you don’t make mistakes. If you struggle to stick to it, delegate the plan to someone who has the authority to impose financial penalties. If you deviate from your plan, they will fine you.
This step ensures that every action you take is logical and free from harmful emotions, allowing you to make sound decisions. The key is to fear the penalty enough to stay in a safe emotional zone, preventing any consciously incorrect decisions.
What is the Role of Serotonin in Overtrading?
Serotonin is a neurotransmitter in the human body that contributes to feelings of happiness and well-being. It is found in the gastrointestinal and nervous systems and functions similarly to a hormone. Adequate serotonin levels help reduce stress and improve mental and psychological states. When this neurotransmitter is released, stress and negative feelings disappear almost instantly. It also affects sleep, and its deficiency can lead to insomnia.
Where Does Serotonin Come From?
What makes you happiest or gives you a good feeling? Whenever this happens, serotonin is released, and the smallest sign of this is the smile on your face. If you’re familiar with hormones like cortisol and dopamine, serotonin deserves a place on that list. Interestingly, serotonin is also secreted in animals and insects, affecting their behavior. Understanding how this neurotransmitter works and its impact on decision-making can aid your growth as a trader.
When a trader identifies a good opportunity based on their strategy and reaches their profit target, they feel satisfaction and contentment. This feeling of happiness comes from serotonin release. Each successful trade acts like a serotonin pill, which can be dangerous if over-relied upon.
Why Shouldn’t We Get Our Serotonin from the Market?
Imagine you believe you’re on a winning streak and have made three profitable trades in a row. The excitement and happiness from this success push you to take more trades and chase higher profits. The problem begins when the trader unknowingly closes all other avenues for serotonin production in their body, seeing the market as the only source of happiness.
The brain needs serotonin for survival and to prevent depression. Immediately after a successful trade, it "hooks" you to the chart. You might not realize it at the time, but when your mind sees the only way to obtain serotonin as more trades, you no longer trade based on your plan or financial logic. At this point, your sole goal becomes:
Regaining serotonin through more trades.
The result of such trades is severe financial and psychological damage. After the price moves against your expectations, serotonin levels drop to their lowest, replaced by cortisol, leaving you stressed, anxious, and depressed.
