April 29, 2011 | In: Opinion
Fear and Greed: The Two Characteristics of Unsuccessful Stock Investors
Investors lose money not because the stock market is bad and not because they’re unlucky (or jinxed, or born under the wrong start), they will lose money when their emotions are either controlled by fear and/or greed.
Let’s start with fear…
Fear in the stock market usually happens when you’re playing with money that not yours or money that you cannot afford to lose. Once an investor is controlled by fear, he loses sight of the basic fundamental of the stock market (it goes up and down, and, on the very long term, it goes up), and starts panicking when he starts losing money on his stocks, until he reaches a point where he lost so much that he decides to sell his stock and probably get out of the market completely. There are thousands of new people who enter the stock market every day, and thousands who get out every day, because they were destroyed by fear. The first lesson that any investor has to learn is to accept loss as part of the game, and maintain high spirits even if his stocks are losing. Fear can be completely avoided by doing the following:
- Trading with money that you can afford to lose (often called risk money)
- Studying the fundamentals (including the technicals) of the stock and the company before buying it
- Buying married puts
- And again, accepting loss as part of the game, and moving forward if you lose money on a stock (think about it this way, if it was guaranteed that people will make money on every stock, then everybody would be trading stocks and nobody will be doing some real, productive work)
I personally did lose money whenever I traded with money that I was afraid to lose. I often panicked, and I sold at a loss.
Greed is another evil vice in the stock trading world. I cannot think of any stock I bought and sold at a loss where I did not make money at one point, and where I thought, hey, let me wait a bit, maybe that stock can go up another 5%, and I will make even more money. Of course, in most cases, the stock gave away its winnings, and lost 5%.
Greed is part of any human’s nature: everyone wants more (and the best) of everything, everyone thinks that if he just waits a bit, maybe he can get a better deal, and while ignoring the good deal that he already had and waiting for the better deal, the person comes to realize that the good deal was actually the best deal, and this is where futile remorse takes place (“I should have sold when I had the chance”).
Here’s how to avoid greed:
- Make a reasonable expectation from the stock (for example, I will be happy with a 2% profit)
- Create a sell on stop condition on your winning stocks if you intend to be a bit greedy. In other words, let your winnings run. As the stock goes up, increase your sell on stop. Get out of the stock when you think that you already made a lot of money.
- Don’t feel regret by selling stocks for a small profit. Remember that there was always a possibility for you to lose money on these stocks.
- Diversify your portfolio.
An investor with no fear and greed will rarely, if ever, lose money on a trade.