A Lesson into Trading Psychology -> the baby and the lemon

I was sitting with my family in a restaurant earlier this year when a large Spanish family came and occupied a table next to us. There were several children running around, and one babe in arms. After a while the baby became disturbed by all the noise and started to cry. The mother could not soothe the child in anyway. I then saw a most remarkable cure for a crying baby.

The mother reached over and picked up a slice of lemon and pressed it against the lips of the baby, causing a little sharp juice to enter the mouth. The child immediately screwed up its face in response to the bitter taste and stopped crying, however a few moments later the child started crying again, once again the mother applied the lemon, once again the same reaction. This time however the time between the crying increased. The lemon was applied one more time and the baby drifted back of to sleep.

What had the lemon achieved? In fact a most remarkable achievement, which serves to demonstrate how, you can use the same underlying principles for yourself to make you into a better, more successful trader.

Now I am not suggesting for a moment that you rush out and buy some lemons, but I am suggesting that you examine the mechanics of the above. As the child started to cry, the mother made many different attempts to soothe the child before resorting to the lemon. The changing of positions, attempting to feed, talking, passing to husband etc. It was only when these had failed that the lemon routine was introduced.

The lemon was used in two ways; the first was to introduce a radically new environment in an instant. This had the effect of stopping the crying, the second was one of association. Each time the lemon was pressed to the lips it educated the brain to construct the model that in effect said.

Crying = unpleasantness

Our survival mechanism is based upon keeping us out of danger, pain is associated with danger, and unpleasantness is associated with danger. Quickly the brain associates the crying with unpleasantness and decides to do something about it. Result = stop crying.

Just before we leave this explanation try to work out what could have been the end result if the mother had used sugar instead of lemon?

Using this for trading profits.

So how do you use the principles above to improve your trading? It is a simple process which may cause a little discomfort at first but the results on your balance sheet will generate a much more pleasant feeling.

As an example we will take a trader who has a strategy that he knows to produce profits over the long term. When the strategy was paper traded or initially live traded the results were excellent, but over time they became steadily worse.

The trader can no longer maintain the courage and conviction to execute the strategy at all times and is now in a very unsatisfactory situation. How could that same strategy that was doing so well now be failing?

First you need to be certain that the base strategy has not been altered in anyway. Once you have satisfied yourself on this you can then move on to the next step, which is to evaluate your own actions with regard to strategy execution.

The chances are that as the trader started to trade live he became more 'aware' of the strategy and the emotions that being live introduces. This awareness of pleasure for a win and unpleasantness for a loss starts to introduce the rational of 'maybe this one is not a good signal?'

Suddenly cherry picking of the signals given by the strategy has been introduced and in doing so the complete strategy has been invalidated. Many traders cannot see this point and simply see it as an improvement to the strategy. This is a great danger for the trader and the reasons are twofold.

One -> Psychology in action

If as a result of cherry picking a trade the trader receives a profit, he has then been rewarded for breaking his strategy. This has the same effect of giving the baby sugar instead of lemon.

Two -> Reaction

If as a result of cherry picking a trade the trader takes a loss he has then been punished for breaking his strategy. Your first thought at this point is most probably 'If he has been punished (similar to the lemon as opposed the sugar) he is less likely to do the same again and break his strategy'?

This is a logical thought tract, but is not correct because unlike the baby story there are other consequences present because of the ongoing emotional challenge in trading.

In the above scenario what is more likely to happen is quite the reverse. The associated pain that comes with the loss was received as a result of the trader making a decision about whether to carry out the trade under the cherry picking conditions. Now the brain is faced with a scenario where decision equals possible pain. Once this subconscious thought structure takes hold the trader is in trouble because ANY decision will start to introduce fear, doubt and then ultimately indecision. The indecision then extends into the main strategy itself. Now the trader is faced with a new subconscious question that says

'Is the STRATEGY going to work this time?'

What has happened in the above chain of events is the establishment of a NEGATIVE decision loop; the only way out of this is to break it and at the same time install a positive loop.

Instructions on how to do this.

Refco Spot do seem to make forex options trading much more easier for those new to options trading. All you need do on their browser-based platform is input:
  • The amount of money you would like to make..
  • On the currency pair you wish to speculate on...
  • To hit (or not hit) a certain price...
  • In the amount of time you set.
When your requests have been entered Refco will then display a cost to complete your trade. Depending on the type of trade you have requested the cost can range from US$10 to as much as the amount of money you wish to make (which will leave you with zero net profit of course). However, the benefits of this type of trading is that you know what your worst possible loss can be if you happen to get it totally wrong.

However, nothing is as rosy at it seems, upon further investigation we found quite a few imposing restrictions, here are some of them:
  • Take a strong elastic band and place it over your left wrist (it should be loose and comfortable to wear)
  • Turn your left wrist so that your inner wrist is visible.
  • With your right thumb and index finger take hold of the band.
  • Pull the band about three inches away from your wrist and let it go!.

If you have followed instructions up to this point you are now experiencing pain and will most certainly not be too excited about doing it again. This is your tool to get you right back on strategy in a way that is extremely powerful. The reason that this is so effective is because it sets new thought pathways in the subconscious mind.

Basically what you are doing is manually associating pain with the trait that you want to avoid.

As a simple example, take any smoker and get them to use the very same technique every time they feel like a cigarette. Very soon the brain will associate PAIN with the THOUGHT 'I want a cigarette'. Once this happens the subconscious will stop delivering the thought 'I want a cigarette.' The power of this is that your brain is learning at a base level and the whole thing becomes automatic. You will literally change without conscious effort. The correct use for this in trading it to take ONLY ONE element at a time and deal with this. You might for instance take the THOUGHT 'shall I trade this signal' and apply the rubber band to that thought.

Very soon your trading will improve. So get psyched and see your trading improve and save more of your hard earned cash!

Martin Cole

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