Is Fear A Vital Part Of A Successful Trader’s Mindset?

In a previous post I wrote about a trader’s mindset. You have to battle the markets, of which you have no influence and control, but more importantly you have to battle yourself (and obviously you can control that). There are so many ways to lose, but so few ways to win, as Victor Niederhoffer wrote in The Education of A Speculator.

I would call myself a fearful trader. I have a constant fear of losing money. This has cost me a lot of opportunities, but highly likely saved me a lot of losses and stress. But is fear good or bad?

Personally I believe a certain level of fear is crucial to survive as a trader. All the surviving traders I know are more or less like me, but perhaps not as fearful and “paranoid”. Fearful traders protect their capital and “fear” losing it. That should be any traders primary goal. You must protect your capital to survive and get experience. By getting experience it’s also much easier to survive in the future.

Having too much confidence, overconfidence, is a traders worst enemy. Niederhoffer keeps a picture of the “unsinkable” Titanic in his office to keep him humble (he still managed to “blow up” twice). The bottom line is that a fearful trader will always protect his capital. A fearful trader might not make the most money, but he will be around for a long time.

However, too much fear has its downsides: one is, as mentioned, missed opportunities. Perhaps a bigger drawback might be getting shaken out of positions that eventually turns into big winners. Trading involves finding the balance between fear and guts. It’s not easy, and only experience can teach you this.

How does my fear affect my trading?

1.I double check all that can go wrong. I believe in Murphy’s law (all that can go wrong will sooner or later go wrong -it’s just a question about time). I do make errors, but this has saved me a lot of money over the years. Unfortunately, trading involves risks that you only learn by trial and error. You possibly can’t understand all the risk before it’s too late. Black swans are inevitable.

2. I try to have as low living costs as possible. One of the reasons I own real estate is because I want to have “passive” income if my trading goes nowhere.

3. I’m not making as much money as I should. I probably could add some risk without being hazardous.

4. I diversify a lot. I invest for the long term in stocks, commodities and real estate. Among all these I diversify strategies.

5. My fear has put me out of great opportunites. Usually after a bad day or bad period things turn around.The best days “always” come after a bad period. To avoid changing exposure due to behavioral biases, make sure you control your losses and know your limits. It’s so easy to give up trading or a strategy at the exact wrong time. The same thing happened in 2007 when I had my biggest loss ever. The very next day was the best trading day ever, but unfortunately my fear made me scale back as much as I possibly could.

6. Always have a plan B. Any day a new regulation can put me out of business. Thus far in my trading career my strategies have become useless due to new regulation. Usually I’m somewhat prepared for this.