Let’s Talk Psychology

I’m yet to know any successful person (in any field of endeavor) who does not appreciate the importance of psychology.

Even if such a successful person has no working knowledge/background of the human psychology 101, you can clearly trace part of their success from their positive psychology (or way of thinking). Even successful movie stars and singers who fell unto drug abuse… when you trace their psychology, they possess a “can do” attitude.

Any form of success in any field of endeavor is linked to a certain psychological state. It’s a simple “cause and effect”… have a F*cked up psychological state and let’s see where that would lead you.

Many traders quickly come to acknowledge that despite being familiar with winning strategies, systems, and money management techniques, trading success is dependent on your psychological state of mind. Trading is a performance-oriented discipline. Stress and mental pressures can affect your ability to function and impact your bottom line.

A strong psychological foundation is the key to successful investing/trading. The human mind is a powerful, complex tool that quickly turns into a double-edged sword to those untrained in its control. It’s like driving a Formula-1 race car. A skilled driver can push his racer to its limits, extracting every last bit of performance. A novice driver, on the other hand, is better off in a mini-van. Put him behind the wheel of an F-1 and he’ll end up crashing straight into a wall.

Psychology, or emotional strength, is the basis on which high-performance skills are built. It doesn’t matter whether it’s top-performing traders, all-star athletes, or extreme back-country skiers. When it comes to risky, high-pressure situations, the mind either snaps into a flow state or crashes and burns.

Decision quality in these high-stress situations requires a person to be emotionally sound. And the only way to develop this emotional toughness is through consistent self-reflection. The goal is to intimately understand both your strengths and weaknesses.

It’s been said that investing is the best way for a person to truly understand himself. The markets will quickly unveil every character flaw, insecurity, and weakness that lies inside. This is the nature of the market and it’s why emotions tend to run wild within it. Fear, greed, hope, self-doubt, self-destruction…..it takes psychological preparation to manage this barrage. The failure to do so leads to disaster.

A very important and necessary step in becoming a consistently successful trader is to understand how psychology plays out in your own make-up and in the way the crowd reacts to changes in the markets. The reason for this is that a trader must realize that once he or she makes a trade, he or she is part of the crowd. It is critical to realize just how important psychology is — not only your personal psychology but also the psychology of crowds.

Think back to our ancestors. We have a strong evolutionary desire to “fit in”. The “fitting in” mentality became a dominant survival trait that grew stronger as it passed from generation to generation over millions of years. This is the reason we’re all born with the natural need to be accepted by others. Doing something that goes against the tide, especially something that could cause us to be rejected by our group, goes completely against our nature. This mentality may have made sense in the past, but it doesn’t make sense today… especially in markets.

Much of applied psychology boils down to a single insight: Life problems occur when we become trapped in repetitive patterns of thought, feeling, and behavior. We may be consciously aware of these patterns, yet they stubbornly stay with us: the same harsh, self-critical thoughts; the same fears and frustrations; the same trading mistakes; the same attachments and addictions to things that bring no lasting fulfillment.

Most of us don’t have dozens of problems in life, though it sometimes feels that way. We have one overarching problem with multiple manifestations, and that problem boils down to an impairment of free will. When our patterns control us, we are no longer fully self-determining. Much of psychology are gateways to becoming more conscious, more aware, more intentional. “The Monkey Inside” article previously published tackles more on this.

Cultivate your intentionality: your capacity for free will. We cannot succeed in life — or in financial markets — if our capacity for free choice is repeatedly hijacked by moment-to-moment ego desires and demands.

If we tackle the emotions of trading without addressing their source in our ego-attachments, we cannot truly master ourselves — and that means we cannot master our trading

Human emotion/ psychology. This is what controls the market, the driving power behind the market.

I prefer to ask:

What controls the human emotion to make such decisions?
What triggers the human psychology to make such reactions?

And this is a universal force that is the driving power behind any charts:

Hope… it is quintessential of human delusions. Simultaneously, it is our greatest strength and our greatest weakness. The most cardinal rule of trading: Do not hope and pray. If you do, you will surely lose. When it comes to trading, you better be holding for the right reasons and not on hope.

Professional traders put emphasis to eliminate subjectivity and discretion within their trading system. The so-called ‘successful discretionary traders’ are not actually working with discretion, they simply just don’t know how to explain what they do, thus confusing them as being discretionary. Any successful individuals in any field of endeavor possess a certain mindset. This is because success is a psychological seed, embedded deep within your subconscious mind. The people who succeed in this game are the ones that are grounded psychologically. Being indecisive in this business is going to cost you a tremendous amount of pain.

When we talk about our subconscious minds in terms of trading, we generally refer to it in a negative sense, because usually, it comes up when we’re talking about fear of losing etc. But there’s a good side to our subconscious, one which we don’t realize is there most of the time because we’re too busy remembering all of the bad things that have happened.

Anyone that has a basic knowledge of psychology might be familiar with the “Little Albert” experiment, where “Little Albert”, just a child, was conditioned to be afraid of small, furry animals. We don’t touch the stove because it’s hot. We don’t put our arms in spinning lawnmower blades for other obvious reasons. In trading, this subliminal conditioning which might have led us to a fear of losing is one which never gets us ahead, as we all know. But here’s the good news: when we learn how to trade, we are subconsciously storing a library of information in the back of our heads. Whether we realize it or not, it’s there.

For example, during childhood, we all experience failure in different ways and we gradually learn to overcome these feels of hurt. Our upbringing leads to patterns that are so deeply woven into our psyche that we are unaware of the impact they create.

Mark Douglas highlights that many poor trades are often a result of deep-rooted emotional issues, which influence a trader’s interactions with the market. He explains that the right way to think about trading is a game of probability. There is no right or wrong, win or lose, only probability. After all, financial trading should be seen as a business and with every business, owners need to put their emotions to the side and make appropriate decisions for their business’s survival.

You need to learn to think in probabilities. But getting to a point where you think in probabilities, can really present some problems. There are two basic areas that you have to deal with. The first is social upbringing, and second, the way our minds are wired. Our minds are wired to do two things: 1) associate 2) avoid pain.

In addition to these, we operate based on the following fears:

• Fear of Missing Out (FOMO). This is the fear that you are missing out on an opportunity while everyone else is gaining from it.
• Fear of Loss. This is the fear of losing what you already have.
• Fear of Being Wrong. This is the fear that your next trade won’t work out, a crisis of confidence.
• Fear of Letting a Win Turn into a Loss. This is the fear of losing all that you have gained.

For example, while I am operating out of fear of being wrong, and my mind is wired to avoid pain and also having the tendency to assume that what happened the last time will happen again (associate), the up and downticks that the market is giving will take on a certain quality in relation to what is going on in my mind, whereas from the market’s perspective, these are just raw information. So, what happens is that fear narrows your focus of attention onto the object of your fears so you end up creating the very experience that you are trying to avoid. For instance, if I have opened a long position on a market environment that I see bullish conditions taking place, while the market is giving upticks and downticks moving to a downtrend, what ticks I am likely to focus my attention on and put greater significance on? The Upticks! Why? Because the upticks take me out of my pain. So, what happens is ignoring the downtick information in relation to the upticks information because every time I get those upticks it feels like a relief “it is coming back to my direction”, “I am right” etc. You were trying to avoid being wrong and made yourself wrong by losing the trade, based on your interpretation of market information.

We have to learn to trade without fear and from a careful state of mind so that we no longer have this potential to define and interpret market information in painful ways. The information is not threatening, it is the interpretation that makes it threatening. And there are internal mechanisms that control how we interpret information, that’s where we have to get at if we want to produce consistent results, thus we have to reprogram these mechanisms.

You need to understand that you are easily manipulated into making bad decisions. And then you are rationalizing a so-called bad decision. You are expressing a classic human psychological trait called: “confirmation bias”. Any explanation/rationalization and reasons after the fact will always be right, for the fact that the reasons will always be based after what happened. In return, there will be no error in your reasoning of trying to explain what just happened. And this is a psychological trap that you (and anyone) will be oblivious about unless you are familiar/aware of this human psychological trait. And how devastating and very detrimental it is to trading.

As Nassim Taleb said:

“People tend to concoct explanations for them after the fact, which makes them appear more predictable, and less random, than they are. Our minds are designed to retain, for efficient storage, past information that fits into a compressed narrative. This distortion, called the hindsight bias, prevents us from adequately learning from the past.”

There are a lot of psychological hurdles to overcome and be aware of before real professional trading can really begin. The real truth is that a lot of people are oblivious to these psychological/subjective bias.

You need to develop the capacity to handle the worst situation. Trading is not about picking yourself up and getting back on your feet. Trading is about regaining your focus under a stressful environment. It’s about regaining your focus/emotions/composure when someone is at your face telling you “STFU you worthless piece of sh*t!!!”. If you are easily irritated or offended by anyone/anything, you are not emotionally strong enough to trade.

You’ve heard it before; being detached from every trade (don’t marry your trades). But it goes far deeper than that… If you get irritated/offended by the way people move, think and quacks… It says one thing; You’re emotionally weak, you’re emotionally not strong.

Originally published at www.trading-manifesto.com