Fear is an unpleasant emotion caused by the belief that there is danger that is likely to cause pain, or a threat. In trading, this can be a financial threat of loss or mental fear based on the ego. The fear is based on the belief in the probability of a future event happening.
There are five primary types of fear that occur in trading.
- Fear of being wrong about a trade is ego based.
- Fear of losing trading capital in a trade, a drawdown, or complete ruin is financially based.
- Fear of missing out (FOMO) on a big winning trade is loss aversion.
- Fear of exiting a trade too early and missing a big win is also loss aversion.
- Fear of pain is the imagination of a negative outcome in the future.
Real fear is a natural defense mechanism to protect you from danger. However, the mind can use the imagination to create internal fears with little basis at times. The key is knowing whether you are in danger or just believe you are. Fear can arise as worrying about the ego. It can be a fear of losing money. Fear is usually a product of the imagination about what could happen in the future. Fear of missing profits or fear of not holding on to what you have is a form of loss aversion. There are many types of fear and various origins. The mind must be managed to identify them as they arise and decide if the fear is a messenger or a distraction.
The Fear of Missing Out is when you are on the sidelines of a chart and are scared that you will miss out on a big profit if you don’t take a position immediately. This is a temptation to break your trading rules and go outside your trading system in search of easy money.
Meaning of FOMO in trading
FOMO is an acronym that stands for the Fear of Missing Out on an opportunity, event, or chance to make money. A primary mental mistake that new traders make are experiencing FOMO that causes them to rush into bad trades near the end of a move on a chart. FOMO can come from the feeling traders have on social media when they see other people saying they made money and create the feeling that they are missing out on trades and profits. In trading and investing FOMO is also the psychological error of seeing a move in a market that you are not in but have a strong desire and want to get into a trend which usually happens too late.
The fear of missing out can make you want to enter a trade outside your trading plan, system, and without a valid signal with the emotional desire to participate in a strong move that you missed out on but is still going on. The fear is that you will completely miss out on a big profitable opportunity, so you decide “Better late than never!” and this is almost always a mental error. FOMO usually leads to chasing a chart near the end of the opportunity and leaving you with a loss.
How to deal with FOMO in trading
The best way to combat FOMO is to believe that a current opportunity is just one of next 100 you will have in the future and all you must do is wait for the next one. FOMO usually arises as the risk/reward ratio is no longer favorable for an entry on an existing trend and can be an inverse psychological indicator for not getting into a trade.
A trader should also focus on their own watchlist and strategy and not be tempted to break their own system to start gambling on charts outside the parameters of their own quantified edge. The fear of missing opportunity is one of greed and temptation to gamble in the hopes of easy money.
A trader should also stay inside their time frame and avoid the temptation to gamble. Running your trading like a business requires you to operate your system not chase random bets. You should be afraid of breaking your trading discipline, not afraid you aren’t chasing enough charts.
One trade should never have much meaning to a trader that thinks about the big picture and long-term trading success. Focus is a good antidote for fear. The value of an opportunity is found in the timing and if your entry is too late what appears to be a blessing can quickly become a curse.
Temptation, jealousy, and greed are all emotional signals triggered by FOMO and the cure for them is discipline and focus on your own system and edge. Too many traders can drown in losses chasing rainbows that turn quickly into waterfalls.
FOMO can be expensive.
How to remove emotions from trading
You can’t remove emotions from the human experience of trading but you can remove them from the actions you take in the markets with entries, exits, and position sizing.
The primary cause of emotions in trading is the perception of danger in the markets and the triggering of the fight or flight mode. Adrenaline is released to increase your heart rate, elevate your blood pressure and boosts energy supplies. Cortisol, the primary stress hormone, increases available sugar in your bloodstream, this optimizes your brain’s use of glucose and increases access to substances that repair tissues. Your body creates alertness and energy to either fight the danger with strength or flee from it quickly with speed.[1]
All this readiness to rumble or run can wreak havoc on the physiology needed to stay calm and focused on your trading system execution. Volatility in price action, trading too big, and losing money can all be correlated to cause incredible stress and the activation of the fight or flight mode.
The solution to most problems with trading psychology is knowing your system’s expectancy so losing streaks are not a surprise. Proper position sizing so big losses are removed from possible outcomes. Accepting small losses as part of the trading process helps decrease their emotional impact.
It’s better to be in cash and wish you were in a trade than to be in a trade and wish you were not.
This article is from the chapter on fear in my newest book Complete Guide to Trading Psychology.