Sunday, December 07, 2008

Setting Effective Trading Goals

In my recent post, I described goals as bridges from the real self to our ideals. Research in psychology suggests that goals serve as tools for self-regulation, helping us control and direct our actions toward desired ends. Properly set, goals fulfill several purposes:

1) Motivation - Goals can inspire us to take the efforts needed to improve performance;

2) Learning - When goal-setting is followed by feedback and then by further goal-setting, we create loops that accelerate our learning;

3) Self-Efficacy - When we set challenging, but attainable goals, we build our sense of confidence and competence.

Research has found that goal-setting increases performance in sports and it can similarly enhance trading outcomes. A far-reaching review finds that how goals are set very much impacts their effectiveness. Effective goals must be important to the performer and must inspire commitment. While absolute outcome goals can be inspiring (such as setting a P/L goal for the year), more immediate process goals that pertain to day-to-day trading are most likely to generate feedback, review, and learning.

Among the most important process goals for traders are:

1) Risk management goals - Goals pertaining to trade sizing and drawdowns;

2) Idea generation goals - Goals pertaining to the process of generating sound trading ideas and formulating these into plans;

3) Execution goals - Goals pertaining to implementing trade ideas/plans so as to maximize reward and minimize risk;

4) Position management goals - Goals pertaining to the management of positions once they're entered, including hedging and scaling in/out;

5) Portfolio management goals - Goals pertaining to achieving good diversification among ideas and allocating capital effectively to those ideas;

6) Self-management goals - Goals pertaining to maintaining a constructive mindset for optimal decision-making;

7) Personal, non-trading goals - Goals that reflect desired outcomes in areas of life outside trading that might spill over into trading performance, including physical fitness, relationships, spirituality, etc.

Not all these goals will apply to all traders, but these are the ones I encounter most frequently in my work. Each goal, to be effective, must be grounded in a vision of one's ideals, so that performance can be measured and steps can be taken to address shortcomings. Effective goals are more than good intentions: they are emotional commitments to cultivate the self.