Litmus test for trading psychology: Is glass half full or half empty?
Is an individual’s trading psychology affected by his world view?
The purpose of the question is to demonstrate that the situation may be seen in different ways depending on one’s point of view and that there may be opportunity in the situation as well as trouble.
Enter our own litmus test – daily chart of AUDCHF and XAUUSD
The AUDCHF has been falling for 12 weeks.
Do you see:
- A great trend and the opportunity to short some more.
- A very oversold pair that is just so cheap to buy.
Gold XAUUSD is now into its eighth month of fall.
Do you see the chance to short it with the trend or a generational buying opportunity?
Individual trading psychology comes in a spectrum
On both ends are the perma-bullish and perma-bearish. The perma-bulls are very optimistic individuals who might brush off bad news while perma-bears are pessimists who see bad news as vindication. Everyone else falls somewhere in between.
If you have chosen to short both pairs based on the chart above, you are a good trend follower and can surely ride a big price wave when there is one. If you have chosen to long both pairs, you might be challenged by your trading because you are always unsatisfied with the status quo and want to do against the majority.
I am inviting comments: how many other types of trader psychology are there? Also read this story ‘Internal hurdles on the road to successful forex trading‘ by Jerome Lee.
Update on 26 June 2013 – personal world view works as filter
I have been thinking about this posting since I first published it. My personal observation of trading psychology is this – that there are individuals who are very optimistic and there are those who are very pessimistic. As mentioned before, optimistic individuals brush off bad news while pessimistic ones embrace bad news as a vindication. In my opinion this becomes a filter or trading bias. An optimist sees a market reversal as a correction to buy some more. His natural reaction is to buy every dip in the market. A pessimist sees every market correction as a reversal. He is either short (many times wrongly in a rising market) or he keeps closing winning positions.
There are many shades in any spectrum. I often wonder why many apparently good traders are very ‘fluid’. They adjust very quickly to market changes that do not appear to be rule-based but accurate judgement. When I talk to some of these folks, some of them come across as non-committal, people who do not have strong opinions. Is this a quality that makes them good traders?
Rounding up my ideas I think that there are many forces at play but amazingly they seem reinforcing yet contradictory.
- Conviction is a quality that traders need to hang on to winning trades but a person with strong conviction colours the way he processes market information i.e. becoming over bullish or bearish.
- Using a rule based method to trade could help to diminish the effect of personal world view but rules may become a stumbling block for good traders.
Are there ways to select good traders? How about ways to make traders with ‘bad’ trading psychology into good ones? Is this written on the face? Or in educational qualification? How do companies hire traders? Do they hire many and then let the ‘jungle of the market’ enforce natural selection so that the fittest survives?