What Causes Trading Slumps?
It’s a situation all too familiar to traders and portfolio managers: After you’ve been seeing markets well and making good coin, you suddenly can’t buy a winning trade. One loser is followed by another and another, as the demons wrack the brain: What if I can’t get out of this? What if my edge in the markets has eroded? You try to adjust your trading, only to miss trades that normally would have been winners. Nothing is working. You’re in a slump.
Many factors can create series of losing trades: shifting market trends, correlations, and volatility; outside distractions; and simply the random chance of being wrong X times in a row. A series of losing trades does not become a slump, however, until it plants itself in the trader’s mind and affects both thought and behavior. In that sense, the real cause of slumps is not what initiated the losing streak, but what sustains that streak. Most often, that sustaining influence is performance anxiety.
In today’s New York Times, Karen Crouse has an excellent article on how performance pressures affect athletes. She notes that the serve in tennis, like the free throw in basketball, is completely within the athlete’s control. Once the tennis player becomes aware of the pressure of the situation and the stare of the crowd, however, natural performance suddenly becomes unnatural. Double faults accumulate, free throws clang off the rim.
As one analyst explained in the article, “It’s like I cringe when people are serving second serves on key points…You can see it in their faces–it’s almost like their mind is freezing up and they just look like they’re not going to win this point.” What is surprising is that such pressures affect even the best, most seasoned performers.
Trading is like free throw shooting and tennis serving in that the actions are wholly under the performer’s control, there is intense scrutiny of outcomes, and there is plenty of time to think (worry) about those outcomes.
Indeed, performance anxiety will occur any time thinking about the outcome of a performance interferes with the actual act of performing. That is what prevents many men from performing in the bedroom; what bedevils many a public speaker or college test taker.
Traders overcome slumps the same way that athletes do: by re-establishing a focus on the process of performing and de-emphasizing outcomes. Caught in her own serving slump, tennis pro Dinara Safina advised players, “Please try to see your ball when you serve.” In other words, stop focusing on where the serve will land and just concentrate on hitting the ball well.
The best portfolio managers will temporarily cut their risk during a period of slump, to the point where their overall profitability won’t be greatly affected by the next trade. With profit/loss off the table, it becomes easier to focus on the process of generating ideas and executing them well. Cutting position sizes has the effect of shifting the trader’s focus. This short-circuits the vicious circle in which performance anxiety leads to more losses, leading to ever greater pressure.
Psychiatrist Milton Erickson recognized that insomnia is basically a sleep slump. Once insomniacs start thinking and worrying about their lack of sleep, they can no longer relax and enter the frame of mind needed to naturally drift off. In one famous case, Erickson advised an insomniac to get out of bed when he couldn’t sleep and meticulously scrub his kitchen floor with a toothbrush. Willing to try almost anything, the patient followed the therapist’s advice and promptly became so dulled by the tedious task that he dragged himself to bed for a good night’s sleep. The task broke the cycle in which thinking about sleeping interfered with the process of falling asleep.
In solution-focused approaches, a coach will work with traders in a slump to focus on those trades that are going well. Rarely, even in a slump, does a performer truly lose all the time; it just feels that way. By bringing attention to what the trader is doing right, the focus shifts from one of performance outcomes to the process of following one’s own best practices. It’s the trading equivalent of seeing the ball when you serve.
As a rule, slumps don’t just end; they have to be broken. Ironically, it’s when performers let go of their need to perform well that they suddenly gain fresh access to the skills that produce elite performance.
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September 2nd, 2009 at 12:46 pm
Great post, Brett. As a pretty good hoops player in my day, I often went through free throw shooting slumps from time to time (too much time to think about it), so this one resonated with me in a big way.
I’ve found that taking a step away from trading for a bit (and just enjoying life’s gifts), and like you said, keeping positions small, has really helped me a lot lately.
September 2nd, 2009 at 12:47 pm
The hindbrain and body know how to execute, but sometimes the forebrain and limbic system become involved to an excessive extent. The amygdala and prefrontal cortex don’t know how to play tennis, the cerebellum does. Soccer players rarely look at the goal when shooting, they know where it is – just try to make a sweet contact.
Trading slumps can have a lot to do with ego (throwing good money after bad) and also are triggered by transient or permanent changes in correlations – we tend to fixate on correlations, especially those of us with a Macro bent.
September 2nd, 2009 at 1:49 pm
Most traders can’t even articulate what their edge is period, much less in specific market conditions (e.g. range bound, trending, high volatility, etc).
IMO, simply focusing on execution and adherence to your plan and scaling down is only part of the solution. If you cannot even tell someone in a simple one or two sentence what your edge is, in a qualitiative sense (can’t imagine anyone besides straight quant guys who would actually attempt to quantify the edge).
The best analogy I’ve heard on trading, and one that really was the fundamental shift in mindset that has made me a successful trader, is this: Trading is like counting cards in blackjack. You only play when you have an edge. You expect to have losing trades on a recurring regular basis. You take every trade where you have an edge. You determine what % of funds to risk in any one trade, preferably through a risk to ruin/kelly analysis. You set logical stops based on either chart levels (50dma, past lows/highs, etc) or based on a volatilty measure of that issue (say Avg true range over a 10d period or something) , and size your position according to distance to stop and $ at risk per trade. You devise a method to somehow trail and/or tighten your stop in a winning trade as the edge dissipates.
Now idea generation is still in play, but the mechanics remain the same.
My edge is simply playing retracements of overly extended issues that are solid, boring companies and/or ETFs. Trade entry is based on multiple time frames. I see potential setups coming a long time in advance by watching oscillators on monthly and weekly charts, but enter on daily charts with the same osciallators combined with chart patterns.
In sports, the action is repetitive. Serving a tennis ball is 99.99% the same everytime. The takeaway from this is outside idea generation, the actual execution of your trades from position size to stop should be divorced from emotion.
Writing everything down for the trade in advance helps. I print a daily candlestick chart with my preferred indicators prior to trade entry and and below the chart write a simple statement of why I’m in the trade, why the stops are where they are, and position size. When the trade ends, I add a second chart with marked entry/exit and add them to a binder full of closed trades. At the end of the year I go through the entire binder and make notes.
So-called “mental stops” are just an excuse to second guess yourself. Enter a real stop. Slumps are really about confidence in your edge, and not tying your self esteem to your win/loss percentage. I know a guy who wins on 70% of his trades, another who only wins on 25%. The 25% guy is making more, (because risk:reward is high on his choices) but it takes a special personality to play an edge like that. Most people can’t emotionally handle being wrong 3/4 of the time, even if they are profiting mightily.
Just some thoughts. Use em, discredit them, whatever works for ya. Good luck .
September 2nd, 2009 at 2:11 pm
Brett,
I have really enjoyed your posts the last few days. I hope moving forward you will continue to post, even when BR is not on vaca.
This was another really good one.
“A series of losing trades does not become a slump, however, until it plants itself in the trader’s mind and affects both thought and behavior. In that sense, the real cause of slumps is not what initiated the losing streak, but what sustains that streak. Most often, that sustaining influence is performance anxiety.”
Yes, I’ve been here before, more than a few times. This used to happen to me when I played sports as well.
Also agree with this, it has worked for me in the past:
“With profit/loss off the table, it becomes easier to focus on the process of generating ideas and executing them well. Cutting position sizes has the effect of shifting the trader’s focus. This short-circuits the vicious circle in which performance anxiety leads to more losses, leading to ever greater pressure.”
thanks for your insight
September 2nd, 2009 at 2:11 pm
Steenbarger asked:
What Causes Trading Slumps?
reply:
———–
The short answer is not being psychic. Everything else is hubris, self delusion, and luck. Some real education is helpful if it matches the opportunities being presented. There’s no such thing as a slump. You spot an opportunity. It works or it doesn’t. The concept of ‘slump’ implies omniscience gone slightly awry. It’s a phony argument and a red herring concept, or a deep sales pitch intended to fool someone into thinking real expert exist.
Why do horse racing systems sometimes go bad? Why don’t most traders retire rich beyond avarice at a young age?
Why do so many foolproof trading systems exist for sale? Answer: because they don’t work as implied, only as advertised which means they don’t work.
HFT is not trading. It’s using money, volume, and advantage to scoop money off the pavement. Only the sucker rubes outside the loop think it’s real.
September 2nd, 2009 at 2:53 pm
Good article to read, probably going to need it now, lol.
September 2nd, 2009 at 3:27 pm
This goes contrary to my understanding of the “slump” phenomenon. I read an analysis, I believe it was in Mauboussin’s book, More Than You Know. He showed that basketball players’ “slumps” occurred in-line with the expectations of long streaks due to nothing more than randomness. I.e. the phenomenon at hand is a “streak” and it is happening as predicted by probability; the “slump” is really a misguided human interpretation of said “streak”.
September 2nd, 2009 at 4:24 pm
I saw a clip with Nick Faldo talking about how golf is the worst sport for the power of negative thinking. He said it’s the only sport where the majority of players think about what not to do. “Don’t hit it left in the water” leads to hitting in the water. Players emphasize the negative outcomes instead of focusing on the task. Faldo said, “On my way over, I didn’t have to keep reminding myself not to drive into the ocean, I just got in my car and here I am, if only everything could be so simple.”
September 2nd, 2009 at 7:43 pm
in the vein of “Overanalyzing”..
False
Evidence
Appearing
Real
FEAR, the antithesis of Love(Life), Kills.
September 2nd, 2009 at 8:00 pm
lb says-
“Trading slumps can have a lot to do with ego (throwing good money after bad)’
i hear that- i arrogantly believed in my QID trade holding it w/ no stop- and buying more when the price fell- only to sell at a loss- below all bought prices- negating my hard earned profits for a trading year-
and still- i think i was right- and got screwed by the Fed and their trading partners- which is probably true- but still- why keep holding when you can buy cheaper later- take the loss and push on-
for a trader like me- one position at one time- it crushed me for two or 3 months- because- not being out of that trade i couldn’t make some other decent trades-
so i have been all cash since- frozen like a deer in headlights- waiting- possibly for the big crash- i don’t know
stupid and expensive lesson
September 2nd, 2009 at 11:13 pm
I agree with payamchee. step back and look at it objectively. it’s pure randomness. traders will convince themselves they’re in control of the overall outcome, including long term performance. but in reality, it is random.
in my opinion, one can never know enough information to confidently predict the markets. any theory that “proves right” is luck, IMO. because for every theory that was right, there are countless that are wrong because “oops, forgot about this risk or that variable”.
the best strategy – try to predict where other people’s greed will be focused, wait for proof that it is true, get in, and hope you can get out before it flops.
that being said, a great book I enjoyed years ago was Market Wizards. Before I was so enlightened (jaded?), I used to read all those books. The follow up to that was New Market Wizards, which was pretty good. They’re good fun – getting in the mind of various successful traders and investors via one-on-one interviews with them.
September 3rd, 2009 at 12:27 pm
[...] a similar vein to the last post about overconfidence, what causes slumps? Rarely, even in a slump, does a performer truly lose all the time; it just feels that way. By [...]
September 3rd, 2009 at 12:52 pm
[...] What causes trading slumps? (Big Picture) [...]
September 3rd, 2009 at 4:36 pm
@AlaskanPete 1:49 PM – Excellent insights and points. Doubting one’s edge is indeed a central element of slumps. If a fisherman can’t catch fish, he moves to another spot on the lake. If he still can’t catch fish, he moves to another lake. If that doesn’t work, he’ll try other bait and gear. All of that happens without a slump in the psychological sense, because the fisherman hasn’t lost doubt in his fishing ability. Because of ever-changing markets, the threat that one could permanently lose an edge is more real than it would be in fishing. (It would be more like an aging athlete wondering about being washed up). Knowing your edge is an important edge in itself, because it provides a grounding missing for purely discretionary traders who have never tracked their results or tested their ideas.
Brett
September 3rd, 2009 at 4:38 pm
@payamchee 3:27 PM – Very true. Many times, slumps begin as random strings of losses. It’s when we attribute meaning and significance to those, inferring that we’ve possibly lost our edge, that we turn random occurrence into psychological slump.
Brett