Top 8 Mistakes Traders Commonly Make in Technical Analysis
Whether you’re trading stocks, forex, commodities, or any other asset, technical analysis is the foundation of making informed decisions in the financial markets. While a strong foundation can maximise your chances of long-term success, there also are some common mistakes that can wipe out your trading account. The key is to identify which mistakes you might be making and stop them as quickly as possible. To help you with just this, here are the top 8 trading mistakes you should avoid.
- Using Too Many Indicators
Conducting strong technical analysis doesn’t mean using every indicator you can think of. Each indicator serves a purpose, which is why when you use multiple indicators, you might get conflicting signals that can lead to erroneous trading decisions. So, pick one main indicator, based on your trading strategy and confirm its signal with another one.
Did you know?
The trader community believes that price is the king and volume the queen. You may want to eliminate any indicator that reveals little or redundant insights about these two aspects. Professional traders stick to two or three indicators for every market they trade, which helps them make better trading decisions.
- Not Understanding the Underlying Psychology Behind Technical Analysis
Some traders bypass understanding of the basics of technical analysis before applying the indicators. After all, powerful platforms like MT4/MT5 do all the groundwork for you and hand the signals to you on a platter. But a lack of understanding could lead traders to miss out on key support and resistance levels. This could then result in misinterpretation of the true patterns.
Technical indicators give information about trends, mean reversion, relative strength, volume, and momentum. Knowing the market sentiment and trader psychology driving that momentum or trend adds value to your analysis of the market and can help you better identify opportunities.
- Falling Prey to Psychological Bias
Just like when you are fascinated by a person, you only see the best in them, something similar happens when a trader is razor-focused on a market performing well. As a result, they ignore anomalies, and the market always appears bullish to them. Without objectivity, the risk of making poor trading decisions rises.
For instance, while trying to locate a particular pattern on a candlestick chart, a trader may ignore the colour of the bars and get the signals all wrong. A good way to avoid this is to monitor your actions and spend time practising on a demo account to identify your psychological biases.
- Forgetting the Macroeconomic Influences
One of the most common technical analysis mistakes is to consider price action as the final word. However, market movements are often a cumulative effect of macroeconomic impacts. So, while technical analysis is indispensable for predicting future price moves, understanding the macroeconomic factors that could influence an asset’s price can refine your predictions.
Keeping an eye on the economic calendar, geopolitical developments and seasonality can offer great insights into what technical indicators are pointing towards. Being mindful of the fact that overall market movements impact every asset in some way, is essential to making better trading decisions.
- Overtrading
Jesse Livermore once said, “Money is made by sitting, not trading.” He was probably right. A trader needs to plan, observe, wait for an opportunity, identify one correctly, and then begin trading. This needs patience and discipline. But waiting for a reliable signal patiently can be difficult. This is the time when biases could creep in. Additionally, the waiting period could make you wonder whether you are using too few or the wrong indicators.
Trading just because you are ready, may lead to losses. Rather, wait till an opportunity is confirmed, based on your trading strategy and style. Remember that opportunities will always return but the lost capital may not!
Using larger timeframes could help you avoid overtrading, since it eliminates noise and aids you to enter positions only as often as necessary.
- Revenge Trading
Another common trading mistake is thinking that after a series of losses, you are bound to earn a win. The reality is that regardless of market conditions, the probability of a trade succeeding is not influenced by any of your previous trades.
Trying to compensate for losses by continuing to trade can be a bad idea. Firstly, you might not have recovered from the shock of the loss and could continue with the same bias. Secondly, you have not taken the time to review what went wrong and make changes to your trading strategy accordingly. In the financial markets, hasty and emotional trading decisions tend to lead to losses piling up.
It is better to stay calm, wait till you are mentally prepared, reflect on the trading mistake and then resume trading.
- Becoming Too Attached to Your Strategy
The markets can change rapidly and significantly, and so should your strategy. In fact, while you need to have a strong strategy that you stick to even when tempted to abandon it, your trading strategy cannot be so rigid as to not consider the prevailing market conditions. A strategy that has worked for one asset might not work in another market or even in the same market if the conditions change dramatically. So, keep tweaking your strategies based on the markets and the factors influencing them.
Many traders fall prey to their own lack of flexibility by assuming that the market will behave exactly as it did earlier. Paul Tudor Jones said that he assumed all his positions were wrong and argued against them to identify their potential weaknesses. This helped him gain a comprehensive view of the market and improve his trading.
- Underestimating the Power of Risk Management
Taking simple measures, such as setting stop loss and take profit levels, can significantly improve your trading experience. Analysing your risk appetite and maintaining a comfortable risk-reward ratio can also help you remain calm during unfavourable market conditions. Additionally, while copy trading or following another analyst, make sure your trading goals, risk appetite and trading strategy align with theirs. And always remember that the markets are never risk free and risk management should be a key part of your trading strategy.
To Sum Up
- Use only the necessary indicators
- Understand the purpose and logic behind each indicator
- Do not miss out on the impact of macroeconomic factors
- Accept your losses and spend time learning from them
- Maintain a flexible trading strategy
- Don’t trade when you feel emotional
- Always include risk management measures in your trading strategy.
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