Saturday, December 02, 2017

Trading Psychology Challenges - 7: Overtrading

Sound trading lies at the intersection of rigorous thought and decisive action.  Without rigorous thought, we trade randomness and fall prey to impulse.  Without decisive action, we betray our best ideas.

Overtrading occurs when we take risk without a clear edge in our trade.  On the surface, this seems like madness.  Why would a rational human being risk their hard-earned capital on an idea without merit?  The answer is that even rational human beings can fall short of consistent rationality.  Under conditions of fear, greed, frustration, and overconfidence, we can act mindlessly--in ways we would never contemplate if we were in our normal, grounded state.

Peak performance requires full focusAny distraction impairs efforts that require concentration and pattern recognition.  Watch weightlifters before they snatch their weights; golfers before their putts; kickers before their field goal attempts; basketball players before taking a free throw:  all will compose themselves, get themselves in the right state of mind, and then perform.  Great performers summon focus at will.  They have stronger focus muscles, and they have superior control over those focus muscles.

Suppose a surgeon finds himself distracted immediately prior to a surgery.  Would he or she blindly go forward and make an incision?  Of course not.  The surgeon would first find their focus, make sure the team has made the necessary preparations, carefully review the surgical plan, and only then move forward.  Above all else, do no harm is the commitment of every physician.  Life is precious.

Every trade is an incision in your net worth.  The capital you're trading is precious.  When we find ourselves distracted or emotionally aroused during the trading day, we need to do what the surgeon, weightlifter, or golfer would do:  slow ourselves down and engage in a routine that reinstates focus.  Slowed and deepened breathing, accompanied by a review and/or visualization of what we want to be doing, can be very helpful in grounding ourselves.

I'm a big fan of keeping two lists at one's side during trading.  One is a to-do list that captures everything you look at and everything you do when you're trading at your best.  The other is a to-don't list, which captures all the wrong things you engage in when you trade poorly.  With those lists in front of you, it's easy to conduct a focused review before placing the trade to ensure that you're aligned with your best practices and not repeating your worst ones.

In recent posts, I've addressed steps we can take when our trading is impacted by performance pressures; anger or frustration; and negative, perfectionistic thinking.  All of these can lead us to act on impulse and overtrade.  I'm currently working with several traders who are having unusually successful years.  They have demonstrated an improved ability to catch themselves in the wrong states during the trading day and refocus their efforts.  Improved self-awareness has enabled them to work on their mindstates in real time.

Equally important, however, is to avoid overtrading that results from boredom.  Many times traders find themselves staring at screens even during times when they know they shouldn't be trading.  Sure enough, they notice something that looks meaningful and act upon it, without clearly thinking through a bigger picture and plan.  In such situations, it is not enough to simply count upon "discipline" to avoid the overtrading.  What is needed are positive, alternate activities that will move your trading forward, even when you're not trading.

Those alternate activities could include rejuvenating oneself through exercise, social interaction, or meditation.  They also could include getting away from the desk to work on research and generating the next set of ideas.  Many traders I work with identify--in advance and in their calendars--the hours in which they want to be trading and hours in which they want to be doing other things.  There is no time for boredom--every hour is moving you forward in some fashion.

The cure for overtrading is self-mastery.  When your head is in the game, you work on the game.  When your head is elsewhere, you work on your head.  Approaching trading the way surgeons approach their craft is a great way to avoid doing harm

Further Reading: