Managing your money and personal cash flow is crucial for financial success since most of us don't win the lottery and have a lifetime stream of income coming every week or month. We work hard for our money and want to make the most of it. When it comes to handling money, most of us aren't as rational and logical as we'd like to be. Trying to lose weight, we know we need to eat less and exercise more, but very often people can't bring themselves do it. A similar thing happens with the money. We know what to do, where to invest, but fail to see all the traps on the road.
We merely need to understand the most typical financial/psychological traps, then shift the way we make confident investing and purchasing decisions. What I have learnt over time is that the wealthy think and function differently in regard to finance and spending. So the key to making better financial decisions starts with identifying the most common problems. Below, you will find a list of trading traps you should avoid.
Exclusively Trading on Demo Account
Have you ever made bigger profits on a Demo account? Well, you have probably become a virtual millionaire. After making consistent profits on your Demo account for 3-6 months, open up a mini trading account with a small amount of money you can afford to lose. You need to make sure you can handle the psychological pressure of trading real money before you start thinking about investing more considerable amounts of capital.
Trapped by a Dead Cat Bounce
Traders use this phrase, and it perfectly fits into the article as from my experience, traders fall into this trap very often. Dead cat bounce is a short-lived rally in the price after a sizeable bearish move or downtrend that is ultimately followed by another massive drop in the price. It usually happens in volatile markets. This pattern occurs when traders pick the wrong momentum move. They are caught by surprise and start to panic. When fear overwhelms a trader's mind, then it is usually too late for the reality check. It is essential that traders identify this pattern before they opt for a trade.
Leveraging Too Much
Excessive leverage is one of the ways to turn winning situations into a loss over the long run. Risking anything greater than 5% of your account on any one trade is your financial suicide. Leverage can be a wonderful drug when a trade moves in your direction, but it is a deadly poison when the market goes against you.
This is an unethical practice, where:
- a broker or advisor has a financial interest in a particular investment and fails to disclose that interest; and
- then advises others on a large scale to also purchase that investment through a recommendation; and
- with an underlying intention to profit by selling a portion or their entire interest in that investment.
This happens mostly to stock traders, but it can happen to Forex traders as well.
Usually, HFTs (High Frequency Traders) try to front-run their rival traders. By using a special software, an HFT trader is able to detect orders from other traders, then jump in front of that trade. CNBCquotes front-running as, "...traders who use lightning-quick computer program – high-frequency trading – to detect orders from rival traders, then jump in front of that trade; with the effect that the rival has to buy at a higher cost and the value of the front-runner's purchase goes higher".
Choosing The Wrong Trading Buddy or a Business Partner
This mistake has cost me thousands of euros over the years. It also took a toll on different business relationships. If you assume that picking a trading buddy/business partner is similar to making an important hiring decision, then you are wrong. If you make a bad hire, you can let that person go. However, if you build your business around the wrong person, then your finances, reputation, and health can suffer significantly. Choosing a trading buddy is one of the biggest business decisions you can make... and a common money trap.
I have been trying to avoid all the traps for years now. In the video below, I share my experience, by showing a trading system that exploits fakeouts that are essentially money traps for traders.
If caught in a money trap, what would you do? Let me know your thoughts in the comments section below!
Cheers and safe trading,