Jim is a novice trader who has hit upon a winning streak. He can’t seem to lose. Every trade he makes is a winner. He naturally starts thinking, “I’m a natural-born trader. I’m omnipotent. I’m invincible.” Jim may have a problem. He’s starting to get a big head, and when a trader becomes overconfident, especially a novice trader, it usually spells disaster. It is vital for long-term survival that you avoid becoming too overconfident.
Depending on the context, overconfidence can be a virtue or a vice. There are times when it doesn’t hurt to be a little overconfident. There are those times when everything seems to click, times when they are running hot, making trade after winning trade. Getting yourself psyched up during these times can be helpful. It is essential that you take extra steps to capitalize on ideal market conditions. The extra bit of confidence helps.
There’s a downside to overconfidence, however, especially for the novice trader. Overconfident novice traders tend to trade beyond their trading skills. They may hit upon a winning streak, but they may not have enough experience to trade with discipline through the streak. That’s all right as long as risk is managed, and a detailed trading plan is used for each trade. But many novice traders start to think they can abandon risk limits and trade by the seat of their pants. The problem is that the streak eventually ends, and may set off a downward spiral. A losing trade happens, then another, and so on until one’s account balance is almost wiped out. The overconfident trader is unlikely to see the end coming, and because the risk is not managed, losses may mount rapidly. In this case, overconfidence can lead to disaster.
There are many natural reasons for people to trade with an overconfident attitude. There’s a human tendency to believe that all your success is due to your efforts and abilities. This tendency is so powerful that many times we believe that we have more control of our trades than we actually do. We like to feel good about our wins, but sometimes it goes too far. There are adverse influences that can go against our trades. Market conditions can change or unexpected world events can thwart our trading plans. It is vital to find a balance between real, genuine confidence and feelings of arrogant, omnipotence that merely enhances our self-esteem. Without proper precautions, you can easily end up blown out.
Don’t let a swelled head get the better of you. Take proper precautions, stay humble, and trade calmly and realistically. If you can control your overconfidence, you’ll trade more profitably in the long run.