Trade Psychology - the dark side

The more I learn about trading the more I understand now that mastering trade psychology is the most important part if one were to become a jedi in trading.

Because even with the best trading system...

If master one not his/her trade psychology, s/he cannot be a jedi. Fear there will be... and fear leads to the dark side. -Yoda :)

Okay, I made that up. Haha can't resist that one for a geek like me.

A big part of trade pschology are our cognitive biases. Let me list some of them down (taken from the book Way of the Turtle by Curtis Faith)

• Loss aversion: The tendecy for people to have strong preference for avoiding losses over acquiring gains
• Sunk costs effect: The tendency to treat money that already has been commited or spent as more valuable than money that may be spent in the future
• Disposition effect: The tendency for people to lock in gains and rides losses
• Outcome bias: The tendency to judge a decisino by its outcome rather than by the quality of the decision at the time it was made.
• Recency bias: The tendency to weigh recent data or experience more than earlier data or experience
• Anchoring: The tendency to rely too heavily, or anchor, on readily available information
  
• Bandwagon effect: The tendency to believe things because many other people believe in them
• Belief in the law of small numbers :The tendency to draw unjustified conclusion from too little information.

How many am I guilty of? All of them.

It's really easy to know them... who doesn't know that we need more than 3 test to proof a system? Who doesn't know that a given system can make you loss 3 times in a roll and yet still work?

Yet with money involved, emotions run high, at the time of trades, my mind was just not working... or rather it WAS working BUT with a bias. A strong bias that want to see things my way. It was looking at the market with a bias lense.

All this really didn't hit me when I read the book but when I started trading with real money, the meaning came crystal clear. Even if it's USD 0.01 per pip. I also learn that biases only happen after you enter a trade. Perhaps it's because now money is committed, your mind starts to 'hope'.

It's almost and imposibility after that to think clearly because the mind is so bias it doesn't know what 'clear' is anymore.

I think, that's where a trading system - an almost mechanical one - comes in. It comes in to tell you what you're to do and when to to do it. AND most importantly tells you your odds in the general whole picture so that you don't freak out when you have a string of losing trades.

Odds or Edge are unbalance probability tipped in your favour. Like in the roulette table, the edge is tipped to the house's favour so the more it spins the more they win.

A trading system is just that... a way to trade with an edge. All we have to do is to keep the wheel spining. That way we can 'fight' our cognitive biases without increasing our blood pressure too much.

Happy trading.