Tuesday, October 21, 2014

How Moods and Motivations Impact Trading Performance

A very interesting summary of research on mood and creativity finds that people are most creative when they are in particular states.  First, when mood is positive, people solve problems more easily and are more likely to think broadly and perceive fresh alternatives.  We are most cognitively flexible when we experience positive vs. negative moods.

Second, when people are moderately energized, they are most likely to engage in complex and creative thinking.  When at low levels of arousal, we don't fully engage the world cognitively; high levels of arousal interfere with reflective thinking.  It is when we are energized in positive ways that we display superior processing speed, focused attention, flexible thinking, and creative response.  

Finally, when we are in "promotion states"--states in which we seek positive outcomes--we are most likely to respond creatively.  In "prevention states", we tend to narrow our cognitive focus and fail to see alternate courses of action.  It is when we seek positive outcomes that our attention broadens and we become most flexible in our response patterns.

If we put together these three conclusions, it is not difficult to see how negative emotional experience adversely impacts trading performance.  When markets are behaving against our expectations and positions are moving against us, that is when we want to be most open, flexible, and creative in our thinking.  Under the influence of negative mood, very high arousal, and prevention-oriented thinking, we become unable to clearly perceive all our alternatives and recruit our most flexible responses.

From this perspective, one of the most important psychological things we can do to improve trading performance is to sustain positive mood, high energy, and clear, constructive goals.  We cannot eliminate the uncertainty of markets or the stresses of drawdowns.  What we can do, however, is balance those pressures with our own positive internal environment, so that stress never turns into distress.  

In an important sense, bad trading results from a failure of creativity:  the inability to think and respond in divergent ways when markets are behaving counter to our expectations.  Maintaining an emotional and cognitive state conducive to broad information processing and flexible thinking helps ensure that we truly respond to markets, and not to our own fears and frustrations.

Further Reading:  Creativity and Finding Your Trading Zone