Online trading has become very popular these days as young people look for alternative sources of income and freedom from their regular 9 till 5 jobs.
While online trading may have been “gamified” (no thanks to social media advertising and online investment gurus) and many young traders think it’s a quick way to gamble and make money, it doesn’t change the fact that there is inherent risk with a casualty count of over 85% of traders losing money.
There are common pitfalls in online trading that traders should avoid irrespective of what market they trade in.
- Choosing a Rogue Broker
Brokers act like middlemen and connect you to the markets. Their integrity would go a long way in defining your trading experience. This doesn’t mean they work for charity but their charges should be on par with other brokers if not lower and they should not mislead you.
There are so many scam brokerages, especially targeting the general public all over the world, but these scams are most common in in Asian & African countries, where the markets are not well regulated, and there is a lack of general awareness regarding such scams.
This is not to say that investors from Europe or UK for example don’t fall for investing scams & rogue brokers. There are regular warnings issued by the FCA UK against scams & clone brokers that are scamming investors in the UK.
To ensure that the broker is legal in your country, they have to be licensed by a regulatory body and must hold a valid license to accept clients. Some brokers can even hold more than one license from different major regulatory bodies in EU, UK, Australia & other regions, which can give additional safety to traders.
Karan from Safe Forex Brokers explains this with an example. If you want to trade CFDs or currencies from the UK, then you must find a FCA licensed UK forex broker to ensure that your funds are safe & you get investor protection. If you are trading via FCA regulated CFD broker, your funds up to £85,000 may be compensated under the Financial Services Compensation Scheme (FSCS), in case the broker goes out of business.
If you are in Europe, the European Union has the European Securities and Markets Authority (ESMA), United Kingdom has the Financial Conduct Authority (FCA), U.S.A. has both the Securities and Exchange Commission (SEC) and the Commodity Futures Trading Commission (CFTC), while Australia has the Australian Securities and Investment Commission (ASIC) etc.
These are just examples of capital market regulatory bodies in some major countries. A broker could hold multiple licenses say from the FCA and ASIC which would make it a lower risk broker.
To check if your broker is legit, go to the relevant regulators website and see if the broker’s name is in the list of licensed brokers usually published by every regulator. It is generally safer to patronize brokers who hold a license from your domestic regulatory body since your local regulator can hold them accountable and it will be easier to retrieve your money should the broker go AWOL.
You could lose all your funds if you patronize unregulated brokers.
- Not Holding your broker accountable
Even though a broker may be licensed, they could still choose to break the fiduciary relationship with their client.
If your broker senses you don’t ask the right questions, they could choose to be shady.
For example, if you are trading CFDs, where almost 70-85% of the retail traders lose, but it is legal in many countries; your CFD broker could be acting as a counter party to your trades. This means they would make a profit when you lose.
Remember that every time you open a trading position, you need to close it by performing an opposite trade. Your broker could choose to be on the opposite side and profit from your loss.
Some brokers also hunt stop loss orders, temporarily driving the price of an asset up or down to trigger a stop order.
You should ask your broker if they are a market maker. Also, regularly check your account statements to verify that everything is in order & the broker is not cheating you.
- Not managing your risk
Online trading carries its own risk especially when you are trading in the forex market where prices always change. However whatever market you trade in, be it currency, equity, commodity etc. you can manage your risk if you understand the risks involved.
One of the major risks is trading using margin. Using margin in your trading to amplify gains can also amplify losses. Most retail traders use margin money, and this can amplify losses.
The risk associated with leverage has even led to major regulators like ASIC making product intervention on leverage that can be offered to relation traders by regulated broker for high-risk instruments like CFDs.
Also, not having a proper reward ratio for the risks would cause traders to lose big. But there are ways to manage your risks, like using a stop loss order.
A stop loss order sets a stop price so once the price of the asset crosses that price, the trader’s position is automatically closed out by triggering a market order at the next available price. By doing this a trader can sleep peacefully knowing that even if the market moves against him, he can’t lose all his capital.
- Being too emotional
Winning and losing are outcomes every trader will have to face whether they like it or not. The problem is human beings don’t like to lose.
Studies have shown that we mourn the loss of an amount of money more than we celebrate the gain of the same amount of money.
A trader needs to prepare his mind, trade with only the amount of money he is comfortable losing and be disciplined enough to take profits when they come and accept losses when they happen.
Some traders engage in averaging a trading position by revenge trading trying to cover up for previous losses but only end up digging a bigger hole for themselves.
A trader’s mindset entering a trading position should be that if he loses a particular amount of money in a trade, he is going to stop and wait till the next day.
He should set a target for the amount of loss he is prepared to accept that day. Once that point is reached, he has to self-regulate, shut down his system and stop trading.
- Falling for Online Investment scams
A plethora of scams exist online and even experienced traders have been caught off guard.
These scams usually emanate from social media with people claiming to be investment experts and forex gurus who have an impressive followership base on social media. They promise unrealistic returns on investment as high as 200% and never talk about the risk involved as required by all regulators.
For example, the most common investment scams in the UK as per FCA are related to forex, binary options, pyramid schemes.
Let’s take example of a forex scam, In this, the scammer could offer to manage your trading account if you give them the password or they could ask you to send the money to their own trading account so they trade and share the profit with you. Once you part with cash they may pay your returns initially to encourage you to put in more money.
They normally operate a pyramid scheme where the person on top brings two people to be below him and the two people recruit three people to be below them and so forth. The scammer could deploy an unlicensed forex App on the Appstore and victims download and open accounts and the initial victims go around recruiting new victims to download the same App so the pyramid keeps growing. In the end the funds in all the victims trading account is swept to the scammers account and the victims find out that the App they downloaded was a fake App more like a video game with fake figures.
These pyramid schemes are never regulated by any regulators, but sadly people keep patronizing them with the hope that they could get lucky and make some money before the bubble bursts.
- Poor Cyber Security
Traders should always use strong passwords which should be alphanumeric and contain special characters and the passwords should be changed regularly.
A lot of scammers run advanced scripts to guess passwords and if they gain unauthorized access to your trading account, they immediately link a new account to it, sell any stock you have in the account and wire the money out to hacker-controlled bank accounts.
Traders should also enable two factor authentication (2FA) on their trading Apps. With 2FA, even after entering your password the system still sends a code to your mobile phone which must be inputted to consummate a transaction.
Use website addresses that start with https instead of http or that have a padlock sign in the web address window. Https means “hypertext transfer protocol secure” and information sent via secure browsers will be encrypted.
Traders should also avoid using public Wi-Fi networks whether in parks, hotels, train stations or airports as they are not secure and passwords can be stolen.
Antivirus & Antimalware software is not optional and should be installed and updated regularly on every trading device. We could download malware unknowingly and the antivirus software helps detect the installation of malware.
When installing an App, it may ask for permission to access parts of your phone like contacts, camera etc. Think twice before granting access as an App should have no business asking for access to areas in your phone not related to its core functions.
- Not having a plan
Before you jump right in to trading, you need to jot down every little detail.
Determine your entry and exit points, determine which stock you want to trade, and determine how much you want to trade with.
Also, don’t hang on to losing trades because when the market moves against you it could get worse before it gets better and you could see all your capital wiped out in seconds.
Also, it is important to understand that online trading is very risky & you could lose your entire capital.