How to Deal with Trading Losses using Positive emotions

How can traders deal with Loss, the mother of all negative emotions when trading in monetary markets? How can traders use positive emotions to help them deal with the negative emotions and consequential feelings prompted by a trading Loss? Traders can do so Overlaying the Pain of a Loss or trading error with something that links to a positive emotion.

Eventually, all traders will experience a loss, an unavoidable situation that destroys a trader’s carefree state of mind. The most positive attitude conceivable coupled with the best methodical and analytical skills and the best realization of one’s surrounding can’t prevent a trader from eventually feeling the heat of a trading error or losing on a trade.

People disdain losing significantly more than they appreciate winning, which is known as the Loss Aversion Bias (Levy, 2015). A loss is mentally twice as intense as increases (Levy, 2015). It is seen when loss increasingly pose a threat than additions of indistinguishable greatness and individuals concentrate more on the potential loss. This sounds entirely self-evident, yet can trading can be affected by it (Levy, 2015). Tversky and Kahneman (1973) discussed this bias and figured what is known as the prospect hypothesis in 1973. Tversky and Kahneman found that loss is felt somewhere around two and more than two times more than additions (Tversky & Kahneman, 1973).

This phenomenon then leads a great deal of traders towards inaction as opposed to activity, and they miss a considerable measure of chances. Tversky and Kahneman (1973), identified irrational loss aversion as a very common trait in individuals. Framing also enters into loss aversion, as people will accept a negative outcome more readily if it is framed positively, for instance if a person loses $200 out of a $300 investment, that person will view the result more positively if it is stated as “saved $100.” Loss aversion leads traders to hold on to an asset longer than they should and conversely, to sell an asset that has appreciated sooner than they should. The loss aversion effect leads, ironically, to investment decisions that exacerbate losses and minimize gains, which produces outcome that should be unacceptable to the risk-averse.

Exaggerated emotions of loss aversion bias are caused by projection bias; the extent of the endowment effect is magnified by it (Gerrans et al., 2015). Projection bias is an element in human intuition where one conceives that others have the same need, demeanor or certainty that one harbors oneself, regardless of the possibility that this is unrealistic to be the situation (Gerrans, Faff, & Hartnett, 2015). It can be said that valid expectations leads to the endowment effect that more pain will be caused by the losses than the endowment effect is helped by the gains (Gerrans et al., 2015). These might be considered to be the exaggerated reaction to the real inclinations (Gerrans et al., 2015). Loss aversion is the reluctance to accept a loss, even when that might be the best thing to do (Levy, 2015).

Loss is a trader’s greatest enemy, an enemy that leaves a trader with a scaring effect. Traders must always be careful not to discount past losing experiences and their affect altogether. The job of a trader in vetting his own evaluations is to ask himself if he or she might have been subject to biases caused by previous losses. Ultimately, the only defense against such a bias is to be aware of it. The human brain, though immensely powerful, is not a perfect calculating machine; it is not a computer and negative emotions arising from previous losses and biases affect the thought process.

The greatest lesson I can communicate to traders is to teach them how to control the lens of how they see things and how they see the world around them; in the dealing room and while trading it is crucial to know that how they see the situation helps them control negative emotions. It is how the trader interprets the situation that makes a difference. I always tell my students: It’s you that interprets the situation the way you see it, so make sure you control making judgments. A trade loss will tap a trader into feeling of pain, anger, resentment and hopelessness. How a trader interprets a loss is an experience of his or her beliefs and attitudes. A trader must operate out of belief that there is not possible way to avoid a loss and must accept the risk and account for all of what would otherwise be the unacceptable possibilities when dealing in financial markets, both financially and emotionally. Acceptance or the ‘’It is what it is attitude’’, gives traders optionality. The traders must first acknowledge that losses can happen, then they have to let it go, and then they have to accept it. With this belief of acceptance and managing expectations, it is unlikely that my dealers would experience a deterioration of attitude when trading, and they would simply be able to let it go and move on to the next winning trade, irrespective of the outcome of the previous trade. If any of the traders fail to embrace this mental perspective and fail to manage expectations, they are going to feel immense emotional pain and depending on how much energy is behind the expectation, it is going to hurt a lot when it is not fulfilled. Experienced traders know that they must accept the inherent risks of trading and accept complete responsibility for the outcome of any trade. They also know that they should not expect the market to fulfill their expectations, their hopes or their dreams. The market is neither their enemy nor their friend. Experienced traders know that assuming responsibility means acknowledging and accepting that they are completely responsible for their success or failure as a trader. Positive emotions and positivity resonance can get the trader out of this negativity loop.

Losing money creates a sudden shift from joy to pain and this can create a psychological shock that will sink a trader into feelings of pain, anger, resentment, disdain and hopelessness and the only way to overcome these negative emotions is if you, as the trader you are, free your mind of fear, anger, regret, despair and disappointment. You won’t have a reason to experience these negative emotions when you assume complete responsibility. When a trader accepts the risks, he or she won’t perceive the anything that happens to him or her when trading as threatening. If nothing is threatening, there is nothing to fear.

A few years ago, I developed a mechanism that helped me deal with losses and now whenever I am hit by a loss, I stay in almost complete control. The method involved Overlaying the Pain with something that links to a positive emotion. I started to recreate and relive the emotional state of loss and simultaneously, listen to music I enjoy, for me classical music does the trick. With time, now when I incur a loss, my heart does not palpitate so strongly and I do not suffer a sudden shortness of breath. I am not saying that I feel absolutely nothing when and if I incur a loss, but I do not feel as strong a psychological blow as I did in the past. I advised my traders to practice reliving the situation each day, listening to soft music they enjoy. Reliving a frustration situation helped me study the effect of emotions or response to emotions. It helped me control the bodily piece of it (heavy breathing and heart palpitation). It really worked for me, maybe it will work for you. 

References

Levy, H. (2015). Stochastic dominance: Investment decision making under uncertainty. Springer.

Tversky, A., & Kahneman, D. (1973). Availability: A heuristic for judging frequency and probability. Cognitive psychology, 5(2), 207-232.