You have 2 free member-only stories left this month.

Sign up for Medium and get an extra one

Get started Sign In

CryptoCred Search
Aug 6, 2020 · 13 min read · Member-only · Listen

Trading Psychology: A Non-Cynical Primer

Not a financial advisor, not financial advice, bla bla bla.
CryptoCred
13.6K Followers
You know the drill.

Follow

More from Medium

Arthur Ha… in Entrepreneur's Hand…

Snippets

TheKingfisher

KF-Index: Create and trade your

own instruments

Harel Jacobson

(Almost) Everything You Wanted

To Know About FX Volatility Smile
(Part I) — Intro to the FX Market
Image courtesy of the University of York website.
Marusha

the lie of the DCA

— 11
3.5K

Help Status Writers Blog Careers Privacy Terms About

Knowable

Non-cynical?
Over the years, I’ve become increasingly disgruntled with how traders
(especially trading educators) speak of psychology in trading.

It has become something to simply pay lip service to, without offering
anything substantively useful.

“Psychology is everything in trading.”

2000 likes, 500 retweets.

Yawn.

As a quick aside, trading wisdom is generally quite useless until you can relate
to it and internalise it via personal experience.

I briefly wrote about this idea in a tweet:

Out of all trading-related topics, trading psychology gets the shortest end of
the stick.

At least with ‘trade the trend’ bros they’ll have the courtesy to shit out some
random moving average values from which to derive the trend. Gold Star for
trying.

With trading psychology, with some very notable exceptions, the level of
discussion tends to be pretty low. A bunch of vague ‘wisdom’ floating around,
some stuff about being an emotionless robot (what?), and so on.

(For the record, I do not believe that discretionary traders need to be

emotionless robots. The premise is risible at face value. If you want to trade
like a robot, then automate your strategy. One almost certainly cannot be a
totally emotionless discretionary trader. Some hardcore internet logicians will
disagree, but whatever. More to the point, if you’re a discretionary trader, you
should get to know your emotions and mental states generally, and use them
to your advantage. They’re not something to suppress. I’m being deliberately
vague here as this topic is a bit outside the scope of this article, but something
I thought worth addressing anyway.)

I’m not writing this article to ‘fix’ you. Only you, and trading experience, can
do that. Maybe I’ll turn this into a series, but I probably won’t. This is my
attempt to provide a reasonably coherent definition and framework for
trading psychology, so you at least know where to look if you feel like your
mental game is holding you back.

The rest is on you to identify your specific problems and create tailored
solutions. There’s no one-size-fits-all.

Again, I am not suggesting that this topic has not been addressed by some
excellent minds. We all know the classical texts. I simply believe that
beginners are overwhelmed with a bunch of nonsense and generic brouhaha
that isn’t hugely helpful.

This article is by no means exhaustive, nothing too novel here, [insert other
qualifying comments here].

Let’s add some meat to the bone, shall we?

Framework
I think it’s helpful to have a rough framework which outlines which
components of trading are most affected by one’s psychology.

Of course virtually all components of trading are affected by one’s psychology,

but here’s my attempt at something reasonable (or at the very least, the areas I
think are most applicable to beginners).

1. Trade Execution / Entry

2. Trade Management

3. Equity Curve Swings & Streaks

There are others, and I’m sure a genius in the comments can refute all the
above and come up with stunning subcategories, but this is what we’re
working with (in no particular order).

Let’s talk about each in turn.

Trade Execution / Entry

I’m going to be unable to cover every instance of how the wrong mindset
(what a shitty phrase; please allow it) can adversely affect a component of a
trade.

So I’m going to go for the most common ones.

With trade execution and entries, one of the most prominent issues is failing to
pull the trigger i.e. executing on your analysis once it materialises.

It’s important to discuss why this is such a chronic issue. I don’t want to spend
too long on this, but identifying the causes can help with some hotfixes.

First, there is a trend to conflate technical analysis with trading. In other

words, struggling to execute is, in my view, a byproduct of too much technical
analysis and too little actual trading. They’re definitely not the same. Just look
at Twitter, for example. It’s very easy to get access to the same levels/lines,
indicators, etc. as everyone else. Yet not everyone makes money. Go figure.
Drawing on charts is not trading. Further, even good predictive charting skills
do not directly translate to good trading.

Second, and this point is also related to the first, the worst traders are often
those with an insatiable appetite for certainty. They need price to move exactly
like in their squiggly line. Everything needs to unravel rapidly. Every
candlestick close should be foreseeable and bullish/bearish so as to
complement their idea. Et cetera. Bollocks to all of that. There’s a reason that
intellectuals often make the shittiest traders. You’ve got to embrace the chaos,
as a colleague of mine once shared.

Great, Cred. You’ve speculated on some causes for shitty execution, but how
do I actually address the issue?

We’re going to address this in two ways.

Sizing, and Entry Checklists.

Sizing

This is a topic we’ll address in its own right, but it applies to trade execution as
well.

One potential reason for execution fears is too much risk. Whether this is in
relative terms (% of account) or absolute terms (how much you’ve calculated
you’ll lose if stopped out) makes no difference in this instance.

(As another aside, I don’t entirely subscribe to the idea that you should treat
every trade you enter as a losing trade and be comfortable with that outcome.
Sure, it’s a passable risk management litmus test, but what a shitty approach
to markets! If you’ve written the trade off and think it’s going to eat shit,
perhaps don’t take it? The trades that I take are ones I actually want to be in
and I feel grateful that I’ve been able to act on the opportunity. If you take the
‘every trade is a loss and I’m cool with that’ mindset too far, you can justify
endless shitty trades taken with little risk. Not good, in my opinion.)

Before all the Kelly Criterion geniuses who peaked in high school start
flooding the comments, I’m specifically talking about how sizing (however
one has arrived at that figure) affects one’s mental state. I am not saying risk
more/less in a blanket fashion.

Anyway.

If you’re too scared to execute your own plan, taking off some risk i.e.
smaller sizing is a good starting point.

Whether you downscale your risk per trade generally, whether you move
towards scaling into positions, whether you decide to split your clips up and
add a remainder upon ‘confirmation’; all of these are variants of the same
principle.

Colloquially, if you’re risking 10% of your account per trade, you bet your arse
you’re going to look for everything to be perfect and the stars to align before
you pull the trigger on the trade. For reasons stated, this is a shitty way to look
at markets. If you’re risking maybe 1–2% of your account on the trade, you’ll
be more willing to get involved and also be less ‘shook’ if things don’t
immediately go your way.

TL;DR If you’re not pulling the trigger on trades, cut your size while you become
comfortable with being uncomfortable.

Entry Checklists

This one is relatively simple.

An entry checklist is, as the name suggests, a checklist of conditions that need
to be satisfied before a trade is taken.

I’d love to provide a template but I don’t use one any longer, and it is pretty
useless to make a generic one. A checklist should be tailored to your trading
system and trading style. You’re the only person that can really write it.

Nevertheless, there’s a basic heuristic we can employ.

If you frequently fail to execute or miss out on trading opportunities by strictly

following your checklist, reduce the scope of your checklist.

If you frequently find yourself in shitty or early trades by strictly following your
checklist, your checklist needs more development.

I’ve seen examples of both.

For the first group, you’ll have paralysis-by-analysis traders with a 100-point
checklist. Everything needs to be absolutely perfect for them to even dip their
toes in the water. Stars aligned, Saturn’s rings at the right angles, Mercury
retrograde at maximum power, correct moon cycle, etc. If that sounds like
you, and if you’re consistently wallowing at missed trades and having to flex
your perfect technical analysis to cope, then ease up on the checklist. Less is
more. You can’t, and you never will be able to, control everything. If that
premise and its implications are intellectually insurmountable to you, then
perhaps trading isn’t for you.

For the second group, you’ll have usually newer traders with a bunch of well-
meaning but ultimately useful rules like ‘Don’t FOMO!’ and ‘Check for
candlestick reversals!’ which don’t effectively filter for crappy trades. There is
truth to the value of knowing when not to trade etc. If your entry checklist
isn’t screening trades for you, or if you can use it to justify virtually any trade,
then it’s too thin (substantively). If that sounds like you, read my article on
trading systems and add some substance to your checklist.

I think that’s all I’ve got for now regarding execution.

At a certain level, we all know the areas to do business. Sometimes you just
have to stop the mental gymnastics and trade.

More practically, judicious sizing and an effective trading checklist may go a

long way for those struggling.

Before any of that, you must embrace the idea that certainty is unattainable.
We’re working with probabilities and doing our best to navigate varying
shades of grey.

Trade Management
This section is going to be a bit thinner than the others.

The main reason is that I have a detailed video on trade management

available on my YouTube channel.

As before, let’s look at two facets of how trading psychology may affect trade
management. We’ll focus on PnL-based trade management, and trade
management planning generally.

PnL-Based Trade Management

There’s a reason a bunch of veteran traders commonly suggest trading without

your PnL on the screen.

The basic premise is that the market does not care whether you are making or
losing money. Your decisions should be driven by procedural propriety i.e.
making the ‘right’ decisions in accordance with your trading system and the
market in front of you.

Common PnL-related fuck ups include closing winning trades early simply
because they were offside to start with, holding winners past predetermined
take profit areas to reach an arbitrary PnL figure, arbitrarily moving one’s stop
to break even to get a ‘free trade’ even if doing so has no valid basis and may
reduce the expectancy of the trade, and so on.

We’ve all been there. Pretty sure I’m preaching to the choir.

Mercifully, the ‘cure’ is basic. Hide your PnL.

This is a short-term fix that works, but there is a longer-term implication that
takes a while to sink in. It relates back to the theme of having very limited
‘control’ over the markets. That freaks a lot of people out, understandably so.
We are, however, in control of our actions. I believe that career traders are at
least somewhat (in my view, significantly) process-oriented i.e. focused on
trading ‘correctly’ and making the right decisions at a given time, as opposed
to purely outcome-focused. Necessarily the two are closely linked in trading,
but if you have a profitable/tested/by your criteria valid trading system, then
your role is to execute it faithfully and be able to roll with the punches should
random loss clusters etc. come up.

(This brings up an entirely separate discussion. Namely, how does one

distinguish a random cluster of losses from a system that no longer works?
There is no easy answer, and even if there were one, it’d be beyond the scope
of this article. Maybe I’ll get some 400 IQ quant to come explain the maffs. Or
not. Generally, I am comfortable saying that you should be more lenient with
systems that have a lot more back and front-testing, and less lenient with
short-term edges. Food for thought.)

TL;DR Hide your PnL, focus on being a good trader first and a money printer
second. Sort of.

Trade Management Planning

This bit is really straightforward, but still worth stating.

The easiest way to make a dog’s dinner out of your trade management, is by
not planning for it at all.

I am talking the absolute bare basics. Entry, target, invalidation, and trouble
areas. Time frames, candle closes, and all that jazz are great too.

Again, I’m going to avoid rehashing my trade management video but there’s a
solid framework presented therein as an example.

The benefit of a plan is that you’re ‘objective’ when you’re making it. No
money on the line yet, no flashing lights, no swinging PnL.

The trade parameters set during the planning phase are almost always more
reliable than when you’re comfortably in the green and calculating how many
different 5/10s you can take to Nobu if price reaches Resistance 3 as opposed
to Resistance 2.

Trust the sober you, so to speak.

That’s it on trade management.

Watch the video, trade without your PnL, and have a plan.

If you find yourself flexing your PnL or mashing the profit calculator on your
bucketshop website, consider closing out.

The gap between technical analysis and real trading is most exacerbated in
the area of trade management. Don’t take a trade for granted just because you
slapped a R:R tool on the screen.

Equity Curve Swings & Streaks

The preceding sections have been focused on how one’s psychology can affect
a specific trade. This section’s focus is more on your career as a trader.

I’m going to try to cram a lot of topics into this one. Sizing up and down, losing
and winning streaks, and the like.

(Each subcategory could be its own article. That applies to most of the stuff
covered in this piece. Too bad. The market is moving, so we’re cramming.
There’ll be time to do all sorts of trading education when the market is boring
again. I hope you’ll forgive the shortcuts etc.)

It’s not uncommon for developing traders to believe that they should be sizing
up during winning streaks and sizing down during losing streaks.

That’s assuming they don’t believe anything wild e.g. sizing up during losing
streaks to ‘make it back’ and sizing down during winning streaks to ‘cool off’.
That’s stupid, please don’t do that.

My personal view is that if you’re performing well, it makes sense to step on the
rhetorical gas pedal. The market won’t always be nice to you, and every system
goes through peaks and troughs contingent on market conditions and a bunch of
other factors. If things are popping for you, don’t take it for granted and make
the most of it.

However, I personally do not believe that sizing up is the best option. As

covered in earlier sections, sizing up may have unintended consequences.
This goes without mentioning slippage risk etc. and how some strategies
simply don’t scale upwards that well. Psychologically, the same trade
execution troubles could rear their head if you put a lot more on the table.

Worse, imagine that the first trade you decide to size up ends up being a loser.
Suddenly, you’ve lost more than you’re used to. Bad shit usually follows.
Missing the next trade due to a lack of confidence, jumping into a suboptimal
opportunity to ‘make back’ your exacerbated loss, etc. I’ve been through it all.

So what’s in my view a better way to step on the gas pedal when you’re
crushing it?

Trade more!

More setups, more time frames, more markets. Get involved in the market but
keep your bets as they were.

I’ve found this works fantastically well for me personally, but your personal
experiments may arrive at another conclusion. That’s fine, of course.

Sizing down is an interesting one. If the argument for not sizing up is taken at
face value, then the logical corollary of that would be not to size down when
on a losing streak, but rather to trade less. That’s not an unreasonable
position.

I am more conservative than that.

If I’m on a losing streak, which for me is 3+ consecutive losing trades, I will

usually cut my size by about 50%.

This isn’t some psychological crutch, but simply a defence mechanism for my
equity. Maybe the losing streak is a sign that market conditions have changed.
Perhaps an edge has stopped working or is vastly less effective. I don’t have a
strong intellectual grounding for this specific approach; it has simply worked
well for me.

Assuming you’re using some version of a fixed risk model, be that per trade or
per setup, sizing is something that changes anyway depending on your equity
or the expectancy of the setup(s) you’re trading. For that reason, I like to stick
to those parameters as the determinants of my sizing rather than how I’m
feeling or performing.

Again, though not entirely logically consistent, I have had good results with
keeping sizing the same and trading more when I’m doing well, and cutting
sizing on a losing streak to be extra conservative.

I cannot overstate how shitty it feels to size up on a winning streak and for
that very first trade to be a loser. I avoid it for that specific reason.

The psychology of sizing down can be rough. It almost feels like a

punishment. I urge you not to look at it that way. Equity curves are supposed
to trend up, not fly up vertically. By sizing down when we start taking hits,
we’re attempting to flatten things out (at best) but at the very least set a higher
low at the conclusion of the losing streak.

Needless to say, if you discover that changing your sizing in any way adversely
affects your trading (whether it’s micromanaging when you’re in too heavy or
being too complacent if you’re risking too little) then don’t toy with it too
much.

The mathematics/Kelly Criterion/expectancy stuff aside when it comes to

sizing, however you arrive at that number, it’s only good if it allows you to
focus on trading well and be process-oriented. I don’t care if some quant Excel
sheet says otherwise; it’s no good if it makes you trade like shit.

Final Thoughts
Thanks for making it this far.

I hope you’ve enjoyed the slightly more colloquial nature of this article.

Having read this piece, I hope you understand the frustration I expressed at
the beginning of the article. This topic is so important, but at most it tends to
get a nod of acknowledgement with few practical points.

One final suggestion I’d like to leave you with is the following. Make sure your
trading journal has space for you to record your feelings and emotions during
the trading process. How you feel once the trade has been triggered, how you
feel around management decisions, and once the trade is complete.

This will become an invaluable resource, and something I’ll write about in
another piece.

Cheers!

Follow me on Twitter for charts, thoughts, and memes.

Follow me on YouTube for my TA videos.

Subscribe to TechnicalRoundup, where I stream weekly.

Sign up to my weekly newsletter.

Everything is free.

Except the OnlyFans.

Cred

3.5K 11

More from CryptoCred Follow

Dec 29, 2019

Using Previous Day’s High/Low for Intraday Bias

— Introduction and Disclaimer The aim of this article is to provide
insights on how the daily chart can be used to derive a shorter-term or
intraday directional bias. This article will assume prior knowledge of…

Trading 18 min read

Share your ideas with millions of readers. Write on Medium

Jul 19, 2019

Technical Analysis Series: Directional Bias

Please note: I am not a nancial advisor. I do not and will not o er
nancial advice. This article is strictly for entertainment purposes only.
Please consult a regulated professional in your jurisdiction before…

Trading 14 min read

Apr 23, 2019

Anatomy of a Trading Plan

Introduction The aim of this article is to give you a rough idea of at least
these three things: What a trading plan is Why a trading plan may be
useful What a trading plan might look like — Trading Plan: What Is It? …

Trading 6 min read

Mar 19, 2019

Building a Trading System: Where to Start

The aim of this article is to outline the author’s view on what a trading
system is and to guide novice traders towards systematising their
approach to trading. I will note from the outset that this is a very broad…

Trading 14 min read

Feb 2, 2019

Worst Things to Do After a Losing Trade

All traders will have losing trades. As you’ll know from my risk
management video, one can still have a pro table trading career even if
not every trade is a winner. However, exacerbating the beating one’s…

Trading 7 min read

Love podcasts or audiobooks? Learn on the go with our new app. Try Knowable

Recommended from Medium

Global News Felix

COMMENTARY: The $15 Compliance management in

minimum wage debate is a 2020: top trends for
battle of math versus feelings procurement

Jared A. Bro… in Surviving Tomorr… Caleb Gibbons

Is A Global Recession Coming? Financial Planning Education in

Even the Hyper-Corrupt World the “Upside Down”
Bank Is Worried

Jared A. Bro… in Surviving Tomorr… Global News

It’s Time to Ban Rent-Trapping Hot Jobs: Is working in oil and

gas still a surefire way to make
a lot of money?

Nisha Holla Tanya Verrier

Where are the jobs? What comes after the

Knowledge Economy:
Sustainability Economy,…