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To function and exist in society, we as human beings operate under a social paradigm or level of social conditioning that allows this to occur relatively smoothly for the vast majority. As traders and active investors in the markets however, these same paradigms can often be detrimental to our success and profitability. The decisions we make in society ‘usually’ conform to a general set of criteria or guidelines that serve in these social environments. These include such concepts as being right, not wanting to be a loser, going with the flow, accepting the decisions of ‘experts’, and a wide variety of other societal norms. These decision making processes have quite the opposite effect when applied to the markets. Adjustments need to be made in order to accept such market paradigms as being a loser (sometimes quite often), buying high and selling higher, cutting losing positions and many others. Implementing a decision making process that is empathetic with the market takes time and effort to learn and apply, and many of these decisions will be contra to what we have learnt as acceptable from a societal perspective.

So, how do we arrive at the decisions we make? What are the thought patterns we establish, the influences we take on board?

The following excerpts are taken from a modern psychology book on the subject of human decision making. The book is “Psychology, Themes and Variations” by Wayne Weiten, 2001,

“Most people try to be systematic and rational in their decision making. Most traditional theorists in economics assumed that people made rational choices to maximise their economic gains. Herbert Simon, winner of the Nobel Prize for Economics in 1978, demonstrated that people have a limited ability to process and evaluate information on numerous facets of possible alternatives. Thus, Simon’s theory of bounded rationality asserts that people tend to use simple strategies in decision making that focus on only a few facets of available options and often result in irrational decisions that are less than optimal.”

“Many decisions involve choices about preferences. In selecting alternatives that reflect preferences, people generally weigh known outcomes (apartment A will require a long commute to campus, car B will get 30 miles to the gallon, and so forth). In contrast, risky decision making involves making choices under conditions of uncertainty. Uncertainty exists when people don’t know what will happen. At best they know the probability that a particular event will occur.”

Wayne Weiten also says:
• “The availability heuristic involves basing the estimated probabilities of an event on the ease with which     relevant instances come to mind.”
• “The human mind is wired to think in terms of raw frequencies rather than base rates and probabilities.”
• “Evolutionary theorists also argue that the human mind is wired to count the frequency of whole objects,     actions and events rather than parts.”

From a trading perspective this means that traders easily identify with accumulating counts of events, such as “I had six losses out of 10 trades”. This will have far more significance to a trader who has not yet conditioned his/her mind to think like a trader. Add to this the fact that the human mind is hard-wired to avoid emotional pain. Conditioned by living in society for many years, the trader associates losing trades with emotional pain. Six losses out of 10 will cause immense psychological conflict. Resolving this so that such a situation no longer causes conflict but indeed is perceived as a natural occurrence, requires a transition process that changes the current wiring of your mind.

Traders with unconditioned minds will have even more difficulty comprehending the role different size winning trades and different size losing trades play in their potential for success. This is because people who think like a trader are required to think in terms of the parts rather than the whole. They must combine the parts of winnings and the parts of losses with the actual count of the winners and losers to determine whether they have odds in their favour of winning on an ongoing basis. This requires thinking in parts on two dimensions.

And as these psychological researchers have found this is unnatural for human beings and hence requires much effort and learning to change.


  • Ron smart says:

    Enjoyed this week’s article about the trader’s mindset.
    However, you made the comment –
    “This is because people who think like a trader are required to think in terms of the parts rather than the whole”
    which seems to somewhat contradict your oft repeated maxim –
    “Concentrate on your equity curve rather than individual trades.
    Am I misunderstanding something here ?


    Ron Smart

  • Geoffrey Gray says:

    The article has truth but it does treat the process as needed ie does the “trader ” per se understand the dynamics of the market and their relationship to it. The market is a living organism with no scruples and many who hang on to be involved without putting their toes in the water. It is almost impossible to have conversations about the objective ie where do I fit so I do make unwise decisions. Losing money is never pleasant but if reasonable effort was made and it was within the “limits” then accept it. It is when we just want to go for a ride, do not want to learn and believe that others will always act in our best interests. Attachment, not being in sync with time and greed are,lack of preparation, I believe, the greatest problems as well as making the decision
    If we focus on getting those who reckon they can do better than a team of experts on when to move to make that important decision knowing what the outcomes may be, then you grow within. It takes time. Are you prepared to do it?
    Loss is another aspect given the wrong emphasis. Avoid those who do not want to know why.

  • Tom Mckernan says:

    What people think is governed by what they believe. Geoff thinks the market is alive, however it’s not. The people that buy and sell shares are alive and manifesting their passion for money, through the market.

    I think that your saying is, I need to stop being governed by my bigotries and focus on what’s happening. The market is where businesses are valuated by the shareholders; nothing more, or less.

    I may like to think that the devil rules it and those fiends that are damned to hell fire, are making me loose my money, but I don’t. I’m aware of ignorant people’s opinions about the share market, including mine. I also know that it’s impossible to buy a sure thing.

    I know that ignorant people tend to be the shareholders of ASX listed companies. I will adjust my expectations accordingly.

    Thanks for educating me.

  • Gary Stone says:

    Response to comment by Ron:

    “Am I misunderstanding something here ?”

    The point that isn’t made that clear in the blog posting is that human beings have trouble thinking is terms of parts, such as probabilities and odds or chances of success, Probability, or degrees of success, will always be a part of a whole and we have been wired through the ages to think in terms of whole numbers, not fractions or fractions of fractions.

    The point that research psychologists make is that as a hunter gatherer humans didn’t go out to hunt half an antelope or a part of one that would be required to feed his family. And modern day human’s minds, across the species, haven’t evolved to the point where thinking in terms of the parts of the whole still isn’t a wired or natural way of thinking.


  • john beckman says:

    Humans are not machines but macines are created by humans and therefore machines are not”true machines” butan extention of human creation
    and therefore can be imprved by more refined human programing.Hoever humans can learn alot from the processes of machines.The question to be answered are machines smarter at trading shares than its human creators -they are certainly much much faster and not emotional.

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