It turns out that trading success requires: a) personality strengths; b) cognitive strengths; and c) a developmental process that leverages those strengths in finding good risk/reward opportunities.
Great performers--great actors/actresses, great athletes, great musicians--are great at some-thing. When we're great at something, we intrinsically enjoy exercising those talents and skills. That intrinsic excitement drives and supercharges our learning process.
Elite performance never came from standard learning efforts. It's what sets our soul on fire that leads to deep and sustained learning.
What sets your soul on fire, in and out of markets? Most likely, that's the performance path to pursue.
Below are interview/podcasts that I have participated in recently on the topic of trading psychology. The groups hosting the podcasts represent unusually valuable resources for traders and are worth checking out:
One's skill as a trader is only as good as one's ability to generate ideas worth trading. This is an underappreciated aspect of trading performance.
Specifically, we can look at the idea velocity of a trader--the number of independent ideas generated per unit of time--as an important component of trading success.
Why is this?
Imagine a trader who generated one good trading idea per year. That one trade would have to be sized quite meaningfully and held for quite a while to generate a year's worth of income. Indeed, it really wouldn't be a trade; it would be an investment. But with only one idea per year, it would be an undiversified investment. If the idea didn't work out, losses could be significant, but more importantly there would be no other source of returns. Over time, such a low velocity trader/investor would have a very lumpy set of returns, unless they just happened to hit one big idea after another infallibly.
At the other end of the spectrum, imagine the skilled daytrader who notices many different trades setting up among many different stocks or instruments. That trader is highly diversified on a serial basis, as each day's returns reflects the probabilistic outcome of many bets. That will produce a smoother equity curve.
The skilled hedge fund manager generates many independent trade ideas at one time and weights them properly within a portfolio to achieve diversification benefit. The idea velocity is achieved by researching across multiple markets and strategies and putting on many bets at once.
In my recent webinar (you can listen to it here), I emphasized that there are two broad sets of skills that define successful trading: pattern recognition and analysis. I also pointed out that extraordinary returns in trading come from unusual talents and skills in at least one of these areas. An important way that these skills are manifest is through idea velocity. When someone is a great pattern recognizer, they recognize many patterns. When someone has great analytical skill, they research effectively and generate many ideas. Profound talent and skill manifest themselves in creativity.
A recognition of the importance of idea velocity helps us appreciate why, increasingly, we're seeing superior returns among discretionary portfolio managers who make use of quantitative models and trading strategies. Computers simply have more bandwidth than people, both in terms of the number of patterns that can be recognized and the number of markets and strategies that can be researched. Moreover, the use of automation enables the trader to not only generate many ideas but trade them simultaneously--again vastly expanding the number of sound, independent bets placed per unit of time.
A recognition of the importance of idea velocity also helps us appreciate why traders learn and perform better in team settings. Teams model more and different ideas and ways of generating ideas and teams share ideas they generate. A team of discretionary traders, each of who generates independent models and automates their trading strategies, is powerfully diversified, able to make money in dozens of ways.
Idea velocity encourages us to get broader, not just bigger.
My subway ride to the hedge fund where I'm working today was an interesting one. I was standing on the platform waiting for the next train. I was thinking about something I had read on the train ride from Connecticut to the city. The gist of what I read was that, in biblical times, people worshiped by sacrificing animals. Today our worship can take a different form: by sacrificing our animal needs and desires and using them for spiritual growth and development. Thus, for instance, I can work as a trading coach to accumulate money and material things, or I can work to become a meaningful part of people's and use the money earned to better my family and the world. It's not that we fight against our animal nature; it's that we tame it, elevate it, and direct it wisely. We can eat for gluttony or we can eat for health.
So that's what I was thinking about standing on the subway platform. A young woman walked in front of me listening to music on headphones and bopping about. She then turned around, walked in front of me again, and kept grooving to the music. By the third time she did this, I felt a little distracted, a little annoyed.
The train stopped, we got on, and Ms. Headphones continued to bop on the train. I was going to sit down, but I noticed a man lying down on the seat. He was noticeably dirty and smelled bad. My impression was that he was a homeless person. I stood nearby but chose to not sit next to the man.
Ms. Headphones, still dancing to her music and smiling, took off the shawl she was wearing and wrapped it around the man. She then offered him a piece of gum. He looked up bleary eyed, took the shawl off of himself, wadded it up, and used it as a pillow. She looked at me, we both smiled, and she continued her dance.
So I'm reading and thinking about using the animal/material world to achieve a higher purpose, but this young woman was actually living the lesson. Out of her happiness--her dance--she freely gave of herself, oblivious to the man's appearance and smell.
Authenticity is about living our truths, not just talking them or studying them.
How authentic is your trading?
If someone watched you trade, would they know what your plans were for the day? Would they know what you were working on?
There is talking the talk and there is walking the walk. If we are not authentic in our trading--actually acting on our beliefs and understandings--all our plans and journal entries are empty. There is a profound message in the young woman's actions: we find our authenticity when we live our joy and we find joy when we are who we are meant to be.
Trading is one of the most challenging, stimulating, and potentially rewarding careers I can think of. Every day is a new challenge. Every day pushes us to overcome the biases and tendencies that get in the way of sound decision-making. Like all great performance activities, trading rewards our self-development.
But what are reasonable expectations for a learning curve for traders? Some years ago, I looked at research concerning the success rates of day traders and the numbers were sobering. Over 80% of traders were unprofitable in the study and, after expenses, only a small proportion were profitable. Not surprisingly, the smallest traders tended to be the least successful. The larger ones, of course, were large precisely because they had accumulated some degree of success.
This is not only true of day traders. Research by Barber and Odean finds that individual investors consistently underperform the market and fall prey to trading biases. Recent research finds that the average active trader not only loses money, but persists in trading after being unprofitable.
That's the part that trading educators, coaches, brokerage firms, and others don't like to emphasize. Just like in acting, just like in music, just like in athletics: many are called, few are chosen. The proportion of people who can make their living from golf, chess, football, or car racing is a fraction of the people who participate in those activities.
What that means is that any developing trader has to approach their learning curves with eyes wide open and ask the questions, "Am I on track? Is this where I'm going to find my success?" It's nice to dream of trading success, but it's important to understand the realities of making it as a trader.
Bella at SMB recently wrote about a trader who was now earning a nice paycheck after 18 months of trading. I happen to know this trader personally and heartily agree that he has a bright future. I also know that we had recognized his potential during his first year of trading. Still, it has taken a while to bring home that paycheck. In his admirably honest post, Bella notes that it typically takes 18 months to two years for a trader to achieve significant profitability (i.e., to make a living from their trading). And that is with considerable mentoring, support, education, and coaching.
In an earlier post on the failure rate of prop traders, Bella notes that every developing trader needs to anticipate 6-8 months of hard work and study when they start out. My experience is that it is during that initial 6-8 month period that we see the shape of learning curves. During the first year, the trader develops his or her style of trading, builds a playbook of opportunities, and displays growing consistency in following and profiting from that playbook.
During the second year, the trader builds on that consistency to take more risk, manage that risk well, and find new sources of opportunity. It is after the first year of trading better that the trader becomes bigger, and that's when the paychecks start. If traders are still struggling to find consistency and their own style after a year of effort, the conditional probabilities of meaningful success go way down. When innate talents fuel skill acquisition, learning curves are quicker and steeper. I have found that success in year one is highly predictive of longer term success.
And so it is in all performance fields. If, by your junior year of college, you are only able to make the second team of your school's basketball squad, you probably should be planning alternatives to an NBA career. That doesn't mean you can't enjoy basketball as an avocation, and it doesn't mean that your accomplishment is meaningless. It just means that your greatest career success will be found elsewhere.
This month alone I have heard from several traders who have spent years--and all their family's money--pursuing one trading strategy after another. They are broken people, and they have hurt their families in the process. They could not let go of the dream, and it became a nightmare.
If you're a developing trader, pour yourself into learning. Find yourself mentors and colleagues you can learn from. Work as hard on your trading outside of market hours as when you are trading. And then gauge your progress. Have the courage to let your dreams become realities, and have the wisdom to not allow them to become nightmares.
Here's an interesting observation I've made about traders who are doing well recently versus those not doing so well:
It's not just the quality of the trades that distinguishes the successful trader, but the quality of the time during market hours when they are not trading.
The least successful traders are glued to screens throughout the day and have very little structured, quality time away from the screens.
The more successful traders take breaks during the day and keep themselves fresh and focused.
The most successful traders have a structured non-trading process during market hours. They are just as plan-oriented in their non-trading time as in their trading time. When markets are open and they are not trading, they have processes they follow to identify new opportunities and to maintain their performance zone.
Productively planning and structuring your non-trading time: that is an unappreciated best practice. The great traders are highly productive when they are *not* trading. A big step that can move your trading forward is to start keeping a report card where you grade the quality of your time during the trading day when you are not trading.
On Monday at noon EST, I'll be joining Jigsaw Trading for a free webinar on three psychological techniques to improve trading psychology. In that session, I will go into detail about specific practices I see best traders engaging in during non-trading hours. Registration for the session can be found here; I hope to see you there!
This session will be different from my recent presentations, as we will focus on three specific psychological techniques that have been found to be effective in controlled outcome research. These methods effectively address such issues as performance pressure/anxiety; frustration/overtrading; and loss of trading discipline.
The goal is to describe these techniques in how-to terms that will allow traders to take skills away, practice them, and truly become their own trading coaches. And, even if you're like the puppy and just want a comfortable spot, you're welcome on the couch on Monday! Look forward to seeing you there--
One of my favorite measures of buying and selling pressure is the moment to moment upticks versus downticks across all listed stocks. Most of us are familiar with the NYSE TICK measure ($TICK), which tracks the number of stocks trading on upticks versus downticks for all New York Stock Exchange listed issues. The U.S. TICK ($TICK.US-ST on the e-Signal platform) measure simply extends this measurement to all stocks, and so it is more inclusive of small cap issues.
Another strength of the U.S. TICK measure is that its opening readings look at upticks/downticks from the opening prices of stocks, not from the prior day's close. As a result, the numbers are not skewed by the overnight gap in prices: we get a purer sense of buying and selling flows during the day session itself.
The major value of the U.S. TICK measure, however, is that it tells us who is controlling the market: the buyers or the sellers. If we get persistent and high positive readings, we know that institutions are lifting offers across a wide range of stocks. Conversely, persistent and extreme negative readings tell us that institutions are hitting bids across the universe of shares.
Notice on 3/2/18 how the evolving U.S. TICK numbers were positive and got more positive as the morning progressed. We barely saw any net selling pressure whatsoever. Even in the afternoon pullbacks, buying and selling activity were only relatively balanced (pullbacks to the zero area) and price held well off the morning lows.
(As an aside, the outperformance of U.S. TICK relative to $TICK was a nice tell for the relative strength of small cap shares that day).
This ability to see how the tug of war between buyers and sellers is evolving as the market unfolds helps us check our assumptions and adjust to how the market is *actually* changing. I came into the day with bearish expectations, partly due to our difficulty in bouncing from oversold levels and partly due to the trade war news. The early strength in buying pressure was a great indication that the market, in fact, was dominated by the buyers. Sure enough we experienced an upside trend day, where we opened near the day's lows and closed near the day's highs.
Once we can observe the ebbs and flows of buyers and sellers, we're in a much better place to trade what we see and not what we expect.
In a recent Forbes article, a special operations leader made use of the term "battle rhythm". His point was that businesses tend to operate on cycles of observing, planning, and implementing that are too slow for the business landscape. SEAL teams have to work with rapid battle rhythms, as the battlefield is ever-changing. This means that teams are highly active and interactive, continually gathering information and processing that information to shape tactics and strategy. Operating in a fast environment with a slow battle rhythm is like drawing a sword in battle and moving slowly. If it's a sword battlefield, you need dancers, not plodders.
This helps to explain why many traders either fail to make money or fail to perform consistently: their battle rhythm does not keep pace with their trading frequency. In other words, they may plan once a day (early in the morning) and then fail to adapt when markets change character and direction during the day. If your trading is much more frequent than your planning, eventually you'll get stuck when markets zig instead of zag.
When we see a trader who can place many trades per day and make money consistently, we tend to marvel at the speed of his or her pattern recognition. In talking with these traders, however, what jumps out is the speed of their decision-making processes. They truly work with rapid battle rhythms, constantly taking in market information, assessing its implications, and shifting tactics accordingly. One trader I recently met with rapidly switched from trading individual stocks making idiosyncratic moves to trading the broad indexes and back again solely on the basis of how things were moving relative to each other.
When our battle rhythm doesn't keep up with our trading, we set the stage for inevitable frustration. The market will change more quickly than our planning will adapt. Success requires that we trade a time frame that is longer than the time it takes us to observe market conditions, make sense of them, and figure out their relevance for our trading. We overtrade when we place new trades faster than we can engage in new thinking.
As I note in the latest Forbes article, structuring mentoring and coaching within trading teams has greatly increased the success of training traders. The technique of the daily report card, in which traders review key aspects of their trading daily and share their grades and observations with mentors, coaches, and peer traders, has meaningfully accelerated the learning curves of many traders who have adopted this framework.
If you have not achieved the trading results you desire, I encourage you to consider the possibility that the problem may not lie with your psychology or with your use of any particular set of trading tools. Rather, you may be honing your skills in entirely the wrong way. You would never learn and master basketball, chess, or surgery in a classroom or through videos, followed by solo experimentation. Why would the performance domain of trading be any different?
I encourage you to reflect upon the daily report card framework and how turning learning into an active and interactive enterprise could accelerate your learning curve.