In Search of a Winning Strategy
As traders we must attempt to identify profitable trading strategies; a creative process. Sifting through a wealth of information, mentally testing and retesting our strategy; attempting to decide if it will work under the current market environment, or which market environments are ideal for the strategy.
In your search there comes a point when you start to believe that you’re right. At this point in time, you must stop deliberating whether or not to go with a particular strategy, and make a final decision.
If you’re like many traders, however, you’ve made your share of bad decisions. Psychologists have studied the thought processes that go into making decisions. It’s a two-stage process, according to Dr. Daniel Gilbert, a professor of psychology at Harvard University. When you are evaluating a strategy, there comes a point in time, when you start to believe that it is true. That is the first stage of the decision making process, believing that you are right. The second stage consists of determining whether or not you are actually right.
The human mind seems to work in a peculiar way. In order to fully understand and mull over a strategy, we must first believe it is true, even if it is actually false. After we accept the strategy as true, we then go through a process of thinking and re-thinking the strategy before finally deciding if our initial acceptance of the strategy is prudent.
Let’s look at an example. Suppose you decided from what you have read and heard that a company that is about to announce earnings, was going to surprise on the upside. That is your hypothesis, your strategy. You first accept that you are right, that is stage 1 of the thinking process. After all if you thought your strategy was wrong you would just forget it and move on.
What if you decided the strategy was right, but then stopped deliberating, instead of continuing to question whether or not you made a good decision? If you avoid Stage 2 of the thinking process, you’ll continually jump to the wrong conclusion. You must think and rethink the strategy a little while longer; play Devil’s Advocate, think about what might go wrong. What is the risk if I am wrong, can I reasonably protect myself in that event?
Research studies have shown that when people are under time pressure, or tired and worn out, they do not fully deliberate their decisions. In other words, they engage in Stage 1 thinking, they accept that their hypothesis is true, but they avoid Stage 2 thinking; they assume their initial hunch is right without fully considering evidence that may refute its authenticity.
When making a trading decision, you must fully deliberate your alternatives. It’s perhaps a fine line between deliberating too much and being impulsive. Don’t rush the decision making process. Slow down, and realize your limitations.
