3/24/2008

Trader Psychology

Some thoughts from our business plan on the psychology of trading.

I highly recommend Trading in the Zone by Mark Douglas and Enhancing Trader Performance by Brett Steenbarger.

“We’re trading mob psychology. We’re not trading corn, soybeans, or S & Ps. We’re trading numbers.” Tom Willis

“To follow the good principals and not let fear, greed, and hope interfere with your trading is tough. You’re swimming upstream against human nature.” Richard Dennis

“A trader who trades differentially because of swings in confidence is focusing on his or her own past rather than on current realities.” William Eckhardt

The human brain is a complex instrument with many years of programming implemented well before any security trading takes place. This programming is typically not wired for trading success. We humans wish to avoid pain at all costs and take pleasure whenever we see it. We therefore naturally avoid the “pain” of losses by ignoring them or hoping they reverse and become profit. This leads to disaster quickly. We also seek the pleasure of profit by grabbing it the minute we see any positive results. Delaying gratification is not a natural human instinct and has to be a learned attribute.

These natural impulses must be addressed in order to meet the minimum requirements for successful trading which are, cutting your losses immediately and letting your profits run.

In order to achieve the desired trading results we must use the knowledge we gain from other successful traders, our own good and bad trading experiences, and then build a system that will override our pre programmed money psychology and allow us to trade successfully. With that system in place prior to trading we then have to insure while trading no deviation occurs from the plan. In other words use our brain in the pre trading calm to develop a trading system that we can rely on when we put money at risk and our emotions come into play.

This is the essence of the trading business and our ability to develop and follow such a plan will be the determining factor in the success or failure of the business.

Understanding how we handle stress and our ability to manage the emotions that occur in trading is critical to succeed. Attitude plays an important role in trading as a negative bias will manifest itself in negative results. We must be able to recognize our current state of mind and if unable to “repair” it during the trading day, trading for that day should stop.

“Good moods, while they last, enhance the ability to think flexibly and with more complexity, thus making it easier to find solutions to problems, whether intellectual or interpersonal. This suggests that one way to help someone think through a problem is to tell them a joke. Laughing, like elation, seems to help people think more broadly and associate more freely, noticing relationships that might have eluded them otherwise – a mental skill important not just in creativity, but in recognizing complex relationships and foreseeing the consequences of a given decision”.

Daniel Goleman, Emotional Intelligence

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