Friday, February 09, 2007

Emotions in trading

Good or bad?

  • Be calm
  • leave the last trade behind you
  • let every trade be the first of the day.

Does that really work?

For me it doesn't.

I have emotions while trading.

  • I feel good after a nice profitable trade, well executed.
  • I feel anger about myself for not following my plan, for allowing a bad trade go farther against me than it must. Usually when a trade is going into the red, I get that feeling: Out, this trade is not going to work. Stop out now, before I get's even more costly.

I think we all can agree, that having a clear head while trading, that being able to analyze a situation objectively without emotion is important to trade profitable.
But no emotion at all won't make sure, you become a profitable trader either.

Brett Steenbarger starts his new book "Enhancing Trader Performance" which I only can recommend as a MUST READ for novice and expert traders with the example of one very emotional trader, thinking about every trade and error he's making and an emotionless trader, being able to leave the last loss behind him as if it were just nothing. The emotional trader is the multimillionaire, the emotionfree trader is struggling to stay afloat. For Brett it's a question of screentime, of playing and replaying situations in your mind and on the screen which lead to trading errors, which enable the emotionally attached trader to avoid such situations in the future by creating a feedback loop and learning from his own mistakes.

I think a second crucial element to emotion in trading is, that something learned with emotions attached to it, is learned a lot faster, is a lot clearer than a memory, which has no emotions attached to it at all.

Market movements are facts. Prices go up, prices go down, oscillators move, the tape runs fast or smooth. When trading you see a lot of facts, but when do they become important to you?

They become important, when they trigger certain thresholds you have set, which then trigger a tradesignal within you, within the system you designed.
But how do you learn that a certain combination of facts is important, while another is not?

First by experiencing a lot of situations. There is a saying, that you can't learn from the experiences of others, that some errors have to be made by yourself as otherwise you won't learn to avoid them. Nothing can be more true.

How often have you heard, that you should never move your stop, that you should not add to losers. Did it make any difference. Can you really say, that you never ever added to a loser, that you never pulled your stop? But when you have experienced a loser becoming a disaster, when you have experienced, what adding to a losing position means, if the market continues to trade against you. When you have felt the agony and the sleepless nights thinking about your deep red position, which now became a swing trade, then you will think twice doing such a mistake again.

Why?

Because the moment you are in such a position again, the feelings attached with that situation are here again. You feel the same agony as the last time. And you will have to override such agony, if you plan to add to a loser again.

Now we all know, that sometimes adding to a loser works quite well. And here again experience comes in. You need to know when to add and when to stop. You need to know when the odds, your edge is in your favor and when all you rely on is just pure and simple hope for a miracle. You need a clear head to override your emotions. You need to have emotions in a trade, they are a warning sign. Beware, that combination of facts lead to disaster, led to huge profits the last time, but you missed them, because you pulled the trade. You need the clear head to analyze the facts, to see, if the situation is really the same. You need to decide in split seconds if you have the home run or a potential disaster in your hands.

I went Short IBEX35 at 903, when I took the trade the candle was still red, momentum was with me, we had a huge Gap, other European indexes were ticking down as well, so it was a trade the Gap fill kind of trade. Disaster Stop above the high at 933 for a 300 Euro Stop as IBEX35 can move fast, shows a good spread at times and I don't like to be picked by snipers on a possible 60 point Gap Fill trade.

Sure enough IBEX35 traded against me upto 921 after bouncing from 902. But it came back and it hesitated and hesitated, 905, 906, 909, 905, 903, 902, 904, 906.

DAX in a very, very small 2 point range for 15 minutes, FTSE ticking up and up and making a new high. DAX ticking up as well. A 25c order traded at 907.

I've been in such situations. I felt myself holding my breath for the spike I knew would come, I felt a pressure around my ribcage as if someone was trying to hold me tight.

Exit 908

905 trades...you idiot I was thinking, but 1 second later SPIKE

Once the trade is closed let yourself feel your emotions. Go over the trade again in your mind. Did you follow your plan, what were you feeling, when entering, during and when you decided to exit the trade. Was the feeling correct, was it based on fact or just irrational anxiety, fear and the facts after the trade proved your feelings wrong. Don't let an extremely valuable experience slip away emotionfree by learning nothing from it. You will just have to pay the price again. You will make the same mistakes again and again as long as you don't learn from them. Add emotion to your trading, attach emotions to your setups, to your trading style and you will be the better trader.

2 comments:

Caravaggio said...

Nice post Globetrader. Stripping out emotions completely works for some traders but I too, am not one of them. With emotions we can conditions ourselves to perform better, as you discuss, but I also think we need to keep on our toes because emotions are a double edged sword and feelings such as revenge, risk aversion and hope, can also transpire to trip us up. I think traders need to be able to step outside of themselves and assess their emotional state. Personally, I find it hard to block out these gremlin type emotions, but by focusing on how I feel when I let them take control, and by referencing past disasters, I am better able to behave more rationally.

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