Emotions and Trading

BarroMetrics Views: Emotions and Trading

“..With emotions we cannot control ourselves, and without the we cannot make decisions. We appear doomed to chase short-term rewards and run with the herd” (Behavioural Investing, p15).

And I’d add, the market seems to provide traders with the optimal environment to act according to our insticts of fight, freeze and flight.Of course, such decisions more often than not cost us money – loses we often can avoid by reacting more rationally.

Let’s take a moment to clarify the quote.

Studies have shown that humans are incapable  of making decisions without emotion (see http://en.wikipedia.org/wiki/Iowa_gambling_task); but, our ability to make optimal decisions in the face of strong emotion is unlikely. (see http://www.hss.caltech.edu/~camerer/web_material/n.html).

How do we overcome the dual handicap so as to make reasonably  robust decisions?

At the base of problem is the hard-wiring that moves us towards pleasure and away from pain. We now know we can change the hard-wiring in our brain; and, we know, that our unconscious does not know the difference between reality and ‘virtual reality’.

So, one solution is to identify various possible market scenarios, and then spend time visualizing our response to the market events. Practicing the responses, so that they become relatively automatic, goes a long way to overcoming the problem.

I’ll give an example tomorrow.

2 thoughts on “Emotions and Trading”

  1. Umar Saeed

    Trading business involves high risk with high return on investment. Trader should always keep in mind the risk factor in mind and have strong control on their emotion. They should conduct a thorough market and product research before starting trad. Thanks

    Hi Umar

    Thanks for the comment.

    We disagree on the idea of ‘high risk, high reward’.

    We agree that we should prepare for a trade, and that preparation includes risk preparation.

  2. This is a really interesting topic – I think all people deal with their emotions differently and the same can be said with trading. However I took this light hearted test – http://www.gomarketsaus.com/trader-types/ But it was interesting to see that by entering how much I had ever lost or gained for a single trade and what my attitude to trading was would pretty accurately identify the emotions that I struggle with as a trader – ‘impatient, greedy, and emotional about investment’.

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