Overtrading is a common pitfall in stock market trading, typically referring to the excessive buying and selling of securities by a trader. It is characterized by an unusually high frequency of transactions.
Overtrading can occur due to several reasons:
- Impatience: Some traders, especially beginners, may want to see immediate results and start trading excessively.
- Overconfidence: Traders who’ve seen some early success may become overconfident, leading them to trade more frequently than they should.
- Chasing losses: If a trader has lost money, they may start making more trades in an attempt to recover those losses, often taking on high-risk positions.
- FOMO (Fear Of Missing Out): Traders might make more trades than necessary due to the fear of missing out on potential gains.
Overtrading is generally considered detrimental because:
- Increased transaction costs: Each trade carries transaction costs, such as broker commission and spread costs. The more you trade, the more you need to make just to cover these costs.
- Greater risk: Overtrading can lead to less thought-out decisions, resulting in the taking of more risks. The increased number of trades also inherently increases the potential for losses.
- Psychological pressure: Overtrading can lead to stress, clouded judgement, and potentially harmful emotional reactions to short-term market movements.
Strategies to avoid overtrading might include setting strict trading rules, only trading based on clearly defined strategies, and maintaining a disciplined approach to trading (for example, setting stop losses and take profit levels).