A Psychological Antidote

One of my favorite psychology ideas comes from the poker literature – specifically Mike Caro’s “threshold of misery”.  Mike’s point, paraphrased, is that there’s a difference between how bad a situation is objectively and how bad people feel about their miserable circumstances.  Sure, as a situation gets worse, we feel worse.  But eventually we hit a point where they feel about as shitty as is possible.  Analytically speaking the situation can get worse, but there’s only so bad you can feel about it.  That boundary is the threshold of misery.   Continue reading

The Difficulties of Prediction and a Trading Koan

“I possess a quality unquantifiable by its very nature.”
“And what exactly is that, Peter?”
Peter Riviera & Molly, Neuromancer

Prediction is a funny thing.  You’ll encounter lots of traders who swear up and down that what they do is not predicting the market.  This, of course, is nonsense.  When you take a position in the market you’re predicting that price will move in the direction of your position and thus you’ll be able to exit your position at a profit. It’s as simple as that.  Prediction is the heart of trading   So why do many traders, even some successful ones, deny they engage in prediction at all? Continue reading

Is the Problem Technical, Psychological or Luck?

There’s a commonly bandied about statistic that something like 90% of active retail speculators lose money in a given year.  Incidentally, in this case “retail” means “private trading through a conventional retail broker like E*Trade” and has nothing to do with a retail store.

This statistic is taken from two places.  The first source is a congressional investigation into day trading that resulted in the SEC imposing the pattern day trader rule in 2001.  The second source is records from a number of brokers who have had their accounts exposed by bankruptcy.  The number varies slightly by source, but overall 90% is about right.  The smallest I’ve ever seen it was about 50% losers from a arbitrage-oriented foreign exchange broker.  These are sobering numbers. Continue reading

Bulls, Bears and the Permanent Versions Thereof

Today’s post is about market bias.  Market bias is a trader’s opinion about the long term direction of the market.  If you’ve been learning what this blog is trying to teach, you first question should be “which market?” because there are many.  While it’s possible to hold a bias about any of them, the most interesting market are the “risk on” markets which are those that are positively correlated to the economy – stocks and commodities mostly.

Biases are traditionally expresses via two terms – “bull” and “bear”.  A bull thinks the market will go up.  A bear thinks it will go down.  The origin of the terms are lost to history but the most plausible explanation I’ve heard relates to the fighting tendencies of the two animals – bulls thrust upwards with their horns, bears claw downward.  What is certain is that the metaphor has stuck, going so far as to create a cottage industry selling tacky bull and bear statues for traders’ offices. Continue reading

The Trader Mindset

Traders don’t look at the world the same way “normal” people do.  This applies both to the world at large, and more specifically to the world of finance.  For the purpose of this post, I’m only interested in that more narrow subject – how traders view the world of finance.  The easiest way to understand this is to look at a couple of pictures. Continue reading