This helps explain why overtrading is so deadly. Trading requires mental capital, and after a while our cognitive bank account runs dry. When we overtrade, we almost guarantee that we will trade with suboptimal focus. Indeed, that's not a bad definition of overtrading: when our trading activity exceeds the capacity of our willpower.
An interesting corollary of the last post, however, is that perhaps we should *minimize* trading decisions and maximize the efficiency and depth of our information processing. What if we only traded when we had complete focus? How would that impact our results? Our trading psychology?
But, wait, here's an additional dimension to our challenge:
We can trade within the capacity of our willpower, but what if we need further willpower for the rest of our life outside of trading? I can tell you from personal experience that trading a full day in active decision-making mode leaves me pretty much like mush for the remainder of the day. Yes, I can perform routines and carry out normal social activity, but my capacity to sustain meaningful effort after a day of hard trading is severely limited.
That's not a great outcome for someone who has responsibilities outside of trading. If you hope to raise a family, deal with personal and relationship challenges, sustain physical fitness and optimal nutrition, expand yourself intellectually, and maintain a research program to adapt to markets and develop new sources of edge, you'll need to summon focus and willpower when you shut down the screens.
It's no coincidence that the majority of active daytraders I've worked with are single males. They are "passionate" about trading and expend their mental energy on placing trades and managing positions, but surprisingly often achieve relatively little off the trading floor. That is not a sustainable way to live life.
The bottom line is that most of us should be trading less. Much less. Activity born of true passion *gives* us energy. If you're finding yourself drained by the work of trading, you are probably shortchanging the rest of your life and jeopardizing your returns with the overtrading that results from lack of focus.
Not many gurus in the industry have a vested interest in telling you to trade less. Not brokerage houses, not trading coaches looking for your business, not prop firms that charge commissions from your activity or make hidden returns from selling your order flow, not hedge funds that seek nice returns but tolerate little downside, not firms that want to sell you trading software or advisory services, not "education" providers that promise the latest, greatest trading strategies, not vendors who will sell you whiz-bang overfit trading systems. They all benefit from you trading. Sadly, their livelihood depends on your overtrading.
With the idea that less can be more, I've constructed a trading approach that specifically minimizes trading decisions. It's really a framework for active asset management. Using ETFs with minimal management fees, I created a volatility-weighted portfolio consisting of fixed income, equity, and commodity returns. The specific ETFs were selected to minimize correlations among positions, maximize yield/dividend (carry), and maximize liquidity. I then studied the historical performance of the portfolio and identified the few times in a year when it would have been highly beneficial to institute a tactical hedge. The resulting quant model provides an on-off signal for an SPX hedge using three variables (time, breadth, volatility).
So that's it. Most the time, the portfolio does what it does, benefiting from asset strength and making a nice carry return during flat periods. Once in a while, when markets become turbulent and fragmented, the tac hedge kicks in and buffers the overall equity beta. The result is a framework for minimizing trading, but using trading insight for improving active investing. Less commissions, less wear and tear; more time for family, travel, community involvement, and other productive endeavors like book writing.
When I mentioned this framework to a few active traders, they responded with horror. It makes trading totally boring!!
Right.
No excitement. No drama. No gurus to follow or workshops to attend. No FOMO. Just diversification, portfolio construction, and informed hedging.
That's an important edge in itself.
Further Reading: