Why Understanding the Gambler’s Fallacy Can Make You a Better Trader?

Access to trading solutions has increased significantly over the past few years, especially with the exponential growth of technology. Furthermore, the different markets in which people can trade has also grown, thus giving people a wide range of options and potential to make money. Such choices include Forex, Commodities, Stocks, Indices, and let us not forget about Cryptocurrencies. Despite the vast possibilities of tradable assets that seems to lure people in with the promise of hundreds or thousands of dollars a week. There is still one crucial thing that too many novices and sometimes so-called ‘experienced’ traders forget, and honestly, I am surprised that this topic is not covered enough.

I am talking about trading psychology, which on its own, is an enormous sized topic, but I will focus on a niche topic that is critically part of trading psychology, which is the Gambler’s fallacy. The gambler’s fallacy is something rarely mentioned when discussing trading, but I am hoping to provide some insight into why it is essential. This fallacy, which is also commonly known as the Monte Carlo Fallacy, occurs when someone erroneously believes that previous events can influence the outcome of random events.

To understand the gambler’s fallacy a bit more, let me give you an example. The most famous example is one that took place in the Monte Carlo casino in Las Vegas in 1913, where the ball in a particular roulette wheel had fallen on black several times in a row. After witnessing this event, many gamblers felt positive that the next spin on the roulette wheel would undoubtedly result in the ball landing on red. As a result of this erroneous thinking, the gamblers placed their bets on red, and the ball landed on black, much to the dismay of the players. In fact, the ball landed on red after 27 spins of the wheel.

When it comes to trading, the belief that because something has happened in the past, such as price action touching support or resistance and bouncing off it, does not mean this will happen again next time. As a trader, there have been several times when I have placed a trade solely because the price action did not break through support or resistance; this made me think it would not happen again. What happens next? The price smashed through and caused a considerable loss.

The best way to not fall into the trap of the gambler’s fallacy is to base your trading on fundamental as well as technical analysis. However, I would say 90% of traders are not successful in trading because they rely too heavily on technical analysis and completely ignore the fundamentals, which do move markets. Take the approach of trading only when you have reliable information, which deems it safe to do so, not because the price has struck an area of support or resistance more than once.

It is crucial to think like a trader rather than a gambler, but more importantly, you need to ACT like a trader too. Successful traders are the ones that maintain a level head, but also leave emotions at the door and digest information and evidence to support their trading decisions. Maintaining control is one of the many things you need to start doing NOW if you want to be part of that small group of people, we call successful traders.

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