Wednesday, November 15, 2006

Is Money The Rationale Or The Motivation For Trading?

Here's an interesting thought experiment: Suppose you find a trading system that made money consistently in all market conditions. It was backtested objectively during independent time periods and handily beat your own trading performance. It also took less risk to obtain these results, with minimal drawdowns. The system's price is quite reasonable. The catch? The system trades four times a year.

Would you obtain the system? Would you trade it? Would you buy it and then try to tweak it in various ways? Would you be able to follow its rules faithfully, or would you convince yourself in the middle of trades to take sure gains or limit losses?

Such a system would not meet the needs of many traders: needs for action, needs to figure out the market on your own, needs to feel like *you* were beating the market. Money is the rationale for trading, but it is not the only motivation. Traders also trade to make themselves feel good, to validate themselves, to avoid a 9-5 job, and so much more.

This is truly the source of most problems with "trading discipline": what we need to do to make money conflicts with the other needs that we impose upon trading.

If we bring a host of unmet emotional needs to the perfect trading method, we will inevitably sabotage that method. A rich and fulfilling life outside of trading might just be the best trading strategy of all.


The Market Speculator said...

Would the hypothetical 4 trades net the same results as making many trades? If those 4 trades are only making 2 point moves, I couldn't justify the position size that would be needed to make a living off of four trades. However, if this hypothetical resulted in the type of gains necessary to make a living, say 20 percent on a $500,000 account, those 4 trades would be just as exciting as 1000 losing trades . . .

Brandon Wilhite said...

Great post!!!

Let me ask you a question: I've decided that the best way for me to approach my trading is as a designer and implementer of trading systems. Why? Because it fits my personality type, psychology, and particular intellectual gifts. It also fulfills a need that I have other than just making money. If my mind isn't always active and exploring, then I can get bored and the results are disastrous to my account! So once I've fully developed a system I continue to trade it until it hits my "dead-switch," which I actually find kind of tedious. But I then allow myself to move on to other creative endeavors, which is much more interesting. Does this seem like a fairly balanced way of meeting my non-monetary needs? From a results perspective, it seems to be working for my trading (bottom line that is:).

D TradeIdeas said...

Now that's a nice post and one of the best ending sentences to a well written thought I've come across in a while. To live, love, and eat right - that's the way to do it.

Anonymous said...

Funny thing. That's what my "black box" does. 3-4 signals a year. My goal was to "simply" beat the SP500 year after year by adjusting the beta of my portfolio during periods of investor optimism or pessimism. Since I work for a living, I can't watch the ticks so this was initially a perfect system for me.

But, I'm not satisfied. I constantly try to create, innovate, and compete with myself to do better. This of course leads to strategies that don't work out as well over time in practice, dragging my performance down.

But I do it anyways. Let me compare it to cycling. If I go out and ride 22 mph for 30 miles, will I be happy tomorrow going out and riding 21.5 mph for the same 30 miles? NOPE. Too ho-hum and boring.

When I think about it, maybe I should scrap all this little stuff, stick to the black box, and get out on the bike more. But the problem is the mental stimulation and "game of chance" thing.

Brett Steenbarger, Ph.D. said...

That's a very good point. I do think that many traders would not be as excited by trading 4 times a year with a 20% return as you and I might be. It's also true, however, that many traders are driven to trade frequently simply because they have small account sizes and need to swing considerable leverage. Thanks for your observation--


Brett Steenbarger, Ph.D. said...

Hi BW,

That's an excellent example of fitting your trading to your personality rather than the reverse. I know traders like yourself who greatly benefit from the intellectual and creative challenge of system development and who would die from the neck up as full-time scalpers. A great formula for success in trading is finding what you love and are good at and then figure out a way to extend that to the markets. Thanks for the note--


Brett Steenbarger, Ph.D. said...

Hi David,

Thanks for the comment. Trading is much, much easier when you don't *need* the income and when you have many other sources of gratification in life. The natural risk and uncertainty in markets are stressful enough; adding our own pressures makes it difficult indeed to maintain objectivity.


Brett Steenbarger, Ph.D. said...

Hey Muckdog,

Thanks; that's a great example. And I could easily see wanting to push yourself by developing new, non-correlated black boxes to maximize your income and smooth your equity curve. That would be a way to pursue challenge that would be very different from the *need* to trade of the market junkie--and it would capitalize upon your talents.