The Psychology of Trading: Tools and Techniques for Minding the Markets (Wiley Trading) [Hardcover]

Traders as individuals are subject to the same emotional influences any other individual. The influences may be incitatory, i.e. inciting us to undertake action, or inhibitatory, i.e. inciting us not to do something. Our behaviour is a result of our continuous exposure to such influences and the repeated exposure thereto conditions our responses to daily life and financial market situations.

Consequently, any trader wishing to improve his performance will first have to understand what type of person he is, and what investment style will be most appropriate to match his personality. This can be achieved through either consultation with expert third parties, e.g. psycho-therapists, or through self-analysis. Self-analysis can be achieved on the basis of e.g. a daily trading journal which lists transactions, market conditions at the time of each trade, the mental disposition one had at the time, the musings of the mind at the time, and the reflections underpinning the decision to enter and exit the position.

The analysis enables an observant individual to identify patterns in his behaviour - i.e. discover the conditions under which he trades well and not so well. This will constitute the starting point for any subsequent "trance-formation".

This transformation is an extremely intensive process. In guiding us through this process, the author bases his recommendations on an extensive literature review of his field in addition to his own anecdotal evidence and empirical analysis. It is worth noting that the author is an active (part time) trader himself and has been so for many years.

Firstly, the author posits the findings that humans possess not one but two minds - a silent observing mind and a rationalising mind. The observing mind distils our personal experiences into a set of observations which are subconsciously stored in our brain and analysed for repeat patterns. Pattern recognition and associated learning thus condition us to face up to similar situations in the future. Reactions driven by this mind are often termed "gut feel" or intuition.

The rational mind is in effect the slower part of the brain which tries to -well - rationalise, i.e. cogently explain the facts that the individuals have experienced. It rationalises on the basis of what it knows and thus constitutes a best guess of our conscious mind - but this is not necessarily the correct guess. And that is where trading performance starts becoming an issue, for where our brains have adopted the wrong reflex they will incite us to trade in a manner with adverse financial consequences.

A successful and experienced trader has ideally had the opportunity to observe the market and register the minute events constituting market activity. Hence, traders develop a feel for the market before they are even able to cogently express what they "know" about the market. Gut instinct is thus no more than behaviour conditioned on repeated observation of what the market tells us (information) and how it tells us such (metainformation).

Our conscious behaviour now reacts to the brain recognising the conditions under which it has been conditioned to trigger a certain set of responses (context). Personal traumas and experiences may have conditioned us to adopt the wrong response and thus to forego market opportunities. To prevent such from recurring, we need to recondition our mind in its reaction to our observations.

For trading purposes, we need to expose ourselves to the workings of the market (paper trading, real trading, chart reading and other analysis followed by forecasting & verification sessions) and teach our brain the proper reaction by executing one's trading plan(s) under the appropriate conditions (contextual). In the process we need to become more aware of our biofeedback processes, i.e. the conditioned responses of our silent observer as expressed by physical means (e.g. hunched position, knot in the stomach, body temperature, stress awareness), as they teach us what we already know. Pairing this mind-scaping to designing backtested and proven market models will enable the mind to acquire new reaction patterns and learn new experiences.

The key to success is dedication and repetition of the "positive" reactions successful traders adopt in unrelentingly stressing market conditions. Thus, the issue is not to become an emotionless trader, but a trader in control of his emotions and the context of his emotions.

Those seeking to improve their performance will also learn about the power of meditation or other techniques which may assist in clearing the mind from overflowing emotions and helping prepare it for intensive observation and learning. It is, indeed, of no use to go through the effort of trying to learn new experiences if we are mentally not disposed towards such an exercise. In this respect, the author briefly dwells in the features of modern day geniuses; i.e. outperformance through dedication bordering on fervour (intensity), an ability to recharge one's mental batteries (mental peak performance) and stamina (discipline).

Finally, it is worth noting that the book is sprinkled with interesting tips for traders based on the author's trading experience which encompassed (at that stage) a stint with that other master speculator, Victor Niederhoffer of "Education of a Speculator" fame.

And for the purists among you - why not five stars? The author is imparting a lot of additional useful insights in his last two chapters of the book, rather than having them integrated into the main body. The last chapters are indeed a summing-up of the main reasoning followed by the author and should therefore not add any "new material". In fairness, though, I'd rather get the insights than not have them at all.