Trading is based upon the notion of recurring patterns in markets. These could be patterns of price behavior, patterns of response to world or economic events, or patterns that occur in the relationships among markets. A common trading pitfall is perceiving patterns where none truly exist. We can become anchored to recent occurrences and assume that these will recur. We can overemphasize dramatic market occasions, such as large drops in prices, and look for similar "setups" going forward. If we look at enough patterns, something by chance will appear to be significant. Not all "overfitting" is performed by quants. Just as there can be patterns--and false patterns--in markets, these can also exist in our trading. One daytrader I worked with had flat results over several months. When we dissected the P/L, it turned out that certain hours of the trading day (early morning) were consistently profitable. Other hours were losers. The patterns being traded, which involved momentum, were more likely to occur during periods of higher liquidity. I also met with a portfolio manager who was having trouble making money. When we examined his returns, it turned out that newly initiated positions were getting stopped out for losses unusually often. This was because, in a lower volatility market, he was waiting for strength before going long and waiting for weakness before selling. He kept stops tight and thus was whipsawed when the short-term price movement failed to extend. There is tremendous benefit in dissecting your returns as a trader. Yes, we can overinterpret and perceive patterns that do not exist. Many times, however, there are rational explanations for why the returns are patterned. Perhaps we're trading differently after having made versus lost money. Perhaps we're trading differently as a function of market conditions. Perhaps we're trading differently as a function of how we have prepared for the day or week. I find it again and again: Successful traders spend significant time not trading, studying their markets, and studying their performance. Successful sports teams review game films to prepare for the next contest. What is your review process, and how rigorous is it?
Here's an important principle: Your attention operates like a magnifying glass. We program ourselves with our attention. What we focus upon, grows within us. This is why our self-talk is so important. If we focus upon our shortcomings and berate ourselves for our mistakes, that is what we internalize. We recognize this with parenting. We realize that if we were to focus on every flaw in a child, we would damage their self-esteem. As I mentioned in a post a while back, we are what we eat--and we're always eating life experience. Our experiences are what we internalize. Ultimately they define who were are. In trading, if we focus on rules and best practices, we make those our own. As young children, we had to be taught rules of proper behavior, such as thanking people who do good things for us. Now, as adults, we don't need to consult the rule or motivate ourselves to follow it. We naturally feel gratitude for good deeds and offer thanks. The trader who makes rules about risk management or about what constitutes opportunity consistently focuses on those rules and eventually they become internalized principles. They are no longer simply things to do; they are part of us. Merritt Black recently reviewed the Principles from Farnam Street and applied those to trading. One of those principles is that "principles outlive tactics". A tactic is something we do in response to a particular situation. A principle is something that guides us across all situations. Here's a great experiment: Quickly, write down the principles that guide your trading. Only give yourself a couple of minutes for the exercise. If you can't enunciate your principles quickly, they are not an automatic part of you. It's when principles are front and center that they form the backbone of trading process. That can only happen when we focus on principles and keep them conscious. What a great practice for developing traders: Writing principles on a card and consulting them before trading for preparation, during trading for execution, and after trading for review. After a month of such repetition, we become more consistent because we become more principled.
A while ago, I wrote in an article that, "Perhaps the greatest mistake in managing our lives is to treat energy and willpower as finite resources." It is partly for that reason that a major theme in the book I'm currently writing is renewal. All of us lived new and fresh lives as children growing up. The challenge of adulthood is to re-new and rediscover that early sense of adventure and excitement. One of life's great paradoxes is that we need routine to efficiently navigate through life--think how exhausted we would be if we had to approach each task as if it were our first time--but it is precisely that immersion in routine that makes life feel, well, routine. Renewal requires new-ness, the exiting of routine to partake in what we find enjoyable, meaningful, and energy-giving. In the new book I describe a "principle of alternation" that helps us recharge: By arranging daily activities so that we draw upon different strengths, we rest one set of functions while exercising others. For example, I might alternate trading time with time spent helping people as a psychologist and then turn to immersing myself in family activity and finish the day reading a new book and listening to favorite music. The energy from each of these activities stimulates the next ones. We become like batteries continually connected to a power source: we don't run down. That is an important part of living a truly diversified life. When we alternate activities that draw upon the best of us, energy and willpower are no longer finite resources. We spend much of our days facing the sunshine. That not only brightens our perspective, but lights our path.
I work with many diligent traders who review their performance regularly, see what they need to improve, set goals for the next time period, and then move forward. It's a great process, but it misses one thing: vision. Rarely do goals in and of themselves truly motivate us to go beyond what we believe to be possible. That takes a vision that captures our imagination, challenges us, and becomes an overarching priority. Goals can help us implement our vision, but goals without a clear animating vision are little more than to-do lists. In my latest Forbes article, I outline three strategies for getting to that all-important next level of performance. It turns out that the environment we create for our performance, the ways in which we pursue performance, and who we work with on our performance make all the difference in the world. But notice in the article that two of the performers I cite choose truly audacious goals driven by a vision. They seek something big. They seek something meaningful. Without vision, we are blind. Without a vision of extraordinary achievement, we will always function within ordinary expectations. The three strategies I outline are effective precisely because they align our goal-seeking with our vision.
Colin Wilson's insight is that we approach life as a spectator, not realizing that we are the ones in the control room. We experience pessimism when we believe we have little control over the important outcomes in our lives. If you examine successful people, you find they structure their time in ways that give them that sense of control. This is one reason living by goals and plans is so important. Only dead things go with the flow. Our job is to guide our lives. That means being in the control room. Wilson also recognized that we tap a small portion of our potentials. This is partly because we tend to lead constricted lives. Think of our emotional states and how rarely we experience true unbridled joy, profound fulfillment, or even deep and heartfelt regret. Consider our physical states and how rarely we operate in modes that could bring us to our second wind. Reflect upon our intellectual states and how rarely we truly challenge ourselves with new ideas and challenges. Constriction of life lays the groundwork for pessimism. It is difficult to remain negative if we experience varied emotional, physical, and intellectual lives. Will you ever reach your true potential if you are planning, reviewing, and working on your trading while leading an unexamined, constricted life? If each day is an opportunity to stretch ourselves emotionally, physically, and intellectually, each day becomes an adventure--a journey into unexplored territory. Pessimism most often results when life is routine and we no longer experience fresh, shining vistas.
The previous post highlighted distraction as a major source of trading problems. We have limited capacity for high-quality, focused concentration, and that shows up as limitations of willpower. Too often, we lose discipline in trading, not because we lack emotional control, but because we encounter limits to our capacity to sustain intentional action. 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.
What if traders miss good trades and impulsively take bad ones, not because they are emotional, stressed, frustrated, or lacking in discipline, but because they are too distracted to maintain the focus needed for effective pattern recognition? What if your trading environment not only does not bring out the best in you, but actively distracts you from what you need to be focused upon? What if *how* you are working is precisely what prevents you from achieving your potential? Some savvy traders have recently pointed me to a book called Deep Work by Cal Newport. The author refers to deep work as professional activities performed in a state of distraction-free concentration that pushes our information processing capabilities to their limit. The important idea here is that we need to be in a heightened state of focus to reliably formulate and execute plans and also to exercise our creative capacities to see opportunities others are likely to miss. It is when we are in the heightened state of concentration that we find our cognitive second wind and enter into the flow state we sometimes call "the zone". Initially, concentration is taxing. It's easy to become fatigued and move to other activities. If we can sustain the focus, however, we hit that point of second wind where we're capable of doing deep work. Multiple screens. Ongoing chats. Talk on the trading floor. Tracking indicators, markets, news...all of these contribute to distraction and keep us out of our zone. As Newport points out, the difficult truth is that we have to make friends with boredom if we are to enter and stay in our zones. This is why so much quality writing and artwork is performed in solitude. How much solitude do you experience in your trading? In your life? How deep is your work? Perhaps the reason you're not finding opportunity in your trading is because you are not in the right cognitive mode. If you were to skim the surface in all your conversations, you would never build a meaningful relationship. Is our relationship with markets all that different?
I recently went through the tweets under the #tradingpsychology hashtag on Twitter. It was interesting. The great majority of postings were relevant to beginning traders and pertained to emotions interfering with decision-making. What are key trading psychology issues that experienced traders deal with? Here are three that I've recently worked on with portfolio managers and traders: 1) Teamwork - How to build a team by hiring the right kind of junior professional; how to team up with other experienced traders in a way that offers quality for all; how to get more out of conversations with traders. 2) Creativity - How to process market information in new and deeper ways to see patterns and relationships that otherwise would go unnoticed. How to better integrate information at different time frames and/or across different markets. How to better blend intuition and rigorous analysis. 3) Self-Development - How to renew energy at the end of difficult days in the market; how to better review one's trading to identify what is and isn't working; how to more rapidly update views and adjust to market changes. If I had to generalize, I'd say that beginning traders turn to psychology to deal with frustrations. Experienced traders turn to psychology to hone performance. At its best, psychology is a tool for learning from experience, not just a salve for emotional wounds.
I've read hundreds if not thousands of journal entries during my years of working with traders. One pattern shows up among the traders who make greater success: Their performance journals are highly focused. The trader surveys his or her trading and identifies one big thing to work on that will make the greatest difference to the bottom line. They sustain that single focus until they have demonstrated significant progress. Then they move to another "big thing" goal to work on. The lesser successful traders recount everything that has happened in their trading and what they need to do better next time. Lots of good intentions, not many concrete goals. It is difficult to sustain a sense of urgency when working on many things at one time. When there are many goals, it's easy for a priority at one time to distract from efforts at other priorities. When I see the progress of traders with many goals, it is difficult to pinpoint where they have made dramatic improvements. The more successful traders seem to be working on fewer things but they actually get more accomplished. Here's the framework I'm using for my own trading: one prioritized goal per month. Each day I have a specific plan for working on that goal and each day I review my recent work on the goal and modify my plan. If there are roughly 20 trading days in the month, that means that I have at least 20 reps in my workout, 20 trials in my deliberate practice. The reality is that I have more than that, because I take midday breaks in my trading and treat morning and afternoon as separate trading "days". So that means 40 reps, working on just that one goal. Then a new goal the next month. And the next month. By the end of the year, the idea is to have 12 big things that you've accomplished, each making you better. That's a big outcome, and it springs from a small beginning: a single important thing to work on that will make a positive difference in your trading. Keeping a report card on your trading is huge. Focusing that report card takes it to the next level. What's your One Big Thing?
Here's a trading psychology lesson from my own trading today. Twice today I had positions that went my way, only to reverse: one for a loss, one for a scratch. Since those were trades that normally work well for me, I began digging into the reasons they didn't work out. My first hypothesis, always, is that I have missed something in the market. I don't automatically attribute my losses to psychological factors. These were trades that have worked very well for me in the last two weeks and something felt different today. I trust that sense of "something different". To provide some background, I tend to enter trades actively (I'll pay the market price) and exit passively (I'll work an order to exit). The exit is a function of the expectable move in a particular holding period. In my case, the holding period is 60,000 ES contracts traded. I know from my research that, over a 60,000 contract horizon, we can expect moves of a given size. Today, the two trades I had that didn't work out came close to my targets, but failed. Yes, that could be due to chance, but maybe something else was at work... Notice the ES and SPY volume for today's session. According to my stats, the SPY volume in the afternoon was running at about half the expectable level for that time of day. On normal days, we might get 60,000 contracts traded in 25 minutes' time. Today it took more than an hour. Everything slowed down. Except for my expectations. In other words, per the above quote, my internal relations (my expectations) did not adjust to the the external relations (the volume and volatility of the market). I placed my take-profit exits at one level and that level didn't get hit in the time frame expected. That is because I was calibrating by chronological time when I know to calibrate in volume time. Had I let the trades run for the hour rather than a 20-ish minute time horizon, I would have made money on both. To use an analogy, the music on the dance floor slowed way down and I was still in my faster dancing mode. I needed to adjust to the pace of the music, not my accustomed pace. Institutional participants really moved away from the market today, and it traded a helluva lot more like a 10 VIX market than the 15 VIX we've seen recently. I didn't adjust, and that becomes my job tomorrow: to be prepared if relative volume comes in low once again. Folks, this is real trading psychology from real time trading. Not the pronouncements of some self-appointed guru who tells you to control your emotions, listen to your emotions, keep yourself mindful, trade your plan, etc, etc. Market participation changes daily, and the balance of buyers and sellers changes daily. Our job is to recognize and adjust. Sure I can calm myself and trade with confidence. If I don't recognize how the market is behaving differently right here, right now, however, I'll simply lose money calmly and confidently. When markets change faster than we adapt, bad things happen to P/L. Our job is to adjust our internal expectations to the external realities of the market.
Think of working out in the gym. There is time when you work the muscles, and there is time when you rest them. The cycle of workout and rest increases blood flow to those muscles and enables them to grow in a sustainable fashion. If you only rested, you would never build your muscles. If you only worked, you would overtax yourself and break yourself down. Growth occurs over multiple cycles of work and rest. This is an important lesson of the Sabbath in the world's religious traditions. After a period of creation, we rest and renew. Some traders fail because they work too hard. Others fail because they hardly work. Performance is achieved when we effectively alternate effort and renewal. Growth occurs in the cycles of doing and reflecting that comprise deliberate practice. Thanks to a savvy portfolio manager who passed along this article on how the Golden State Warriors make use of their halftime to dominate the third quarter of their games. It is fascinating to see how the coaches plan for the halftime during the game, collecting videos that will help the team build their confidence and focus on the right things in the second half. The period of rest during halftime becomes an integral part of improved performance for the remainder of the game. Mike Bellafiore, in a recent blog post, notes that this same dynamic occurs on the trading floor. Traders keep running "playbooks" of their best trades and use breaks during the trading day to review their plays and share insights with other traders. When I worked at Kingstree in Chicago, traders would formally divide their trading day into morning and afternoon sessions, with a break in between. They allocated separate risk (loss limits) to the two sessions, effectively creating two trading "days" in one. Midday served as a halftime, a period of rest when they could learn from what they did right and wrong, update market views, share insights with colleagues, and rejuvenate. What are your halftime drills? How are you utilizing periods of rest in your trading? In your life? When we increase the frequency of cycles between "performance" and "halftime", we speed our deliberate practice and development. How we rest is as important as how we work.
The most unappreciated element in success in any area of life--trading or otherwise--is the capacity to sustain effort. We can think of this capacity as intentionality: the ability, over time, to exercise free will. For much of daily life, we follow routines. This is efficient, allowing us to get the most done with the least effort. A great example is driving a car. Being able to do that automatically enables us to carry on conversations, listen to music or podcasts, etc. The problem occurs when we become so immersed in routine--so wedded to getting the most done with the least effort--that we are unable to sustain the efforts that generate distinctive performance. Important research from the psychologist Mihalyi Csikszentmihalyi identified a "flow state" in which people become capable of high levels of creativity. The flow state results from being immersed in efforts over time--a kind of hyperfocus. In that state of superfocus, we become capable of processing information in new ways, seeing patterns and solutions that escape us in our normal state of awareness. In our ordinary state of mind, we can only achieve ordinary things. All success comes from the ability to transcend routine. But that requires effort and the capacity to sustain effort. Successful people have developed routines that exercise intentionality: that build the capacity to sustain flow states. They sustain those efforts by pursuing their strengths: what they are good at and what speaks to them. We achieve hyperfocus when we are hyper-interested in what we are doing. If you need discipline to get things done, you know you are not operating in the sphere of your strengths and passions.
If you are wrong on the next trade, will it impair your ability to take the next legitimate trade? If so, you know you are too big. If you lose money this week or this month, will it impair your ability to trade freely next week or next month? If so, you know your risk management is too loose. The best losses are planned. A planned loss is part of playing a game of probabilities. A planned loss won't prevent you from pursuing odds in your favor. Every trading slump begins with losses larger than a trader has planned and is able to digest. Are you losing the right way? Are you limiting trades to where you have demonstrated edge and then sizing those trades so that you can continue full pursuit of that edge even if the odds don't play out here and now? Losing the right way is a great means for setting yourself up to be a winner.
As we saw in the last post, the starting point for addressing psychological problems in trading is making sure that the methods you are utilizing really do provide you with positive expected value. I recently spoke with a frustrated trader who was making money, losing it, making it, and then losing. He couldn't understand why he couldn't sustain his gains. It turned out that he was making use of trendlines that were promoted by an online trading service. The guru running the service pronounced that there was a "strong edge" in placing trades based upon these lines, but when I questioned, the trader acknowledged that he had not independently verified this edge. When I conducted a quick backtest, the signals based upon the lines displayed random forward returns. The trader's problems had nothing whatsoever to do with psychology. The psychological discomfort was the result of the problem, not the cause. All the attempts in the world to stick to his plan, improve his mindset, listen to his feelings, control his feelings, etc, etc, etc would not have helped him. This should always be the null hypothesis--the base case--for a trader experiencing distress and behavioral problems, especially if those do not show up in his or her non-trading life and if an edge had not been soundly established previously. The first hypothesis is that there is no edge--and you need affirmative evidence to reject that hypothesis. It is your methods, not your psyche, that need working and reworking. Only after establishing the soundness of what you're doing should work on psychology and performance take front stage. An analogy would be a golfer who runs into a string of poor scores. If the mechanics of the swing and the mechanics of putting have not been mastered, there's little sense in using visualization exercises to foster a winning mindset. A related hypothesis is that the edge that once was present is now no longer operative or has changed. If the golfer is playing in rainy conditions, that may dictate a change in swing and a change in each approach to the hole. If traders find themselves in low volatility conditions, that may dictate a change in the trading of momentum-based patterns. Edges are dynamic, requiring frequent adjustments by traders. Once you have identified and verified patterns in markets that capture your understanding of what makes markets move, any problems you might have in implementing the trading of those patterns might be psychologically driven. Here, the key is determining whether problem patterns in your implementation are caused by emotional or behavioral factors that show up as problems in other parts of your life, or whether the problems affecting your trading are indeed unique to the trading context. Many problems that impact trading are not specifically trading-related. For example, a person with fragile self-esteem or a person with poor emotional self-control will find these problems impacting their family lives and personal relationships, not just their trading. In such cases, work on those problems needs to occur outside of trading and well as during trading hours. There are research-backed psychological techniques for the great majority of these issues, as I lay out in the Daily Trading Coach book and in many blog posts. Trading problems that won't seem to go away are usually trading problems not being properly addressed. By looking deeply into the root causes of poor returns, we can figure out what is going wrong--and that's the first step in setting things right.
In a remarkable interview, Professors Marcos Lopez de Prado and David H. Bailey explain that much of what we think we know about financial markets is just plain false. When we look for so many patterns in markets and finally hit upon one that "works", the odds are great that what we've discovered is a false positive: the one finding in 20 that happens to test as "significant". What many traders don't recognize is that traditional in-sample/out-of-sample procedures for determining whether a finding is "overfit" or legit are inadequate. When computing power allows us to test thousands upon thousands of combinations of multiple variables, it is not difficult to find one permutation that tests "significantly" out of sample as well as in-sample. What many discretionary traders don't recognize is that they are equally subject to the biases of false knowledge. Traders will hunt for dozens and dozens of "setups" at various time frames and across many different stocks and trading instruments. They finally find something that "works" and decide that they have figured out their "edge". When future results fail to live up to expectations, these traders become frustrated and hire trading coaches who tell them to stick to their discipline. You just can't make this sh*t up. A daytrader who places many hundreds of trades in a year will, by pure chance, have runs of five or more consecutive winning or losing trades. Interpreting these runs as meaningful, the discretionary trader will increase or decrease risk taking solely on the basis of randomness. Imagine the trader who trades every day of the week and is ecstatic after achieving five consecutive days of profitability. He increases his risk-taking based upon his trading "progress" and quickly loses everything he had made. After five consecutive days of losses, he pulls back his risk taking only to see trades win with smaller size. All with no objective edge whatsoever. What a waste of life. So what is the answer to this problem of false knowledge from large data samples? I encourage you to check out the interview with Professors Lopez de Prado and Bailey. Links to articles explaining how to compute the odds of backtest overfitting are included. Also, Professor Lopez de Prado explains a much more basic flaw in what systematic and discretionary traders are doing: using the same tools to generate ideas as to test them. He emphasizes:
Backtesting should not take place before a theory has been formulated.
In other words, before we can determine whether or not we have an edge (in systematic or discretionary trading), we need to establish knowledge. A theory explains how and why something occurs. Testing of historical data can help us conduct limited, targeted tests to determine whether our theory holds up in practice. Before we test, we must formulate a plausible hypothesis. There is no theoretical or practical rationale why many strategies in technical analysis, fundamental analysis, or random combinations of quantitative variables should be valid. This is a perspective you won't find in most writings in trading psychology. It isn't good for business to tell people they likely have no edge and are not engaged in processes that can objectively capture edges in markets. Now more than every, however, the tools are available to help us truly determine whether what we're seeing is random or meaningful. For traders and investors interested in understanding what they're doing--not simply gambling on market moves--this is a most exciting and promising development.
So here's a great question: What one change in your daily routine will make the greatest difference: a) in your trading and b) in your life? How we live our lives shapes our habits and our mindsets. We cannot live one kind of life and expect to do a different kind of trading. If we live a life filled with drama or a life filled with inconsistency or a life filled with negative self-talk, that is what we will bring to our trading. It's also what we bring to our future. Who we are in the present and how we live right now shapes who we become. Each day is a practice session for our future. If we practice the right things, we develop the right ways. Too many traders mess up today and reassure themselves that it was all a good learning lesson. Bullshit. The learning comes from actively correcting the mess up--and then making that correction a regular part of your trading and your life. In some measure, be the person today you want to become in the future. That is climbing the ladder of development rung by rung. How we act shapes how we experience ourselves. Our routines create habits and our habits become part of ourselves. We don't have to impose discipline if we have developed the right behaviors as habits.
Too many traders focus on going fast--taking more trades, making more big trades--rather than build the consistency that can nourish a career. Consistency of outcome requires consistency of process. That means having a rhythm and routine for searching for opportunities--and researching them. It means having rules for position sizing and guidelines for when you add to positions and harvest profits in those. Consistency also means having risk limits and ways of operating within them. My experience is that consistent traders have consistent personal routines, both during and outside of trading. Bumping up your sizing/risk-taking makes sense if you have been successful and consistent. Bumping up your risk-taking without consistency is Russian roulette. But, watching people on the trading floor, I'm seeing one other element in trading success: teamwork in tandem. As in military training, developing traders buddy up with one another and dedicate themselves to each other's success. I describe this development in detail in my recent Forbes article: teams within teams provide a kind of mutual mentoring. That allows everyone to learn from each other, and it also provides the emotional and learning support that accelerate a trader's growth. It's a different take on "each one, teach one". When you learn one-on-one, you are always the teacher, always the student. The Forbes post explains how this accelerated learning occurs and why it's so powerful. When we put together consistency of process and intensity of learning, great things happen. Many, many traders fall short of their potential because markets change before they are able to adapt. Just as going to the gym with a partner can help you be more consistent in your workouts and do the exercises with proper form, trading with a teammate enables you to learn in an active--and interactive--mode. For many traders, this is a total game changer.
There's a great post from Merritt Black in which a video plays an ambiguous sound. If you think the sound is going to say "Brainstorm", that's what you hear. If you think the sound is going to say "Green Needle", then you hear that! It's the damndest thing..."brainstorm" sounds nothing like "green needle", and yet we can talk ourselves into hearing either one. How like markets that is, however! Two people look at the same chart and they come to radically different conclusions. We come in to a trading day with a particular expectation and, with just a little confirmation bias, we can find the evidence we need to put on the corresponding trade. It's yet another reason why trading with conviction is so dangerous. The same conviction that leads us to get large in a trade is the set of entrenched assumptions that shape our perception. We see what we believe. We expect what we believe most strongly. We act on what we expect. Merritt's post got me thinking about my school days. I took school seriously--my high school and college GPAs were between 3.8 and 3.9--but it was a certain kind of seriousness. I would have a test coming up the next day (or a paper to write) and that afternoon I would play baseball or basketball. I knew that I could pull a late nighter and get through the material, and that's exactly what I did. When I got to the test (or when I wrote the paper) I honestly can't recall wondering if I would get a good grade or not. I also can't recall thinking about what the teacher was looking for. When I got to a question I didn't know--or if I hit a block in writing the paper--I would put my pen down, relax my mind, and go with the first thing that came to me. I didn't think harder; in a sense, I stopped thinking and let the answer come to me. I knew that I had encountered the information. It was just a matter of letting it come to the surface. What I see among many traders--and what I've noticed in my own worst trading--is starting out with a view and then looking for trades that fit that view. More recently in my trading, I've begun the day with multiple hypotheses and then enter that open minded state to let the market tell me which hypothesis is playing out. It's like listening to a person from another country: you focus on picking up on their meaning, not imposing your own. The last thing a student is supposed to do before a final exam is hit the intermural building and play hoops with the gym rats. But that's what worked for me. I had already taken my notes, gone to my classes, and read my book chapters. By the time I was on the basketball court, all I needed was intensive review, not fresh learning. When I got to the test, I knew I had done the most intensive review possible. I didn't have to worry about what the instructor would ask, whether I would get a good grade, etc. It's all very relevant to trading. We do our preparation and our intensive review, but we don't let it become our lives. When we're not sure, we relax the mind and let markets speak to us. Eventually we'll make sense of it. The idea is to understand, not to trade. Perhaps this is why meditation is so helpful to many traders. It's not only a way to relax and focus; it's also a way to cultivate an open mind. We can see anything we're primed to see in markets. The key is getting past that priming. When we're actively prepared to see everything, we can quickly recognize when one scenario actually plays out. It's amazing what we can see when we come to markets with acceptance, not expectation.
If I had to mention one factor that accounts for the success of traders, it would be the intensity and consistency of their learning process. By supercharging our learning process, we can greatly accelerate our growth as traders. In a recent post, Mike Bellafiore mentioned the importance of developing and working within a "playbook". Once you have a collection of refined and tested market patterns, you now have a basis for evaluating your trading and working on the recognition and execution of trades related to these patterns. You also have a basis for examining how these patterns vary in different kinds of markets. Every day in the market, every trade placed, offers an opportunity for learning--and getting better. How you structure and implement your practice/learning process will shape your growth as a trader. On Tuesday, July 24th at the Traders Expo in Chicago, I will conduct a live seminar on strategies for accelerating our growth as traders. This will be an opportunity for group coaching and individual consultation, as I will be making myself available after the presentation. One of the things we'll discuss at the workshop are the elements that go into successful learning and practice. These include ways of reviewing our trading that literally re-view our trading and extract lessons that inform our subsequent decision making. When we turn every trade into a practical lesson, we greatly accelerate our learning. When we place more trades than we review and study, *that* is overtrading. What is the learning P/L of your recent trading? I look forward to meeting readers at the Chicago event! Brett
In the first post in this series, we took a look at the cognitive behavioral self-help techniques described in the new book by Dr. Seth Gillihan and how we can overcome our tendencies toward procrastination. The second post in the series examined the fear of missing out (FOMO) in trading and specific techniques for moving past that fear. This final installment deals with anger and frustration and methods for ensuring that these do not bias our decision-making. We typically feel frustrated when we are pursuing a goal and find our path blocked. If we want to reach a destination and we are slowed by traffic, we can respond to the situation with a flight-or-fight response, cursing the situation. When the situation becomes more personal--if we believe that someone stands in the way of our achieving our goal--the frustration can become anger and even rage. We most often experience anger if we believe our rights have been violated; that we have been mistreated or wronged. In the case of trading, our goal is to make money through our ideas and this goal is often thwarted by the adverse behavior of the market. We are faced with a loss instead of a gain and this can frustrate us. If we tell ourselves that other market participants are somehow cheating or gaming the system, our frustration can turn to anger. Once we're worked up in the flight-or-fight mode, we can make subsequent reactive decisions, turning one loss into many more. If a core skill of short-term trading is pattern recognition, then success hinges upon a high degree of focus and open-mindedness. When we lose peace of mind, we lose focus and openness and we trade what we want to see, not what we're actually seeing. Dr. Gillihan outlines several powerful techniques for moving past frustration and anger, including: 1) Know your triggers - Typically, there are a limited number of situations that have the power to set us off. If we are aware of those situations, we can mentally rehearse them and practice calming self-talk. For example, we can imagine ourselves losing on a trade, feeling frustrated, and then reminding ourselves that any edge in markets is only probabilistic and that losses are part of the game. This acceptance can help us regroup and generate the next idea. Self-awareness of triggers can also enable us to step back from trading temporarily when those occur, so that we don't allow frustration to impact our behavior. One especially powerful technique when a trigger occurs is to remind yourself of the costs of anger and how acting on the trigger has hurt you in the past. That way, frustrated behavior becomes the problem, not the triggering situation. 2) Relax and breathe with your anger - If you temporarily lost your faculty of vision, you would not blindly put trades into the market. The fight or flight response creates emotional blindness, so that you may no longer see yourself or the market clearly. If you use emotional arousal as a cue to relax and breathe more deeply and regularly, you practice self-control. Each episode of frustration thus poses an opportunity for you to achieve self mastery. You can actually engage your competitive instincts and look forward to losses as opportunities to beat anger. That way, every trade is a winning trade. You either make money or you build inner strength. 3) Practice acceptance - It is OK to lose as long as you exercise sound risk management in the sizing and management of your position. As we recently saw in a post on turning mistakes into trading successes, it is not uncommon for a losing trade to lead you to reassess your view and eventually generate a much better trade idea--often in the opposite direction. A sound trade that loses can provide useful information. By accepting the loss as a tuition for learning, we can move past frustration and gain from the lessons learned. I recently placed a good trade with high odds of taking out a prior market high. We moved toward the high, stalled, and then started to reverse on higher volume. I quickly got out of my trade at a small loss and flipped short, accepting that we had likely make the high for the day. The subsequent down move, trapping the longs, more than made up for the loss on the long position. We cannot prevent setbacks in life but we can ensure that we use these as sources of learning and development. Every day can be profitable if we're always using experience to make ourselves better. Once we realize that setbacks are opportunities, we can actually respond to them with gratitude. If life is a classroom, our setbacks are our lessons and we can give thanks for the opportunity to grow.
Author of The Psychology of Trading (Wiley, 2003), Enhancing Trader Performance (Wiley, 2006), The Daily Trading Coach (Wiley, 2009), Trading Psychology 2.0 (Wiley, 2015), The Art and Science of Brief Psychotherapies (APPI, 2018) and Radical Renewal (2019) with an interest in using historical patterns in markets to find a trading edge. Currently writing a book on performance psychology and spirituality. As a performance coach for portfolio managers and traders at financial organizations, I am also interested in performance enhancement among traders, drawing upon research from expert performers in various fields. I took a leave from blogging starting May, 2010 due to my role at a global macro hedge fund. Blogging resumed in February, 2014.
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