10 Trading Pitfalls and How to Avoid Them

This column was originally published on RealMoney on Feb. 7, 2008 at 11:59 a.m. EDT. It's being republished as a bonus for TheStreet.com readers. For more information about subscribing to RealMoney, please click here.

Nobody's perfect. Even the most successful traders do the dumbest things every single day the market is open for business. We can't lose sleep about these gaffes, slip-ups and blunders, because imperfection goes with the territory. However, it's our responsibility to take remedial action so these costly mistakes don't overwhelm our profits.

Simply stated, the most urgent task of risk management is to save us from ourselves whenever we screw up. The trading game demands instant decision-making in a fast-moving, real time environment. As a result, there's often little opportunity to consider the consequences of our ill-advised actions until after the fact.

New traders think they'll wake up one day and stop making rookie errors. But that isn't going to happen, because the market gauntlet forces us to deal with the twin emotions of greed and fear. These potent forces have tremendous power to blind us poor humans. But, at the least, we can mitigate their influence and keep it from undermining our efforts.

In that regard, here are 10 ways that traders screw up on the line of fire and 10 ways you can minimize their impact to your bottom line.

1. Bad timing:You sit on your hands, watching a big rally or selloff . You want in, but you're too scared to act. Finally, the fear of missing out overcomes your better judgment, and you jump in. The move stops dead cold as soon as you enter the market, and you're left holding the bag.

Hint: You'll never have enough information to act. Look at the technicals , trust your instincts, and pull the darn trigger before it's too late.

2. Overtrading:You want to be a big player, so you margin up on every position (see margin account ), thinking you're headed for huge profits, Instead, the losses mount quickly, and you get into a heap of trouble.

Hint: Every position has a right size. Never trade over that amount, and forget about using margin until you establish a long track record of profitable trades.

3. Listening to experts: I get angry mails whenever one of my recommendations goes the other way. Guess what -- you shot yourself in the foot if you listened to me, because you let someone else tell you what to buy or sell.

Hint: Make your own decisions, and take responsibility for your own actions. Anything else is just a cop-out (see "Take Responsibility for Your Stock Losses " and "How to Manage Investment Advice").

4. Emotional reactions: The pleasure of profits makes you feel like a gunslinger, while the pain of losses hurls you into a black hole of despair. In both cases, you lose the control you need to survive as a trader.

Hint: Get trading emotions under control by taking positive action in all your other activities of life, such as health, family and financial stability. That will clear your head and keep you frosty as an ice cube during the market day (see "10 Ways to Build Trading Discipline").

5. Powerlessness: I have a bad habit of pulling good trades off the table just a few minutes before they make a big move in my favor. Apparently my subconscious mind sees the profit I'm about to make and decides I don't really need it.

Hint: Tell your subconscious mind to shut up and get out of the way. Do that affirmation a thousand times, and it will start to obey like a housebroken puppy.

6. The big picture: The financial world is a scary place with a death-dealing crash lurking around every corner and under every rock, so you trade it that way and lose a fortune. Guess what -- you're confusing macro economic events with micro stock plays.