Another common ‘don’t’ that you should take care to avoid is overtrading. The temptation as a forex trader is to see leverage and automatically equate that to pound signs. Your instincts take over and you start to invest your capital left, right and centre, all in heavily leveraged positions that could make you thousands. Unfortunately, this practice is far more reckless than most traders imagine when they’re knee deep in it. Not only do issues of overleveraging arise, but overtrading becomes a concern as traders take more positions and load even more pressure onto their capital resources.
The mindset is simple. Get in as many different positions as you can and reap the rewards when everything goes well. Sadly, as any trader will tell you, things going well can’t always be relied upon, and even the best researched positions and the tightest strategy can and do fail. For this reason, the successful trader needs to be one step ahead in managing his capital and allocating resources in an efficient, risk-minimised way, in order to give longevity.
What is overtrading?
Don’t overtrade. Overtrading is where you trade out too much of your capital, either by taking on too many positions or positions that are unsustainably large. The effects of overtrading going wrong are broadly the same as overleveraging – disaster. If positions that fail have too big an impact on your resources, it can lead to the house of cards effect as other open positions are automatically shut out and the broker’s swallowing up your capital.
Realising when you’re overtrading is something you need to ensure you can do, and not many new traders have the nose for it to begin with. You need to factor in the amount of capital you’re trading with and the percentage daily returns you’re looking to achieve – the point at which you’re trading too heavily depends on a number of variables. Indeed, even individual traders have different thresholds for how much capital they will expose at any time, depending on their risk appetite.
But the best way to think about the balance of your portfolio might be to say ‘factoring in the percentage chance risk of all my current positions failing, am I happy to risk that amount as a proportion of my capital”. This needs you to think about how much capital you’d like going forward as a minimum, how long you feel you need to grow your capital and how much you’d like as a buffer. There is no definitive answer, but remember that where leverage is involved the risks become all the greater.
The best way to avoid overtrading is to realise that playing the forex markets is a marathon, rather than a sprint. Over the short term you’ll have good days and bad days, but long term, assuming you trade sensibly and with some degree of prudence, you will find that it is possible to seriously grow your capital from trading the forex markets.