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Six Insights for Disciplined Trading

1) Trading is a probability game.  You can’t be a perfectionist and expect to be a great trader. Your losses (that you hope will return to breakeven) will kill you.

2) Jumping in too soon or getting in too late.  These mistakes come from traders not having a well-defined plan of how they will enter the market.  This positions the trader as a reactive trader instead of a proactive trader, which increase the level of emotion the trader will feel in reacting to market movements.  A written plan helps make a trader more systematic and objective, and reduces the risk that emotions will cause the trader to deviate from his plan.

3) Not taking profits on winners and letting winners turn to losers.  Again this is a function of not having a properly thought-out plan.  Entries are easy but exits are hard.  You must have a plan for how you will exit the market, both on your winners and your losers.  Then your job as a trader becomes to execute your plan precisely.

4) Great traders don’t place their own expectations on to the market’s behavior.  Poor traders expect the market to give them something.  When conditions change, a smart trader will recognize that, and take what the market gives. 

5) Emotional pain comes from expectations not being realized.  When you expect something, and it doesn’t deliver as expected, what occurs? Disappointment.  By not having expectations of the market, you are not setting yourself up for this inner turmoil.  Douglas states that the market doesn’t generate pain or pleasure inherently; the market only generates upticks and downticks.  It is how we perceive and respond to these upticks and downticks that determine how we feel.  This perception and feeling is a function of our beliefs.  If you’re still feeling pain when taking a loss according to your plan, you are still experiencing a belief that your loss is somehow a negative reflection on you personally. 

6) The Four Major Fears – fear of losing money, being wrong, missing out, leaving money on the tableAll of these fears result from thinking you know what will happen next. Your trading plan must approach trading as a probabilities game, where you know in advance you will win some and lose some, but that the odds will be in your favor over time.  If you approach trading thinking that you can’t take a loss, then take three losses in a row (which is to be expected in most trading methods), you will be emotionally devastated and will give up on your plan.

Trading Commandments From A Samurai

1. “Accept everything just the way it is.”
= accept the market reality in front of you.
2. “Do not seek pleasure for its own sake.”
= don’t trade for pleasure
3. “Do not, under any circumstances, depend on a partial feeling.”
= don’t jump or out of trade on shallow half-baked impulsive feelings.
4. “Think lightly of yourself and deeply of the world.”
= don’t take your trading skills too seriously, take the ability of market to surprise seriously.
5. “Be detached from desire your whole life long.”
= make money, but don’t let money make you.
6. “Do not regret what you have done.”
= smile at your mistake, laugh off your profit.
7. “Never be jealous.”
= what you’ve got is good and enough and incomparable
8. “Never let yourself be saddened by a separation.”
= a loss is never final. it either stays back as lesson or returns as profit.
9. “Resentment and complaint are appropriate neither for oneself or others.”
= accept the reality, keep the power with yourself by not complaining.
10. “In all things have no preferences.”
= don’t measure your profit or loss, just measure them by the lesson or experience.
11. “Do not act following customary beliefs.”
= dare to think!
12. “Do not collect weapons or practice with weapons beyond what is useful.”
= a handful of tools are enough if you are willing to submit.
13. “Do not fear death.”
= do not fear unforeseen loss.
14. “Do not seek to possess either goods or fiefs for your old age.”
= don’t trade under pressure to accumulate profit. if you remain alive, markets will always be there. just keep learning the game.
15. “Respect Buddha and the gods without counting on their help.”
= respect luck, acknowledge god’s blessing, but don’t drag them in the market.

Addictiveness

AddictivenessTrading is also highly addictive. When behavioral psychologists have compared the relative addictiveness of various reinforcement schedules, they found that intermittent reinforcement – positive and negative dispensed randomly (for example, the rat doesn’t know whether it will get pleasure or pain when it hits the bar) – is the most addictive alternative of all, more addictive than positive reinforcement only. Intermittent reinforcement describes the experience of the compulsive gambler as well as the future trader. The difference is that, just perhaps, the trader can make money.” However, as with most affective aspects of trading, its addictiveness constantly threatens ruin. Addictiveness is the reason why so many players who make fortunes leave the game broke.”

Do Stocks Fall Faster than They Rise?

Think about it1) Markets fall faster than they rise — and options traders know this. Otherwise, arbitraging this difference would be a meal for a lifetime.

2) Market participants perhaps anticipate that the realized volatility during a bear market is greater than a bull market. However, the problem with this analysis is one might expect to see an upward sloping volatility yield curve in out-of-the-money puts (during bull markets), and yet that does not usually occur based on my tests. Conversely, right now have a downward sloping yield curve in out of the money calls — which confirms the hypothesis that market participants anticipate slower price rises in the future. [Note to quants: I am not confusing delta, gamma and vega. I’m using options to predict terminal price at expiration.]

3) For most humans, fear of loss is a stronger emotion/motivator than the pleasure of gain (greed). This is well documented in the psychology and behavioral finance literature. Hence, ceterus paribus, capital market participants (who have a net long position) will, as a group, pull their rip cord faster — to flee from risk — than they will embrace the possibility of profit.

Adictiveness

Addictive“Trading is also highly addictive. When behavioral psychologists have compared the relative addictiveness of various reinforcement schedules, they found that intermittent reinforcement – positive and negative dispensed randomly (for example, the rat doesn’t know whether it will get pleasure or pain when it hits the bar) – is the most addictive alternative of all, more addictive than positive reinforcement only. Intermittent reinforcement describes the experience of the compulsive gambler as well as the future trader. The difference is that, just perhaps, the trader can make money.” However, as with most affective aspects of trading, its addictiveness constantly threatens ruin. Addictiveness is the reason why so many players who make fortunes leave the game broke.”

Booking Losses Before They Occur

There is a meaningful difference between trading to win and trading to not lose. The average person feels more psychological pain over a loss than they feel pleasure over a gain–particularly once they have already “booked” that gain mentally.

When we enter a trade, we expect to be paid out. Mentally, we book a potential profit. When a loss materializes, it is the unexpected event–and we respond more strongly to the unexpected than to the familiar.

What is the solution to this dilemma? The answer, surprisingly, is to book losses before they occur.

It’s human nature to not want to think about such unpleasant things as losses. But by knowing our maximum possible loss in advance and by mentally rehearsing what we’ll do on those occasions when the loss occurs, we normalize the losing process. That divests it of its emotional grip.

We can never eliminate loss from life or trading; nor can we repeal the basic uncertainties of markets. What we *can* do is develop an edge in the marketplace and, over the course of many trades, let that edge accumulate in our favor.

Wealth Principles

  • Your income can grow only to the extent you do
  • If you want to change the fruits, you will first have to change the roots.  If you want to change the visible, you must first change the invisible.
  • Money is a result, wealth is a result, health is a result, illness is a result, your weight is a result.  We live in a world of cause and effect.
  • Thoughts –> Feelings–>Actions–>Results TFAR
  • When the subconscious mind must choose between deeply rooted emotions and logic, emotions will almost always win
  • If your motivation for acquiring money or success comes from a non-supportive root such as fear, anger, or the need to “prove” yourself, your money will never bring you happiness
  • The only way to permanently change the temperature in the room is to reset the thermostat.  In the same way, the only way to change our level of financial success “permanently” is to reset your financial thermostat.
  • Consciousness is observing your thoughts and actions so that you can live from true choice in the present moment rather than being run by programming from the past.
  • You can choose to think in ways that will support you in your happiness and success instead of ways that don’t.
  • Money is extremely important in the areas in which it works, and extremely unimportant in the areas in which it doesn’t.
  • When you are complaining, you become a living breathing “crap magnet”
  • There is no such thing as a really rich victim!
  • If your goal is to be comfortable, chances are you’ll never get rich.  But if your goal is to be rich, chances are you’ll end up mighty comfortable.
  • The number one reason most people don’t get what they want is that they don’t know what they want.
  • If you are not fully, totally, and truly committed to creating wealth, chances are you won’t.
  • The Law of Income:  You will be paid in direct proportion to the value you deliver according to the marketplace.
  • “Bless that which you want.”  -Huna philosophy
  • The secret to success is not to try to avoid or get rid of or shrink from your problems; the secret is to grow yourself so that you are bigger than any problem.
  • Money will only make you more of what you already are.
  • The true measure of wealth is net worth, not working income.
  • The habit of managing your money is more important that the amount
  • Either you control money, or it will control you.
  • The Rich see every dollar as a “seed” that can be planted to earn a hundred more dollars, which can then be replanted to earn a thousand more dollars
  • Action is the “bridge” between the inner world and the outer world
  • It is not necessary to try to get rid of fear in order to succeed
  • If you are willing to do only what’s easy, life will be hard.  But if you are willing to do what’s hard, life will be easy
  • The only time you are actually growing is when you are uncomfortable
  • Training and managing your own mind is the most important skill you could ever own, in terms of both happiness and success

William Eckhardt Trading Quotes

  • “Don’t think about what the market’s going to do; you have absolutely no control over that. Think about what you’re going to do if it gets there. In particular, you should spend no time at all thinking about those rosy scenarios in which the market goes your way, since in those situations, there’s nothing more for you to do. Focus instead on those things you want least to happen and on what your response will be.” – William Eckhardt
  • “Trading is also highly addictive. When behavioral psychologists have compared the relative addictiveness of various reinforcement schedules, they found that intermittent reinforcement – positive and negative dispensed randomly (for example, the rat doesn’t know whether it will get pleasure or pain when it hits the bar) – is the most addictive alternative of all, more addictive than positive reinforcement only. Intermittent reinforcement describes the experience of the compulsive gambler as well as the future trader. The difference is that, just perhaps, the trader can make money.” However, as with most affective aspects of trading, its addictiveness constantly threatens ruin. Addictiveness is the reason why so many players who make fortunes leave the game broke.” – William Eckhardt
  • “If you’re playing for emotional satisfaction, you’re bound to lose, because what feels good is often the wrong thing to do. Richard Dennis used to say, somewhat facetiously, “If it feels good, don’t do it.” In fact, one rule we taught the Turtles was: When all the criteria are in balance, do the thing you least want to do. You have to decide early on whether you’re playing for the fun or for the success. Whether you measure it in money or in some other way, to win at trading you have to be playing for the success.” – William Eckhardt

Trade with Discipline

Without discipline, you will be unable to master your ego, create empowering beliefs, have faith, and develop confidence in your abilities. The lack of discipline will prevent your skill as a trader from progressing.”

Making an occasional winning trade, that ignores your trading plan, may provide short-term pleasure, but entering trades unsystematically can adversely influence your ability to maintain discipline over the long term. Why? When you stop following your plan, you are being rewarded for a lack of discipline. You may start believing that abandoning your plan is therefore not a big deal. Then, whether consciously or unconsciously, you’ll begin to think: “I was rewarded once; maybe I will be rewarded again. I’ll take a chance.” Positive outcomes from undisciplined trading are most often short-lived, and the lack of discipline will ultimately produce trading losses.

Who cares if the win is from my plan or not? It’s still a win, right! A win that results from following a trading plan reinforces discipline. A win that occurs by chance (deviating from your plan) will increase your bottom line temporarily, but may cause harm to your psyche and be responsible for future unexplained losses. It reinforces undisciplined trading. (more…)