Fear and greed drive market action. We enthusiastically put on trades when we think a huge profit is assured, but when we see the market shift dramatically, we get out as quickly as possible. We fear being trampled by the masses as they all rush to sell. Fear and greed are powerful emotions that underlie the actions of the masses, but behavioural economists argue that regret is equally powerful. Regret is so powerful, in fact, that we may avoid putting on trade because we do not want to beat ourselves up for making a bad mistake. We have our pride, after all. To preserve our feelings of worth, it is often easier to avoid taking a risk, than facing humiliation and self-reproach when we lose. But you’ll never learn to trade profitably if you don’t take risks. It’s essential to learn to control your feelings of regret before you find yourself stuck.
We experience regret when we look at a decision and imagine it could have turned out differently. In the trading arena, it can be hard to escape regret, since we can feel regret by taking action or by doing nothing. When we open a position, for example, and end up losing, we can regret executing the trade. But we can also feel regret when we let a winning trading opportunity pass by because we were afraid to take a risk. In both cases, we let our mind imagine alternative realities, and when we start to think that one of those imagined realities are better than the way things actually turned out, we feel regret. We think, “If things had turned out differently, I would now be in paradise.”
Regret may be unpleasant, but it isn’t always bad. Sometimes regret can actually motivate us to take action. Regret forces us to take action to fix matters. If you hate your neighbourhood and regret you moved there, you are likely to fix matters by searching for a new house. If you regret buying a gas-guzzler as gasoline prices hit $3 a gallon, you might decide to take the bus more often or buy a scooter to do daily errands.
And similarly, when you make a losing trade, you may feel regret for making a mistake, but this uneasiness can also force you on to make a new trade in order to earn back the capital you have lost. A study by Dr Keith Markman, a psychology professor at Ohio University, and his colleagues illustrates how regret can motivate people to take action when they believe that their efforts will result in positive change.
They observed participants who played a blackjack computer game. The researchers controlled whether a participant won or lost. As you might expect, regret was strongest after a loss than after a win. But regret was more intense when participants were allowed to make an additional bet in order to win back what they had lost, compared to when they were allowed to make only a single bet. It’s hard to feel regret when you were allowed to make only one bet. What else could you do?
You made your bet, you lost, and now there is nothing you can do about it. The adaptive thing to do is to just forget about the loss and go home. If you are allowed to make a second bet, however, you are bound to feel a little regret. You start thinking, “It is too bad that I lost on the last bet. Maybe I can turn things around. If I do things differently next time, I can win.” When we believe that we can fix a problem, we may feel more regret, but we are motivated to take action.
If regret can motivate people, then why do behavioural economists view it as one of the biggest obstacles that traders must overcome? Many times, traders are consumed with regret even before they have something to regret. They have yet to make a trade but worry about feeling bad if they made a trade and lost. Once we make a losing trade, regret isn’t as unpleasant as you think it will be. But if you are often consumed with regret, just thinking about the possibility of making a future regrettable mistake can prevent you from trading. You may ruminate about what you should have done.
If you suffer this ailment, it is useful to tell yourself encouraging thoughts. Remind yourself that if you do make a mistake, you can always fix matters. It isn’t the end of the world, and it isn’t the end of your trading career. You can work harder to develop a winning strategy to make back all the profits you have lost. Or you can tell yourself encouraging thoughts, such as “losses are the tuition you pay to learn to master the markets.” Don’t let regret paralyze you. There’s no reason to feel regret. You can’t turn a past losing trade into a winner, but you can make new trades to make back everything you’ve lost.