Wednesday, June 17, 2009

Cognitive Biases- It's all in your head!

The markets made up of many individuals, each with a tendency to fall into the trap of trading under the haze of these biases. They can appear one at a time or in a bunch, each working in sync with the others to make it even more difficult to see things objectively.

Some of my favourites are:

1) Sunk Cost Effect- Factoring in how much time, money etc you've committed to an idea when deciding whether to exit for a loss (or whether to hold on for larger gains) of course, effort isn't correlated with quality of an idea in the slightest.

2) Framing- Where the same thing is given different treatment dependent on how it's presented.

3) Anchoring- giving excessive weight to an irrelevant, but obvious, piece of information (Entries and Exits spring to mind)

There are many more, all very much linked to our perception of self (ego).

Those that are successful long term recognize these biases within themselves (something I'm very much able to do) AND are disciplined enough to work around them consistently (the part that I'm struggling with)


FXpropTrader said...

I have just repeatedly sinned according to this list. My entry price is always what the world revolves around. And it shouldn't. Hopefully this will sink in in coming days and weeks.

Jules said...

:-) Interesting post, MM.
I suppose that's why trading calls for so much focus.

James Edwards-Marche said...

:) Happy B'day Jules.

I first got introduced to this subject through "Way Of The Turtle"..."egonomics" is great too.

Jules said...

:-) Thank you, MM.
Ahhh..the turtles...ironic isn't it? Thought they were not supposed to THINK? :-P