From BusinessInsider.com’s article on “61 Behavioral Biases That Screw Up The Way You Think”, I decided to take a look at it’s source: Tim Richard's Psy-Fi Blog. I found that these were actually expanded from a list of “slightly odd behaviours in the sphere of investment”.
As a part of trading psychology, and a way to better understand ourselves as traders. I think these articles are a good read. And it’s good to identify some of our own biases and guard against them.
For the full article, click on the links above, and here are my thoughts on some of these Biases.
Self-Enhancing Transmission Bias: people tell others about their successes more often than their failures, and their listeners don't take account of this.
Often times when we speak to traders, they will share their winning trades with you. It is important to get the full picture and see both winning and losing trades. And often times, there are more things to learn from losing trades than winning ones. The goal is, naturally, to learn from mistakes and not make them again.
The next time someone shares their winning trade with you, ask (nicely) about all the trades the person had for the week or month.
Choice Overload: too much choice makes us indecisive.
Some people think that trading many currency pairs in many timeframes using many trading strategies is the best way to be profitable. Contrary to that, successful trades often focus on a few pairs of currencies, using only a few profitable strategies. Having too many strategies (and too many indicators in one) will likely only confuse you.
Sometimes, Less is More.
Bias Blind Spot: we agree that everyone else is biased, but not ourselves
I’m guilty of this one, and it’s important to recognize that we always have a bias. In fact, when you trade, you always have a bullish or bearish bias, why else would you trade in that direction? But it’s important to recognize that it’s a bias, not a fact, that you are trading.
Confirmation Bias: we interpret evidence to support our prior beliefs and, if all else fails, we ignore evidence that contradicts it
Every trader has done this before – Ignore contradictory signals because he has already entered a trade. And again, this bias often only becomes clear after the trade his a stop and becomes reality. Here is where an opportunity to have a smaller loss is ignored, in favor or hope that other evidence which supports your trade will prevail.
Gambler's Fallacy: the mistaken belief that a run of specific results in a random process must revert.
This is the thought process behind the Martingale Money Management Strategy. “I’ve lost 5 times in a row, the next one will be a win!” That’s the reason that gambles double their bets each time they lose in a bid to win back the losses. Give it an unlimited number of tries, and you will have a win simply due to randomness / probability. However, you must first have very deep pockets as doubling up each time will quickly bankrupt you.
If you risked 1% of your account for your first trade, and doubled up each time you made a loss. In a string of 5 losses, you would have lost 24% of your account! It gets worse! In your 7th string of losses, you would have lost 96% of your entire account, and a string of 7 losses is not uncommon in trading!
And there you are! Remember, Psychology is a key pillar in trading!
