Optimism bias is a behavioural bias that may cause a trader to believe that he is actually less prone to any negative occurrences in the market than other traders in the market. This can often lead to one feeling `special' often with
disastrous consequences as more weight is given to information that suggest a desired outcome and being bias or skewing away from information that portrays a unfavourable scenario.
Like confirmation bias it is fuelled by human nature which tends to favour optimism over realism since we would want to see the attainment of goals that we had set ourselves on and thus like to see things on the brighter side. Optimism bias is caused by the fact that investor feels overly confident that nothing can ever go wrong. It is often exhibited in forex trading in a situation where a trader expects an event to favour him more than other people or expects the effects of an event in the market to affect him less or more than other people. This type of bias often leads one to feel that the future will be better than the past. In forex trading, optimism bias can often lead to one making unnecessary risks with the belief that the benefits reaped will be much higher. However he ends up trading too frequently and in increasing amounts, ultimately the risk becomes too great and when a single bad trade occurs, he ends up suffering a substantial loss.
To see whether one shows any signs of exhibiting optimism bias, he needs to ask himself whether he has ever placed bets on trades higher than he normally would have done just because he feels that this particular trade is going to be successful and if so, start taking corrective actions against it.
Though being optimistic is always a positive trait, basing your decisions more on reality and less on what you think can and cannot happen can help eliminate the risk posed by optimism bias in the forex market. It is hard to overcome optimism bias as it has been proven that by consciously trying to eliminate it, one might become even more optimistically biased. Perhaps the best way to mitigate the effects of it in forex trading is to start abiding by a stringent set of self-imposed risk-management dos and don'ts. It should encompass limiting the number of trades allowed at any one time, the trade margin band allowed and the amount of money one is prepared to lose on a single trade before stopping and re-considering his options. By following these set of rules, one is able to diversify his risk and hence minimising the potential undesirable effects brought about by optimism bias.
Find out more about trading psychology and learn how forex trading success can be more about your mindset and less about the markets.
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