Fear in Trading

Fear is a common problem for traders. It can be debilitating for some traders who can not pull the trigger. For others they can not get out of a bad trade, similar to deer in the headlights syndrome.

Learning to think in probabilities is certainly a step in the right direction. However, that is using intellect versus emotions; most likely the emotions will win out unless the trader develops other methods to deal with fear in their trading.

Science has done an enormous amount of research on the subject. Understanding how our brains operate and why we experience those emotions in trading can go a long way in improving negative reactions to fear.

Below is a recent article published on the subject of fear.

WASHINGTON - Science is getting a grip on people’s fears.
As Americans revel in all things scary on Halloween, scientists say they now know better what’s going on inside our brains when a spook jumps out and scares us. Knowing how fear rules the brain should lead to treatments for a major medical problem: When irrational fears go haywire.
“We’re making a lot of progress,” said University of Michigan psychology professor Stephen Maren. “We’re taking all of what we learned from the basic studies of animals and bringing that into the clinical practices that help people. Things are starting to come together in a very important way.
About 40 million Americans suffer from anxiety disorders, according to the National Institute of Mental Health. A Harvard Medical School study estimated the annual cost to the U.S. economy in 1999 at roughly $42 billion.
Balance is keyFear is a basic primal emotion that is key to evolutionary survival. It’s one we share with animals. Genetics plays a big role in the development of overwhelming — and needless — fear, psychologists say. But so do traumatic events.
“Fear is a funny thing,” said Ted Abel, a fear researcher at the University of Pennsylvania. “One needs enough of it, but not too much of it.”
Armi Rowe, a Connecticut freelance writer and mother, said she used to be “one of those rational types who are usually calm under pressure.” She was someone who would downhill ski the treacherous black diamond trails of snowy mountains. Then one day, in the midst of coping with a couple of serious illnesses in her family, she felt fear closing in on her while driving alone. The crushing pain on her chest felt like a heart attack. She called 911.
“I was literally frozen with fear,” she said. It was an anxiety attack. The first of many.
The first sign she would get would be sweaty palms and then numbness in the pit of the stomach and queasiness. Eventually it escalated until she felt as if she was being attacked by a wild animal.
“There’s a trick to panic attack,” said David Carbonell, a Chicago psychologist specializing in treating anxiety disorders. “You’re experiencing this powerful discomfort but you’re getting tricked into treating it like danger.”
These days, thanks to counseling, self-study, calming exercises and introspection, Rowe knows how to stop or at least minimize those attacks early on.
Scientists figure they can improve that fear-dampening process by learning how fear runs through the brain and body.
The fear hot spot is the amygdala, an almond-shaped part of the deep brain.
The amygdala isn’t responsible for all of people’s fear response, but it’s like the burglar alarm that connects to everything else, said New York University psychology and neural science professor Elizabeth Phelps.
Emory University psychiatry and psychology professor Michael Davis found that a certain chemical reaction in the amygdala is crucial in the way mice and people learn to overcome fear. When that reaction is deactivated in mice, they never learn to counter their fears.
Fear is kingScientists found D-cycloserine, a drug already used to fight hard-to-treat tuberculosis, strengthens that good chemical reaction in mice. Working in combination with therapy, it seems to do the same in people. It was first shown effective with people who have a fear of heights. It also worked in tests with other types of fear, and it’s now being studied in survivors of the World Trade Center attacks and the Iraq war.
The work is promising, but Michigan’s Maren cautions that therapy will still be needed: “You’re not going to be able to take a pill and make these things go away.”
When it comes to ruling the brain, fear often is king, scientists say.
“Fear is the most powerful emotion,” said University of California Los Angeles psychology professor Michael Fanselow.
People recognize fear in other humans faster than other emotions, according to a new study being published next month. Research appearing in the journal Emotion involved volunteers who were bombarded with pictures of faces showing fear, happiness and no expression. They quickly recognized and reacted to the faces of fear — even when it was turned upside down.
“We think we have some built-in shortcuts of the brain that serve the role that helps us detect anything that could be threatening,” said study author Vanderbilt University psychology professor David Zald.
Other studies have shown that just by being very afraid, other bodily functions change. One study found that very frightened people can withstand more pain than those not experiencing fear. Another found that experiencing fear or merely perceiving it in others improved people’s attention and brain skills.
To help overcome overwhelming fear, psychologist Carbonell, author of the “Panic Attacks Workbook,” has his patients distinguish between a real threat and merely a perceived one. They practice fear attacks and their response to them. He even has them fill out questionnaires in the middle of a fear attack, which changes their thinking and causes reduces their anxiety.
That’s important because the normal response for dealing with a real threat is either flee or fight, Carbonell said. But if the threat is not real, the best way to deal with fear is just the opposite: “Wait it out and chill.”

Go with the Edge

Go with the Edge

Many people who have no knowledge of trading make the assumption that it is nothing more than gambling. But usually their definition of gambling is someone who takes unnecessary risks with money who have little chance of getting anything back monetarily and possess no personal discipline.

Although there are similarities between trading and gambling there are some very important distinctions as well. There are professional gamblers that have studied mathematically how they would have an edge if they optimally played a given game over a period of time that would allow them to have an outcome of financially gaining. Then there are gamblers who plan on taking a certain amount of their hard earned income and “win or lose” plan on blowing it all at a gambling facility adding to the lovely decors of those facilities. Trading also has participants from both sides of this coin. But let’s for the sake of this article assume that the gambling participant and the trader both have knowledge of how their games work. I will use the game of blackjack as the gambling example here.

Here are some important distinctions between the two:

The bets – In blackjack your bet is placed before the player has any idea of the probability of winning against the dealer. The total bet is the total risk unlike trading futures, commodities or stocks. Just think of this, if you could place your bet after your hand is dealt and the dealers up card is showing, do you think that might improve the outcome of the game for you?

In trading your bet is placed when it has been determined that you have an edge in the game and the probability of winning is on your side.

The exits - In blackjack once your bet is placed you can not take back any portion of it. You will win, lose it all, or push. If you see you have a high percentage of winning the hand against the dealer you can not increase your bet. There is no point at which you can take partial profits.

In trading once your bet is placed you have the option of limiting the amount of capital lost through stop loss protection, reducing the size of the bet. You can take partial profits, adding on if the trade moves in your favor or exit at a break even.

The distinction of not entering a trade until the odds favor you gives you a tremendous edge in trading, the ability to control the risk. Also being able to vary the bet by increasing it or reducing it at the appropriate times are differences that greatly impact the outcome. There are methods to make a decision to play or not play at a particular table in blackjack but not nearly as good as knowing the percentage up front as in trading. Both are games of skill and both can have an element of luck, although I believe luck is the result of good preparation.

Although the distinctions are subtle the outcomes can be dramatic between the two. There is no substitute for good money management and the patience to wait for the right trade to come along.

This blog excerpted from the book 'Essentials of Trading: It's Not WHAT You Think - It's HOW You Think, by Larry Pesavento and Leslie Jouflas. Available at www.traderspress.com

Leslie

Ah, Golden Ratio

Ah, Golden Ratio.











The SP500 emini index dropped 35.50 points on Friday, October 19th 2007. A very good move down on a trend day. This market tested a low at exactly 1505, which happens to be a .618 of the recent move up we have seen since early September.

Why is .618 so significant? It is the Golden Ratio or phi.

In mathematics, nature, and the arts, two quantities are in the golden ratio if the ratio between the sum of those two quantities and the larger one is the same as the ratio between the larger one and the smaller. The Golden ratio is approximately 1.6180339887

The golden ratio is the limit of the ratios of successive terms of the Fibonacci sequence, therefore if a number of the Fibonacci sequence is divided by its immediate predecessor in the sequence, the quotient approximates to 1.618

In nature, the golden ratio can be seen in the spiral of sea shell shapes, branching plants, flower petal and seeds, leaves and petal arrangements amongst many other naturally occuring phenomena.

Is this a coincidence? Here is a challenging exercise for you. Take a chart of any particular index market that you like, Dow Jones Index, SP500, Russell, whatever; and see for yourself how recurrent this number appears on the price chart. Compare the up and down swings on any particular timeframe that suits you with 61.8% in mind. You may be surprised to find how recurrent this number appears in the markets!

Taking Losses

My Dad used to say, "Don't plant more lawn than you want to mow". I believe when he first said this he was designing new landscaping for his home and was trying design a lawn free landscape, which he did accomplish and won an award for the landscape design. But, that slogan stuck with me for years to come. In trading remembering that simple phrase can put me back on the focus I should be on.

It's not so difficult to think that any one trade is absolutely going to be a winner. That in itself can be a temptation to put on a larger position than should be. To translate my Dad's slogan to trading it would be something like; Don't put on more position than you want to see go in the toilet".

Even though I use specific pattern recognition that does tend to repeat I always have to remember that each trade and each moment in the market is unique. Mark Douglas talks about this in his classic book, Trading in the Zone. If we truly believe this fact then we understand that the outcome of each individual trade is random and that if we have an edge in our trading and trade that edge over and over we will come out ahead.

Leslie

Creating a Roadmap For Trading

One item traders often miss once they decide they want to trade is doing some planning. If traders take some time to plan out what they want to trade, what time frames, choose a coach or mentor and narrow their focus learning trading as a skill it would go a long way creating success.

When you stop and think about it there are not many businesses, or career choices that anyone would not do some type of planning for, but trading does seem to be an exception. The planning for many seems to begin after some hard knocks in the markets. It is then that those that choose to continue realize they need more help, education and mentoring.

We will be doing a webinar on the Steps to Mastering Trading on Saturday, October 13, 2007. You can find more information at our homepage, www.tradingliveonline.com

We hope you can join us.

Leslie

Understanding Risk!

Understanding Risk
The Hallmark of a Successful trader.

It is all too easy in trading to focus on how much you can make as opposed to how much you can lose. If you are a new trader, I recommend that you evaluate how much of your time and energy you are spending on downside protection as opposed to profit potential.

A speculator is some who analyzes their downside, the level of risk, and probability of loss for the return, and then decides whether to take action. A gambler is someone who either doesn’t understand the risk for the return, or just as likely chooses to ignore it .

The media, books, news, the industry, etc. generally focus on how much you can make. That is what sells! All too often we are encountered with typical headlines of “So and so just made one gazillion dollars in 6 days trading X.” Whether it came in the mailbox, on television or in a book that you read. It can be distracting to the committed trader learning the craft, and damaging in shifting their focus from proper trade management to “swinging for the fence “ mentality in going for long shot winning returns. I admit concentrating on the upside is far more enjoyable than watching the downside. However, the stories of rags to riches, uplifting as they may be, can distort reality for a new learning trader.

The long term successful trader is one who is constantly watching their downside not only in proper sizing based upon their account capital, but in sticking to their trade plan and not going for a low probability chance of abnormally huge gains on any particular trade. Here is a list of questions that will assist in keeping a newer or struggling trader from getting sidetracked.

For a particular trade, What is the Risk to Return?
How Probable is the Return for the level of Risk?
Do I have a proper stop loss in place when I enter a trade?
Does my written trade plan have method of managing those stop losses on trades that are going my way?
Am I willing to Accept this level of Risk for the Return?


It is only through addressing professional questions like these, that a trader will be able to not only survive in the long run, but actually thrive!