Accepting the Uncertainty of the Markets

#1
Here is an interesting article I would like to share with the other members of this forum. This article specially applies to professionals like CA's Dr's, MBA's and Engineers, etc who start trading in the markets with a preconcieved set of notions carried over from their professional life. As this was emailed to me, I do not know the author or source of this article.

Accepting the Uncertainty of the Markets

Accepting the Uncertainty of the Markets

Jack is an engineer turned trader. He was the valedictorian of his college graduating class and was a successful engineer for about a decade until his company was bought out. He decided to pursue trading, and enjoys it most of the time, but today, he is angry and frustrated. Things just don't seem to be going his way, and he can't understand why. He thinks, "I was a successful engineer. If I merely apply the same approach to trading, I should make profits, but it doesn't seem to work. What am I doing wrong?" Jack faces a problem familiar to most novice traders who move from a successful professional occupation to trading. He is trying to apply what he has learned as an engineer to trading, and it isn't paying off in quite the same way.

Whether you admit it or not, trading is different from many other professions, and if you pretend it is not, rather than recognize how it is different, you'll feel disappointed and want to give up. You don't have to feel discouraged, however. With the right mindset, you'll feel empowered and ready to master the markets.

Scientists and engineers work in the physical world where everything is usually concrete, quantifiable and predictable. Traders, in contrast, work in the social world. Market participants are humans, and social scientists discovered long ago that people are not predictable. People are influenced by their moods, and their moods waver, easily swayed by events of the day.

You never know what people are focusing on during any given moment. They may be distracted and thinking of what they are going to have for dinner rather than paying attention to what really matters. They may make impulsive decisions rather than those based on logic. But by chance, at other times, they may behave precisely as expected. The social world is not like the physical world. Traders are part of the social world. They aren't predictable as ocean waves, which are controlled by gravity. They don't behave according to a magical set of proportions found in nature. They are inherently chaotic, mysterious, and ultimately, unpredictable. So if you try to control, predict, or completely understand people, you will fail. Not recognizing this fact is what leads many novice traders, like Jack, to fail.

In many walks of life, we are taught that responsible people try to anticipate every single event that may go wrong, and compensate for it. We are fortunate that in many occupations, responsible people are in charge. Pilots are careful to follow a flight plan. Surgeons are careful to follow medical procedures precisely to ensure success. And it is wise for traders to trade responsibly by managing risk, delineating a detailed trading plan, and trying to anticipate any adverse events that may thwart their trading plan. There is a point, however, where what you can do is limited. Since you are not dealing with the physical world, but a human and unpredictable trading world, you cannot assume that you can have the same level of control to which you are accustomed. In the final analysis, you must realize what you can change realistically and what you can plan for, but at the same time, you must be wise enough to realize that you can't account for everything. There is no such thing as perfect knowledge in the markets or conventional wisdom that is always right. There is always an element of uncertainty and risk, and it is vital that you acknowledge it and accept it.

It is essential that you approach trading with an objective and realistic mindset. It is important to acknowledge that the markets are unpredictable and often chaotic. As much as we try to find meaning and consistency in the chaos, it is wise to remember that we may be wrong, and that the markets behave consistently only when they do. The rest of the time, there's nothing we can do. Accepting what you can and cannot control can do wonders for your outlook. There's a sense of freedom that comes with knowing one's limitations. The more you can accept what the markets can offer you, rather than you trying to unrealistically control the markets, the more profitably you will trade.
 
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#2
Excellent article.

It is very important for all traders and investors to realize this fact (specially professionals, being one myself) before venturing to trade in the markets.
 

sh50

Active Member
#3
Excellent article

A lot of people have the perception that the stock market is a place to make easy money. Nothing could be further than the truth. There is a synergy between the stock market and the mind. It is said that the Mind is like a drunken monkey stung by a scorpion . The stock market is also quite like that because of its irrationality and unpredictability. If I may add, from whatever I have learnt about Technical Analysis since January this year, it is like meditation because it attempts to bring about a semblance of normalcy in the midst of chaos. Meditation is supposed to regulate thought patterns ( An untrained mind is like a wild horse- restless) and bring about peace. Similarly Technical analysis also has a calming effect because that really is the only barometer of what is transpiring currently. In its absence there would be confusion which is the chief cause of fear.

Another analogy could be the saying The boss is always right - One should remember here that the market is the boss and one should surrender to the market the way they teach ego surrender to the guru in spirituality. The market after all is the supreme guru here and one should get out immediately once the stop loss gets activated instead of trying to figure out why one was right or wrong The market is always right. This is also profitable surrender to the guru.

Since you have specifically mentioned professionals, I would like to add that my father , a chartered accountant and a very successful investor when he now tries to trade in the markets(without any knowledge of technicals) like he is indulging in play the way girls play with dolls in the context of what all I have learnt about Technical analysis in this forum and elsewhere.

It would also not be out of place to mention what one experienced and knowledgeable( well versed in candlesticks and Bollingerbands) told me, You will find people who know a lot but unsuccessful and you will find people who do not know much but are supremely successful ( Jab Taqdeer Maherbaan, tab gadha Pahelwaan)

It is not only professionals but young people also who mainly fall prey to the vagaries of the market. In the last one month, I learnt about two young guys who lost 40lakhs and 33 lakhs in one shot. My Uncle was a subbroker in Bombay and ruined himself as a young man because of lack of proper education about the market. Any young person can be enticed by the stock market. It is ironical that the structured education on this subject in India is nowhere near what it is in the US.

Not only this all the other aspects of financial management must be covered- market intelligence, accounting, investing and tax planning. I have both read about and come across Engineers who have been fleeced because of their lack of knowledge of practical accounts. Business people are vary of disclosing details to their Chartered accountants. Like in any other business, one has to know the creative side( Market intelligence, Investing) and administrative side( accounting, Tax Planning) . If you are good at shares and tax planning, it can be a case of Heads I win tails you lose

The fact that Human beings are creatures of emotion and not of logic is true for the stock market than anything else which is lightly expressed below:-

There are primarily 3 different types of investors who post on the message boards.

1) Those who don't know anything: approx. 10%

2) Those who know a little: approx. 10%

3) Those who don't realize they don't know anything: approx. 80%

Actually, the entire financial education should be imparted from school onwards for the simple reason that everybody irrespective has to mange money and in some cases the cost of ignorance is extremely high.
 
#5
Hi everyone - copied this from HS


: Psychological Aspects of Trading
: I have recently been reading a study by Terrance Odean, an assistant professor at the University of California.

: Odean received the trading history of over 60,000 accounts that where active been 1991 and 1996 from a discount broker and used the data to study the trading behaviors of online investors. Not surprisingly, most of them underperformed the stock market and only a small minority beat the market. In fact only half of active traders managed to just break even. Most simply made little or lost a little. Only a small minority produced outstanding returns(the top 5% had an average return over 2.41% a month and only 1% had a return over 4.86% a month. Professional investors do not fare all that much better as half of all mutual funds fail to beat the S&P 500 index every year.

: The failure rate of investors and traders is a different picture than that which is portrayed by online and traditional brokers through their advertisements. In fact if most people actually lose money in the stock market, then the market is more like a pyramid scheme in which wealth is simply transferred from the mass and given to the brokers, stock manipulators, market makers, and a small super trading elite at the top than the get rich fantasy that is so often presented. A view that some might find romantic would picture it as a pure Darwinian survival of the fittest and leave out the part about the manipulators. One would need more data to confirm if either of these views are true. A study on how many trading accounts are opened and closed would prove or disprove this. If brokers must continually recruit new accounts to replace ones closed due to losses than these two pictures of the market are correct. Money earned outside of the market is brought into it and given to professionals and manipulators. Just like a ponzi scheme, more money has to be recruited to keep the engine running. For a pyramid to continue new blocks must be placed on it. No matter how the market is structured, what is more interesting is trying to figure out why it is that many people lose money and a few make a lot of money in the stock market. What can we learn from that to increase our own returns?

: How do most people lose money? Odeans trading data shows that almost all individual investors generate poor returns by selling winning stocks too soon and holding on to losers. He argues that they do this because they are "overconfident." They consistently believe that their losers will come back and the market ends up proving them wrong. When they have a winner they sell them too soon, fearing that it will become another loser.

: Odeans study provides a great resource about the behaviors of active investors. However, any conclusions about motivations that can be drawn from the data are merely theoretical and cannot be proven. This isnt his fault, its simply the nature of proof and evidence. There is no way one can extrapolate the motivations of thousands of individuals by studying number data and one doesnt have the resources to ask all of these people about their motivations. One can only manufacture logical explanations from the data.

: This isnt a bad thing. You can learn a lot by thinking in that manner. My guess is that people do not lose money in the markets because they are stupid or because they arent pros. Remember that most mutual funds also underperform the stock market. I believe the primary difference between winners and losers is psychological. Winners and losers are presented with the same set of information, however the winners take different actions. What guides their actions? From my own history of losing and then making a lot of money in the stock market and study of general and trading psychology Ill try to come up with some explanations. I believe that the actions of losing traders are guided by fantasy and a fear of losing while winning traders are guided by confidence. Without the proper mindset and attitude you cannot make money in the stock market. Its not a guarantee to being successful, but its a prerequisite. However, the stock market is an environment that makes it difficult for most people to obtain this proper mindset, let alone maintain it.

: environment -> senses -> beliefs -> identification -> motivation -> actions

: The human mind gathers information about the outside world through the uses of its senses. It recognizes the information and then processes it. It then identifies it and responds to it with a whole host of beliefs, unconscious and subconscious. Based upon a persons motivations and interpretations of what is taking place he carries out an action. The key is that actions that people take are based upon their own set of associations with what is going on in the world outside of them. These associations are based upon past experiences and a persons beliefs about himself and the task at hand. The world consists of inputs that make people feel and they respond.

: To relate this to trading, winning traders and losing traders experience the trading environment differently. It makes them feel different and as a result their actions consistently vary. In pyschological terms, they interpret the market differently because they have a separate belief system in the way that they see themselves relative to the stock market.

: Lets list these beliefs and actions below:

: Belief statements that different traders can make:

: Winning Traders

: The markets provide an opportunity

: The markets exist to give me profits

: If I get stopped out then I have to reevaluate the trade

: If the market doesnt do what I expect then I must reconsider

: Ill take one trade at a time.

: I dont have to be perfect, I just have to do my best.

: Money is not that important

: Losing is part of the process of making money

: Trading is a game, I know I can win

: Every setback provides me with new market information

: I can wait for an opportunity to come

: Losing Traders

: I must be in the market now

: If I lose on this trade I am a loser

: If I wait for my trading rules Ill miss out

: If I get stopped out I have bad luck

: I cant lose money

: The market makers got me again

: Im an idiot, how could I lose money

: What will they think when I tell them I lost money on this one?

: The stock market is rigged

: Its impossible to get a good fill

: I cannot take a loss

: If I take my profit then I am right

: These different beliefs create different characteristics of winning and losing traders:

: Winners:

: Get pleasure from trading the market as an end in itself

: Not motivated primarily by money

: Confident that they can make money in the market

: Not afraid to take a loss

: Patient - waits for opportunities

: Uses a highly planned strategy

: Is well prepared, done his homework

: Measures the risk/reward ratio of every trade
 
#6
Part 2
: Losing Traders:

: Never define a loss

: Locked into a narrow belief system

: Hesitate to make a trade

: Do not stick to a system

: Trade by whim

: Trade by emotion

: Have no consistent strategy

: Do not practice risk management

: more interested in proving themselves right then being a success

: Financial markets are structured in such a way that make it very difficult for someone to approach them with a confident psyche; and that is why it is so difficult for most people to make money trading them. Almost all environments - the workplace, family, friends - provide external forces that limit a persons behavior. They provide a set of rules of what is right and wrong and what actions are to be rewarded or punished. This is not true for the stock market.

: The stock market does not care if you make or lose money. The market has no control over you. Since the market does not exert any external control over your actions you have to fashion your own system of rules and have the discipline to obey them in order to be successful. No one else will do it for you. You have to have the confidence to take this responsibility yourself. It takes enormous self control and discipline.

: Most people cannot take this approach. Instead they construct a fantasy in which the market provides them with future riches. They transplant these fantasies on to the individual stocks that they purchase and have difficulty confronting the reality of being wrong. When events dont match their illusions they simply ignore them. If a stock they bought drops below their purchase price they refuse to reject the fantasy that their decision to purchase the stock will make them money and instead convince themselves that it is a winner that merely isnt in favor yet.

: However, stocks do not make successful traders money. They do it themselves. Instead of believing in the power of stocks, they believe in the viability of their own trading strategy. They have faith that their own disciplined interaction with the stock market will make them money and not the other way around. The decision making freedom the stock market gives ruins most active investors, but handsomely rewards the few prudent traders.

: As I said earlier it takes extreme confidence to execute a well planned trading strategy and most people cannot find it. Instead, they often experience intense anxiety in the market. They may come to believe that the markets are rigged against them. The market doesnt cause this. Its their lack of strategy that twists them into emotional knots.

: What one has to do to move from a fear stricken psyche to one capable of building enough confidence to make money in the market is to first believe in oneself and develop a strategy that consists of strict money management techniques. Ill discuss how I have done this later. But, once you have a strategy in place you have to have the fortitude to continue to believe in it when you suffer losing trades. Losses are a part of the game. The way to make money is to accept them and to use money management techniques to keep your winners larger than your losers.

: You have to move away from a mindset that stocks will make you rich and believe that your trading method will make you money. Then you must come to realize and hold the belief that being right or wrong on each individual trade does not matter. You have to be able to move through the adversity of losing trades and hold the faith that you will make money in the long run. This is why people find it so difficult. People focus too much on the individual trades and hold unrealistic fantasies about them, while they cannot take responsibility for the decisions that go wrong. The worst ones take it personally. Most never understand what is required to succeed.

: The bad news in all of this is that if you are trying to generate large percentage returns on your account the odds are stacked against you. The odds of someone starting small and making a lot of money in the stock market are probably the equivalent of a rookie league baseball player making it into the big leagues. The good news is that most people trade recklessly, on pure emotions, and with little or no strategy so the competition isnt so hot. Dedication and following a sound strategy can go a long way. I try to demonstrate that and encourage you in that direction with this newsletter and website.

: To read the Odean study yourself click this link. Take a look at page 19.

: http://www.gsm.ucdavis.edu/~odean/papers/returns/returns.html

: Enter symbols
 
#7
joy said:
Part 2
: Losing Traders:

: Never define a loss

: Locked into a narrow belief system

: Hesitate to make a trade

: Do not stick to a system

: Trade by whim

: Trade by emotion

: Have no consistent strategy

: Do not practice risk management

: more interested in proving themselves right then being a success

: Financial markets are structured in such a way that make it very difficult for someone to approach them with a confident psyche; and that is why it is so difficult for most people to make money trading them. Almost all environments - the workplace, family, friends - provide external forces that limit a persons behavior. They provide a set of rules of what is right and wrong and what actions are to be rewarded or punished. This is not true for the stock market.

: The stock market does not care if you make or lose money. The market has no control over you. Since the market does not exert any external control over your actions you have to fashion your own system of rules and have the discipline to obey them in order to be successful. No one else will do it for you. You have to have the confidence to take this responsibility yourself. It takes enormous self control and discipline.

: Most people cannot take this approach. Instead they construct a fantasy in which the market provides them with future riches. They transplant these fantasies on to the individual stocks that they purchase and have difficulty confronting the reality of being wrong. When events dont match their illusions they simply ignore them. If a stock they bought drops below their purchase price they refuse to reject the fantasy that their decision to purchase the stock will make them money and instead convince themselves that it is a winner that merely isnt in favor yet.

: However, stocks do not make successful traders money. They do it themselves. Instead of believing in the power of stocks, they believe in the viability of their own trading strategy. They have faith that their own disciplined interaction with the stock market will make them money and not the other way around. The decision making freedom the stock market gives ruins most active investors, but handsomely rewards the few prudent traders.

: As I said earlier it takes extreme confidence to execute a well planned trading strategy and most people cannot find it. Instead, they often experience intense anxiety in the market. They may come to believe that the markets are rigged against them. The market doesnt cause this. Its their lack of strategy that twists them into emotional knots.

: What one has to do to move from a fear stricken psyche to one capable of building enough confidence to make money in the market is to first believe in oneself and develop a strategy that consists of strict money management techniques. Ill discuss how I have done this later. But, once you have a strategy in place you have to have the fortitude to continue to believe in it when you suffer losing trades. Losses are a part of the game. The way to make money is to accept them and to use money management techniques to keep your winners larger than your losers.

: You have to move away from a mindset that stocks will make you rich and believe that your trading method will make you money. Then you must come to realize and hold the belief that being right or wrong on each individual trade does not matter. You have to be able to move through the adversity of losing trades and hold the faith that you will make money in the long run. This is why people find it so difficult. People focus too much on the individual trades and hold unrealistic fantasies about them, while they cannot take responsibility for the decisions that go wrong. The worst ones take it personally. Most never understand what is required to succeed.

: The bad news in all of this is that if you are trying to generate large percentage returns on your account the odds are stacked against you. The odds of someone starting small and making a lot of money in the stock market are probably the equivalent of a rookie league baseball player making it into the big leagues. The good news is that most people trade recklessly, on pure emotions, and with little or no strategy so the competition isnt so hot. Dedication and following a sound strategy can go a long way. I try to demonstrate that and encourage you in that direction with this newsletter and website.

: To read the Odean study yourself click this link. Take a look at page 19.

: http://www.gsm.ucdavis.edu/~odean/papers/returns/returns.html

: Enter symbols
well the correct link is as follows http://www.gsm.ucdavis.edu/~odean/papers/returns/returns.html
 

sh50

Active Member
#8
I must convey my sincere appreciation for the explicit article joy has posted. I have all along been of the view that for something uncertain like the stock market where according to traderji, 95% of the people, good education becomes inevitable. Even to know the odds against you as you have been kind enough to explain is an education.

I have repeatedly proposed that people in the forum should try to meet intra-city to enable inexperienced traders to gain from their experienced counterparts. Posting is good but has limitations. The way sharemarket education is vis--vis America(trading), its almost like a club side trying to compete for the Olympics.
 
#9
Good One, Joy.

This was another very useful post. Lots to learn from it. Thanks for sharing this study with us.

Cheers Always
Gurmeet
 

kmm

New Member
#10
very good article posted by joy.
joy. would u like to share some of your trading strategies and how u evolved them to overcome trader's psychology
 

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