Sunday, June 21, 2009

Social Cognition and Trading: Part Two

The first post in this two-part series made the case that much of thinking is a social process; isolated from the back-and-forth testing and revising of ideas, traders lapse into internal feedback loops that magnify perceptual biases and action tendencies. In other words, many problems of discipline may boil down to problems of isolation--in lesser measure to be sure, but perhaps similar to the cognitive distortions and disordered behavior that occur during prolonged exposure to sensory deprivation.

What brought this to my attention was an experience with a large trader a little while ago. He had been losing significant money, much of which could be attributed to poor money management under conditions of frustration. My work with him, like much of my work in prop environments, took place while he was trading and was highly interactive. This is useful in two respects: it offers immediate feedback as to whether the coaching is helpful or not (P/L is a merciless judge!) and it offers windows into the processes that make the coaching more or less helpful.

With this particular trader, the results were notable. Significant losses, in a short period of time, became significant gains. Because this trader was placing dozens of trades per day and we worked together over many days, it was highly unlikely that the difference in performance was due to chance. Something about the coaching made a meaningful difference, but it was certainly not any grand market insights that I provided. In fact, I limited my discussion with the trader to observations of the trader's trading and occasional observations of the behavior of volume, indicators, sectors, etc.

Nor did I provide what I thought were grand psychological insights; the coaching was not psychotherapy. The discussions simply focused on what the trader was doing that was working and what wasn't effective, interspersed with normal social banter. One trader who observed us shook his head in disbelief. "I've been trying to tell him the same thing for months now!"

I think that was an astute observation. It wasn't so much the content of the communications that was effective as the process: what had been a damaging internal dialogue of losing money, blaming self, becoming frustrated, and wanting to make the money back changed into a constructive social dialogue that was performance and market focused. Under conditions of positive social dialogue, the trader could access his skills at reading markets and executing good trades. Under conditions of negative internal feedback loops, the subtle felt cues of pattern recognition were overwhelmed by emotional upheaval.

The takeaway here is that what we know is at least in part a function of how we interact. In one mode of cognition--isolated from self-correcting feedback from interactions--we lose access to information and lose the ability to recruit skills. In another mode--grounded in constructive dialogue--we suddenly become exemplary performers.

Does this work for all traders? Not at all. There are plenty of traders who have benefited far less dramatically--and sometimes not benefited at all--from work with me. It may well be that traders who are most attuned to the social processing of information (the trader in my example is an extremely social, extroverted individual) will benefit most from interactive coaching. A different trader, one who is more analytical, might gain more benefit from interactions with a statistician or market analyst.

In either case, social interaction can augment traders' cognitive processing styles, enhancing native strengths. This may not require formal coaching; rather, it may simply call for participation in the kind of peer dialogues that bring out the best in oneself. In talking to others, we inevitably hear ourselves and hear reactions to what we say. This, in turn, shifts how we view and respond to situations. It's difficult to have a meltdown when you are sustaining constructive dialogue with a valued colleague.