I once read in the notes of a champion chess player, that he realized that his competitors often times played the same and he sized up his competition and categorized them. Some players, bears, as he called them, attacked early in the game and could easily be set up to make overly risky moves. Mice, on the other hand, were overly cautious. It took them too long to set up aggressive positions and the best way to defeat them was attack them aggressively from the beginning.

The point is that traders often fall into categories, and they often make the same mistakes over and over. The first step is to know yourself when trading. Today, we will discus various profiles of traders. I hope to help traders uncover their mistakes and irrational tendencies so that they can continue trading well. We will now look at the various profiles. As you read, decide if you share some of these characteristics.

The News Trader

The news trader often buys right after he's heard some hot news on a stock. He may have heard about the company from a friend or worse yet, the company was featured on the front page of the Wall Street Journal. The news trader's decisions are highly colored by press hype and excitement. Often times, the news trader buys right after some hot news and is baffled as the price drops. Few traders are defined by this profile, but most traders are affected by news whether they are willing to admit it or not. Beware of this tendency.

The See Saw Trader

The see saw trader is aptly named because his system changes so often. His expectations, and even strategies are changed by short-term experiences. For example, the see saw trader might enter using an overbought/oversold approach. As he sees the market surge, he cannot wait any longer for oversold conditions, and he buys completely independent of his system. Or, he has decided that he will sell at a 50% gain and then when the stock reaches 20% he fears losing and exits the trade too early. Sure there are times to sell later or earlier than intended, but the see saw trader lets his decision-making become affected by short-term events too often.

The Gambling Trader

The gambling trader is characterized by his tendency to over commit his trading capital to individual trades. It's true that one can earn more by allocating more of the portfolio to each trade, but when losses occur (and they always do) the gambling trader can be wiped out easily. Another trait of the gambling trader is the tendency to over commit to highly correlated investments. For example, the gambling trader might buy 4 gold stocks and take on unnecessary, and inefficient risk. I used to work for one our competitors. In one of my services, I produced 26 profitable trades in a row. The 27th trade was a loss. The problem was the subscribers invested a huge portion of their portfolios into this trade and over 30% of subscribers stopped subscribing to the service. So what really happened? 26 out of 27 is pretty good and perhaps too good because subscribers ended up betting too much on the next trade and because of this over commitment, they lost money and quit the game. This is an excellent example of the gambling trader and how common this trait comes out traders.

Be the Best

The real value of this article is first to show what mistakes we are prone to as traders. The second part is how to deal with these issues. Let's go through them one by one

The News Trader: If you are a news trader, develop a quantifiable and repeatable strategy. Don't use news unless it's part of your system. Here's an example. GM has been losing market share for more than 10 years and the stocks is at its lowest price in over a decade. But, did you know that in the past 2 months, GM is up over 20%? If you would have listened to all the bad news at GM for the past year, you would have never bought it. However, if you have a system that quantifies negative and positive surprises, then use it. Otherwise, this aspect of your trading is more a distraction than anything else.

The See Saw Trader: The best solution for see saw trader tendencies is to set specific targets and to stick to them. There are so many desires that come to surface when trading including: the desire to be right, the desire to be unique, and the desire to sophisticated to name a few. These are the desires that lead to see-saw behavior in trading. These tendencies often lead traders to change their methods for reason that have nothing to do with trading effectiveness. Traders who lean towards these tendencies too often, should develop rigid systems, preferable with the aid of trading software to tell them exactly when to enter and exit. Also, these same traders should keep a daily journal for trading.

The Gambling Trader: No matter what happens, there will be periods where you have 5 trades in a row that work out and 5 trades in a row that don't. Most traders start allocating larger amounts of their portfolio after 5 successful trades. Most traders are not prepared for 5 losing trades in a row. Since both are inevitable, always allocate an equal percentage of your portfolio into all trades. Optimism is important, but it has to be realistic. Understand that there will be drawdowns and prepare for them. Traders with gambling tendencies should invest in industries that are uncorrelated such as airlines and oil stocks. Each react differently to changes in oil prices.

Price Headley is the founder and chief analyst of BigTrends.com.