Saturday, February 09, 2008

Can we Go Higher?

There was an interesting article on the New York Times about something that fascinates us traders: the psychological components of trading.

"So here is a sobering thought for Wall Street: There may be a bit of Mr. Kérviel in all of us." There is a brain effect similar to the one gotten when drugs enter our system: addiction. The more risky the trade, the more the brain craves for it. And French prosecutors compare the rogue trader's trades at SocGén, as a drug habit. “The more you think you can gain from the risk, the more you take the risk and the more activation in the circuitry,” Mr. Knutson professor of psychology and neuroscience at Stanford University said.

Jason Zweig, a financial editor found that brain images from drug addicts about to get a new hit were the same as the ones of traders who are making money and about to place another trade. An addiction very difficult to let go.

There are even very interesting psychology traits where people feel more comfortable losing than winning. And many -that's the odd thing, well not that odd- get excited and search for the losing trade (unconsciously) to feel better. The explanation is that they enjoy piling up bad trades that lead to frustration and sadness because this is something they can control. Same thing happens with their private lives: certain people search for the "losing attitude" i.e. a closed door that has only one possibility: frustration. A positive approach is an open door that can lead to infinite successful possibilities - ergo, uncontrollable to certain minds.

Alpesh Patel, from the Praefinium Group, an asset management company, said that "when traders get too emotional, they start making bigger, more frequent trades". When they are on the winning path they want more, and when they lose, they want more winning trades to offset the bad ones.

“It is more common for people to hold onto losers and see their investments go to zero, or shorts go to the sky, than it is for them to practice good risk management and get out,” Dr. Kiev, a well known Wall Street psychiatrist and writer said.

The most successful traders are the ones that master their emotions. So before getting into trading, the best advice one can get is: learn about trading psychology and only after, jump into the trading arena.

"Some 70% of all equity volume is driven by computer models that suddenly trigger a surge in buy or sell orders that are causing the fragmentation, volatility and use of hidden trading venues" says Robert Lenzner on Watch Out for the Quants on Forbes.

So...let’s rely on algorithms, much better.

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