Module 12 Innerworth — Mind over markets

Chapter 372

Finding Objectivity in the Face of Uncertainty

Profitable trading requires an objective view of the markets, but humans are easily biased. If prices were based solely on fundamentals, anticipating market prices would be a simple matter of measuring independent variables and constructing a multiple regression equation to forecast market prices with a minimal amount of error. But current prices are over-valued and based largely on opinions of the masses.

 

Anticipating what the markets will do is a matter of using your intuition to make an educated guess as to how a stock price will move. It isn’t easy. Sometimes a piece of news influences the price, but sometimes it does not. Sometimes a product announcement can move the price, while other times prices are overpowered by stronger market forces. The astute trader is committed to a trading idea but is flexible enough to realize that he or she may be dead wrong. It’s vital to look at the markets in an open-minded, objective way.

Humans prefer control, and the human race is good at achieving control. We are used to controlling nature, for the most part. We make our own energy, food, and move mountains when we need to, but we can’t control everything. And these feelings of uncertainty make us feel uneasy. The immediate human reaction to uncertainty is to deny the fact that we ultimately have no control.

When we start denying our reality, though, we lose our ability to think clearly. We become defensive and look at matters only from one side. For example, we look for evidence that confirms our expectations while ignoring information that negates it. (An everyday example of such denial is seen on American Idol when clearly untalented contestants believe they are the next pop star. They can’t understand why Simon thinks they will never be superstars.) Humans are capable of convincing themselves of anything, and this human foible can be a trader’s undoing.

It’s possible as a trader to live in a delusional world where you think your take on the markets is infallible, yet you are completely off base. How can you return to an objective perspective? Acknowledging the very human tendency for bias is an important first step. It’s vital to realize that as a human, you want to be right. You want to be a winner and you desperately need to feel in control. It’s human to feel this way, but once you admit it, you can move past it. You can start to begin to take control and try to look at your trading ideas from an objective perspective.

Traders are the most biased when they have a lot riding on a position. The more you have to lose, the stronger your need to be right, and the more likely you will distort your view of the markets. The obvious solution to this problem is to reduce what you have to lose. The less risk you take on, the more comfortable you will feel, and the more willing you will be to look at your positions objectively. Sometimes you just can’t become objective when your money is on the line. A simple solution is to close a position and reevaluate it.

Once your money is no longer in play, you will have a different perspective on the trade. After you look at the trading idea from a new vantage point, you can decide whether to open a new position or to walk away. Whatever you do, don’t stay stuck and boxed in by your natural human tendency to look at the markets in a biased self-serving way. The markets are fickle and require an intuitive yet objective mindset to interpret them. If you want to rise above the masses, it’s essential to find a way to look at the markets objectively.

Comments are closed.