Brett Steenbarger, PhD, of BrettSteenbarger.com offers a checklist of the ten crucial mental lessons for all traders, both newbies and seasoned professionals to always be mindful of and reflect on before placing a trade.
1) Trading affects psychology as much as psychology affects trading. This was really the motivating factor behind one of my trading books. Many traders experience stress and frustration because they are trading poorly and lack a true edge in the marketplace. Working on your emotions will be of limited help if you are putting your money at risk and don't have enough of an edge.
2) Emotional disruption is present even among the most successful traders. A trading method that produces 60% winners will experience four consecutive losses 2-3% of the time and as much time in flat performance as in an uptrending P/L curve. Strings of events (including losers) occur more often by chance than traders are prepared for.
3) Winning disrupts the trader's emotions as much as losing. We are disrupted when we experience events outside our expectation. The method that is 60% accurate will experience four consecutive winners about 13% of the time. Traders are just as susceptible to overconfidence during profitable runs as underconfidence during strings of losers.
4) Size kills. The surest path toward emotional damage is to trade size that is too large for one's portfolio. We experience P/L in relation to our portfolio value. When we trade too large, we create exaggerated swings of winning and losing, which in turn create exaggerated emotional swings.
5) Training is the path to expertise. Think of every performance field out there—sports, music, chess, acting—and you will find that practice builds skills. Trading, in some ways, is harder than other performance fields because there are no college teams or minor leagues for development. From day one, we're up against the pros. Without training and practice, we will lack the skills to survive such competition.
6) Successful traders possess rich mental maps. All successful trading boils down to pattern recognition and the development of mental maps that help us translate our perceptions of patterns into concrete trading behaviors. Without such mental maps, traders become lost in complexity.
7) Markets change. Patterns of volatility and trending are always shifting, and they change across multiple time frames. Because of this, no single unchanging trading method will be successful across the board for a given market. The successful trader not only masters markets, but masters the changes in those markets.
8) Even the best traders have periods of drawdown. As markets change, the best traders go through a process of relearning. The ones who succeed are the ones who save their money during the good times so that they can financially survive the lean periods.
9) The market you're in counts as much toward performance as your trading method. Some markets are more volatile and trendy than others; some have more distinct patterns than others. Finding the right fit between trader, trading method, and market is key.
10) Execution and trade management count. A surprising degree of long-term trading success comes from getting good prices on entry and exit. The single best predictor of trading failure is when the average P/L of losing trades exceeds the average P/L of winners.