Reblog: Does Your Trading Psychology Have A Dark Side?

Having worked with highly skilled traders of financial markets at a variety of money management organizations, I’ve noticed one distinctive marker of success: the great traders leverage one or more great strengths in their personalities and in their information processing. Those strengths differ from one exemplary money manager to another, but in each case some distinctive strength is evident.

One portfolio manager, for example, is introverted and highly analytical. He works from an enclosed office that creates a quiet, distraction-free environment. His trading draws upon patterns in high frequency data not tracked by the vast majority of market participants. When those patterns appear, his software enters orders in the market, essentially eliminating any subjective elements from his decision-making. This automation frees him up to conduct new research for much of his day. By leveraging his analytical capacities and emotional self-control, he has created an approach to trading that has been successful for over a decade.

A second portfolio manager is quite different. He is quite extroverted and works on an open trading floor with a team of junior traders. He watches markets closely and continually communicates with market participants on the buy and sell sides. He is unusually skilled at distilling what others are thinking and feeling, particularly as markets are moving. He explains that his “edge” in trading is his ability to feel the fear and greed of others and exploit the biases in decision making that result from these emotions. For example, he detects unusual bearishness and risk-aversion among traders prior to a central bank meeting. When the meeting produces little surprise, he quickly takes the other side and accumulates a large position. By leveraging his social competencies, he also has crafted an approach to trading that has yielded long-term success.

We recognize our strengths in our passions. It is intrinsically rewarding to exercise competencies, and so we are drawn to activities that leverage our distinctive strengths. This intrinsic interest keeps us involved in activities despite inevitable setbacks, accelerating our learning curves. It is impossible to sustain the many hours of deliberate practice needed to achieve expertise in a domain without deep, intrinsic motivation. Success results from channeling the best within us.

Can this be taken too far, however? Is it possible to overutilize strengths to the point at which they become vulnerabilities? Hogan Assessments refers to this phenomenon as the “dark side” of personality, in which the very traits that contribute to our success can lead to our undoing. For example, a business manager that has a strong sense of vision and capacity for leadership can also come across as overbearing and closed to the views of others. A socially sensitive therapist can become so concerned with sustaining a positive relationship with clients that he or she fails to confront destructive patterns, such as alcohol abuse. The fact that the behavior emerges from the strength makes it difficult for a person to identify as a weakness. It is as if we are so dazzled by the light of our strengths that we fail to appreciate the dark sides.

So it is in trading financial markets. I find that it is rare in the professional trading world that poor trading results from such weaknesses as laziness or emotional lack of self-control. Rather, poor trading follows from our dark sides and the misuse of our strengths. Consider a few examples:

• A prudent trader who avoids large drawdowns and produces superior risk-adjusted returns has difficulty taking greater risk on solid opportunities and underutilizes his or her capital.
• An aggressive risk taker who can pounce on meaningful market opportunities easily becomes overconfident and takes unusually large losses periodically.
• A trader whose passion for markets extends to preparation before and after market hours fails to notice the needs of spouse and family, creating significant tension in the home.
• A very disciplined trader who is excellent at following rules and processes finds it difficult to adapt to changed market conditions and continues doing what is no longer working.

In each of these cases, the trading vulnerability springs from the very traits that have contributed to success. This frequently proves to be a devilish situation, because the natural efforts to correct the weaknesses can also take people away from the strengths that underlie their best performance. For instance, the disciplined trader who tries to be flexible and adaptive can veer from rule-governance and create unintended emotional variability in decision making.

A useful exercise to cap the year is to review the best and worst of your performance. In trading this means reviewing in detail the greatest trading successes and failures of the year. Once you’ve mapped these out, identify the strengths that have contributed to the successes and then map them to the failures. In the great majority of situations, you’ll be able to see how poor performance stemmed from an overuse or misdirection of one or more strengths.

This exercise naturally leads to the creation of two strengths-based checklists. One is a “to-do” list that captures the optimal expression of strengths. The other is a “to-don’t” list that describes the ways in which those same strengths can be misdirected. The idea is to sustain a high level of mindfulness about how to best employ one’s strengths across different situations. It’s the mindful market participant who is aware of both light and dark sides and able to ensure that strengths are deployed in ways that truly strengthen our performance.

The original article is written by Brett Steenbarger, appears on Forbes.com and is available here.