Below we take a look at some of the most common mistakes made by traders than can lead to the erosion of profits or even worse – the loss of investment capital.
#1: Averaging down
Investors sometimes make the mistake of adding to a losing position, not wanting to lock in the loss. This strategy could prove profitable for a long-term investor, but is very dangerous for a shorter-term trader. What usually tends to happen is that the share keeps on falling, and eventually the trader is forced out of the position (in riskier securities like derivatives) or the capital loss becomes immense and your portfolio value declines significantly.
#2: Not doing your homework
New traders are especially guilty of not doing adequate research before implementing a trade. This not only pertains to the behaviour of the share price itself, but also how the current market, pending data releases, or major global announcements can influence the share.
#3: Following the herd
Aware of their limited knowledge or experience, traders new to the market sometimes blindly follow the herd without even knowing exactly why. Their reasoning is that their chance of failure is less if everybody else is doing it. This is true to some degree, but they usually join the trend too late when the share is close to reversing, or stay in the trade too long when seasoned traders have already sold their positions and moved onto the next one.
#4: Not having a strategy
Investors who have been in the market for a long time and have been successful, all have well-defined plans when it comes to their trading. They have set entry and exit points, know the amount of capital they want to use per trade, and have pre-set stop-loss and take-profit levels which they implement and stick to. Beginner traders normally make the mistake of either not having the above, or amending the levels and limits constantly.
#5: Not implementing stop-loss orders
The best tool to ensure longevity in your trading is the use of stop losses. This forces you to stay disciplined, and prevents relatively small losses turning into major losses which can set you back significantly, or even wipe out your capital. Once you’ve set the stop-loss order, do not be tempted to remove it!
For me, the last two mistakes mentioned above are the most important ones to avoid. The key is to follow your strategy consistently – that is the only way to find out if the strategy is successful or not.
Choose a strategy, stay consistent and diligent when implementing it, and assess the results. If it doesn’t turn out to be profitable, move onto another one – it may take some trial and error (stay patient) but eventually you will find one that works for you.
Head of Trading and Portfolio Analyst
Stephan heads up Sharenet’s trading desk and is a full-time trader and portfolio analyst, also responsible for equity research across industries. Stephan developed his passion for the markets while working in the Stockbroking division of Standard Bank and is especially passionate about CFD trading. Stephan studied at the University of Stellenbosch and completed a BComm Honours (Business Management) with a focus in Portfolio Management and Bonds. He has also passed the JSE Equity Trader’s Exam, RE5 (Representative) and RE1 (Key individual) Exams as well as the Registered Persons Exams (RPEs) in order to give advice on equities.