What’s Trading Got to Do with It? (PART II)

In Part I, we explored the market and how it’s driven by human dynamics as much as economic. We also began explore the connection between performance in the financial markets and management of the mind.  In this part, let’s discover the true adversity of an intraday trade and how this stress can quickly reveal parts of the self that may have been hidden in plain site… controlling both the mindset of the trader and, as a result, the performance. As you read the anatomy of a trade, you can easily replace this situation with other aspects of life and performance.  A job interview, a key client sale, a crucial faceoff in a hockey game, a match point in tennis, an audition, a recital… any realm where your years of preparation must now culminate in a proof of the pudding moment of performance. A moment where desire for control over outcome only spins a performance further out of control.

The Markets Reveal Universal Forces… and Emotional Ones Too

There is another magical aspect of the market. Watching the movement of price on a one-minute chart is like watching a flock of sparrows twist and turn in the sky. You do not know what is determining the movement; is it a particular bird? Is it a force? Is it the wind? Maybe a combination of all of it? In the market, particularly when watching a short time frame, you never know exactly what is making a stock go up and down; Is it the Elliot Wave Theory? Is it RSI? Is it Fibonacci? Is it a piece of news that just came out? Maybe a combination of all of it? And one thing you can rest assured, there are millions of other traders, both human and machine, that are adapting and contributing to these moves each micro-second. With all these moves happening during the market open, it can quickly become apparent whether your trade is going for you or against you. You will put on a trade and it will go in your favor or it won’t. And what you find is that, even though the results of the trade can quickly manifest, the traders watching the capital move quickly in or out of the account will often find themselves face to face with the enemy within. The enemy that makes them freeze at the moment of crucial action. Emotions that make them throw good money after bad, what we call revenge trading, in the hopes that the stock will change direction. Feelings that they can somehow force their will on the direction of the market. Thoughts of rage, fear, victimhood, utter defeat, capitulation, and more. The market, by design is made to do just this. Apply just enough of an emotional extreme to get you to act out of emotion in favor of some other trader taking the opposite side of your trade.

When a stock goes against you and you have a large position riding on the name, the feeling could be described as that feeling you get when you pass a speed trap going 10 MPH over the limit. The rush of blood to the head and the flooding of the mind of images. The feeling of your heartbeat in your chest. This feeling multiplied by about 4X. Because no speeding ticket can cost you what a bad trading day can. Let’s quickly look at a potential trade to illustrate the type of impact a trader faces and how this could affect their mind in the moment of performance.

The Anatomy of a Trade

Below is the one minute chart of a unicorn of a stock for many traders to work with: Tesla (TSLA). This is the one minute chart for a point in the day of October 6, 2020. Exact timing is not necessarily important for this example. Please observe the areas where the arrows indicate the price of the stock.  Each bar (or candle) you see represents one minute of movement of the stock. Red indicates down in price, green indicates up.

Imagine you are a trader who has been watching this stock all day and you see what you interpret as a potential move upward for the stock. You are convinced enough that this move will happen that you “put on size” or buy a significant number of shares.  To keep the math simple, let’s imagine you buy 1000 shares. As a day trader, you are only going to hold these shares for a few hours to let your strategy play out.

You have seen enough of a confirmation of some upward candles so you buy in at roughly 422 and it looks like you are good to go as the candle heads that direction… but only for about 30 seconds. The next candle, the one you thought would go up, goes down. “Ok” You tell yourself, “No biggie, just a quick reversal while it ‘takes a breather’ before going up some more.” Not so. In the next three minutes your 422 buy-in has reduced to 418. Four points in three minutes. Doesn’t seem like a big deal, but when you multiply it by the 1000 shares you put on, that’s $4000. Yikes! Your heart is beating a little faster.

You are $4000 negative, usually a represented by a red number on a trader’s computer screen showing their profit or loss for the day. Most traders would have quickly stopped out but you were convinced enough that you were right that you held through. “Now it’s gotta go your way.” And it does! Thank god, the stock starts going your way. Finally, a green candle. But it stalls and just sits there for a while, teetering back and forth. It’s almost like if you could just blow on it, it might start back up like you had predicted it should before. Then in the next minute, another cascade of six more points in five minutes. Now you are $10,000 in the red. Now you can feel your pulse in the back of your skull.  Those emotions we talked about earlier are rushing through your mind at a million miles per second. Combined with some select expletives, you are thinking to yourself, “Are you kidding me? Seriously? Of course, the second I press the button. What an idiot! This had better turn around and quick. You hear me Tesla, TURN AROUND!”

And that’s what happens, for the love of god, it turns around. “Ok” You think, “I have to at least get back to even. Please God, just get me back to even!” And the next two minutes look very promising as TSLA claws its way convincingly back for a full three points.  At this point your P&L is still red but it’s only four digits, not the heart stopping five. And the loss is quickly getting smaller. Somewhere in the class you took, you learned that two candles in the same direction can indicate a reversal so, in order to accelerate your climb back, you double your size at 414. You now have 2000 shares but the breakeven is now 418 instead of 422. “This means.” You tell yourself, “When it gets back to 422, I could actually get out of this with some real money.” Greed and wishful thinking have set in. But just in time, reality and uncertainty comes back with a vengeance as TSLA hits 415.50 (your P&L is -$5000) and it stalls. And starts its way back down.  Not so convincingly that you think you need to get out however. There are some green candles in there to make you believe in miracles… and that’s just what you do. You hang on tight. Focused intently at the screen, convinced that watching the movements close enough may give you some insight as to when it will start to go back up as you expected.

Your breath is short, your palms are sweaty, your jaw is clenched, and you have tuned out everything else in the room aside from the hum of your computer’s fan. Each second slowly ticks by. Then, five minutes later, another huge drop. In three minutes the stock goes from 415.50 to 407.  The math works out to a total loss of $22,000. It took you twenty minutes to lose it. Less than a lunch break.

In case you are doubtful, this is how traders’ accounts get blown up on a daily basis. With typical margins in the United States, a trader would need just over $200,000 to make a trade like this. This would be a loss of 10% in twenty minutes. A typical trader needs $25,000 to open an account for day-trading. Combined with margin, this trade could have also been done with 100 and 200 shares and the losses would still have been a staggering $2,200 in twenty minutes. This happens every day. Traders start trading, thinking that they have found the path to an easy fortune. But the opposite is true. This is why the statistic is that 95% of traders lose all their money in the first month of trading. The convergence of market forces with the forces of a poorly managed mind is the recipe for a blown-up trading account and lives changed for the negative.

While you were following this trade, you were likely following the bars and the numbers and the movement of the chart as the minutes ticked by, sapping the capital from your account. This would be similar to the typical trader before the address the mental aspect of their trading. Something that is as often ignored as it is in the world outside of trading. The easy solution is to find a new strategy, a computer program that is more adept at finding opportunities for higher success trades, or some secret formula or a different market to trade such as options, currencies, or commodities. Traders run around looking for “the secret” no different than seekers looking for the magic pill of personal development. They bleed and sweat like athletes to refine their skills in a ruthless pursuit of a competitive edge.

Not surprisingly, there are a number of trade psychologists who do great work as well. Helping a trader to improve their flexibility, to identify their trading strengths, or espouse the finer points of constant never-ending improvement. The desire to be able to trade in the zone draws traders into the concepts of mind over matter and being aware of the mind’s role in performance as a trader.  This is no different in life. It’s common parlance that at least 90% of the game is mental. But the question remains, “How and where to start?”