My Note
My highlights
107 highlights from Kindle. These are the lines I stopped at.
While measured inconsistency may be the key to success in poker, disciplined consistency is the key to success in the markets once you’ve developed rules and made it a game.
It’s not wise to violate the rules until you know how to observe them. —T. S. ELIOT
After you have developed your plan, start preparing your speech, so to speak, about what you’re going to do if certain conditions aren’t fulfilled by a certain time and what those conditions are.
He internalized the developing loss in Vietnam, confused being right with doing right (i.e.,
Having personalized the situation, he saw loss as the same thing as wrong, which his ego couldn’t take. Therefore, all subsequent decisions revolved around protecting him. His thinking became, as de Bono put it, an ego-support device instead of a means of objective decision making.
That was inductive decision making. Instead of starting with a blank slate, analyzing the situation, and arriving at a decision deductively, he inductively took a position and then searched for evidence to support that original position.
Therefore, the disciplined use of a plan, with the stop-loss defined first, is the only way to prevent the losses due to psychological factors.
Therefore, judge yourself by the degree to which you objectively defined the parameters/conditions that would constitute an opportunity and how well you adhered to them. In other words, pat yourself on the back or kick yourself in the backside depending on whether you develop a plan from a method of analysis, implement the plan via rules, and then follow the rules.
Therefore, your self-image should not be a function of what you have accomplished but how you have gone about doing it.
The lesson here is: Taking either success or failure personally means, by definition, that your ego has become involved and you are in jeopardy of incurring losses due to psychological factors.
The only way to combat falling into the opinion trap is to follow Rand’s lead: think before you answer—if you even answer.
And if implemented properly, it’s actually quite boring waiting for your buy/sell criteria to materialize. The minute it starts getting exciting, you are gambling.
Remember, participating in the markets is not about egos and being right or wrong (i.e., opinions and betting), and it’s not about entertainment (i.e., excitement and gambling). Participating in the markets is about making money; it’s about decision making implemented by a plan.
Following this approach keeps you objective (Rand’s philosophy is called objectivism, coincidentally enough), and your thinking can be used to explore the possibilities for an appropriate answer rather than supporting your ego after expressing an opinion.
Contrast this to Rand’s approach: refrain from answering until you can think about the subject.
Therefore, having to have an opinion on everything or answer for everything puts you into a crowd mentality.
That prepackaging is the essence of being in the crowd because, as LeBon points out, crowds always stand in need of ready-made opinions on all subjects.
they insert the packaged opinions into their minds and hit the playback button whenever they are asked a question.
When people personalize a string of successes (or profits) and an unfolding failure (or loss) develops, having come to believe they are infallible, they use all their intelligence as an ego-support device to prove that they are right, rather than as a means to determine an appropriate course of action. When people personalize losses, they use their thinking to protect themselves, thereby rationalizing holding onto the position and distorting facts to support their view that they are “right,” not “wrong.”
it starts with a conclusion and then looks for evidence to support it.
My ego had been built up over the years because events seemed to indicate I was a little better than other people.
Teaching Thinking, internationally renowned education expert Edward de Bono says, “A person will use his thinking to keep himself right. This is especially true with more able pupils whose ego has been built up over the years on the basis that they are brighter than other pupils. Thinking is no longer used as an exploration of the subject area but as an ego support device.”
Deductive thinking, on the other hand, is consistent with the “thinking before acting” sequence of a plan: doing all of your homework/analysis and then, by default, arriving at a conclusion of whether, what, and when to buy and sell.
Thought-based decisions are deductive while emotion-based are inductive. Inductive puts acting before thinking, establishing a market position and then doing the work, selectively emphasizing the supporting evidence and ignoring the nonsupporting evidence.
Under pressure in the time of crisis, emotions determine their decisions and actions. On the other hand, a plan establishes objective criteria and forces you to distinguish between decision making based on thinking and decision making based on emotions
There is no such thing as a group brain. Since a plan is about having rules, and since mass behavior is not rule governed, having and following a plan means, by definition, you are not part of the crowd.
Having a plan requires thinking, which only an individual can do—not a crowd.
Trying to be right (i.e., betting) about an event that never ends means that you will never be completely right. Trying to get excitement (i.e., gambling) from an event that never ends will provide you with more excitement than you bargained for.
Mixing up the order of the process (i.e., acting then thinking), is betting or gambling.
Recall that thinking before acting is the definition of Speculation.
(not gambling games per se but the concept of a game)
the more the markets are treated as a game, the less likely you are to have losses due to psychological factors. Why? Games have rules and defined ending points.
But remember from chapter 7 that most people don’t know which type of risk activity they are participating in. They also don’t understand that it is the characteristics displayed, not the activity itself, that define whether they are betting, gambling, speculating, trading, or investing.
A plan that determines the stop-loss first enables you to convert a naturally dangerous, continuous process into a finite, discrete event.
If you don’t have some means of stopping the continuous process, nothing is locked in—profit or loss—and you’re leaving yourself open to being pushed and pulled around by fluctuating prices, random news events, and other people’s opinions.
Unless you create some event-defining parameters, you are in jeopardy of gambling or betting in an environment completely unsuitable for such activities.
Knowing the amount of loss ahead of time reduces the uncertainty factor to nil because you’ve acknowledged and accepted the amount of the potential loss before it occurs.
The uncertainty of the future when facing a market loss triggers the Five Stages of Internal Loss. Have you ever said to yourself, “No way! Is the market really down that far?” That’s denial. Have you ever gotten mad at the market? Called it a name? Gotten angry at friends or family because of a position? That’s anger. Ever begged the market or God to get you back to breakeven so you could get out? That’s bargaining. Has a market loss ever changed your sleep or diet patterns? That’s depression. Ever have a firm liquidate one of your positions? That’s acceptance. Unless you have a plan, your potential loss is unknown and you can count on suffering through the Five Stages, losing more money as you go through each of the stages.
In the markets and in business don’t concern yourself with being right. Instead, follow your plan and watch the money.
Are you being motivated by the prophet motive or the profit motive?
you can be right and lose money. But which is more important? Remember, there are two kinds of reward in the world: recognition and money.
Nor do you get any partial credit like you did in school for knowing why you got a math question wrong. And this is true for all business, not just the markets.
Knowing why doesn’t get you any brownie points with the market.
preoccupation with wanting to be right or wanting to be perceived as being right, explains people’s tendency to focus on why the market is doing what it is doing instead of what it is doing. They’re
Remember, we are trying to manage possible scenarios and losses, not predict the future and profits.
Once you specify what price or under what circumstances you would no longer want the position, and specify how much money you are willing to lose, then, and only then, can you start thinking about where to enter the market.
In contrast to what most people do, your entry point should be a function of the exit point.
The distinguishing factor of “the” recipe is determining the stop-loss criteria before deciding whether and where to enter the market.
But not having a predetermined stop-loss can, and ultimately will, cost you a lot of money.
Remember, there are as many ways to make money in the markets as there are participants.
most market participants pick their stop after they decide to enter the market and some never put in a stop at all. You must pick the loss side first.
The next step in decision making is establishing controls, i.e., the exit criteria that will take you out of the market either at a profit or loss.
Don’t worry about the ones you miss; they were someone else’s. Your rules will only enable you to participate in some of the millions of possible opportunities, not all of them.
Rules are hard-and-fast. Tools (i.e., methods of analysis) have some flexibility in how they are used. Fools have neither rules nor tools.
In order to translate your analysis into something more than mere commentary, you need to define what constitutes an opportunity for you. That’s what rules do; they implement your analysis.
Your analysis is the set of tools you will use to describe market conditions. Fundamental analysis in the stock market doesn’t tell you when to enter the market. There isn’t a magic formula combining the various fundamental data that tells you when to buy and when to sell.
the decision-making process is as follows: (1) Decide what type of participant you’re going to be, (2) select a method of analysis, (3) develop rules, (4) establish controls, and (5) formulate a plan.
Since you can’t really be an engineer in the market (unless you’re a “rocket scientist” on Wall Street) and since we’ve already discussed the dangers of gambling in the markets, then speculating, and therefore having a plan, is the only way to deal with the uncertainty of the future in the markets.
Speculation is forethought. And thought before action implies reasoning before a decision is made about what, whether, and when to buy or sell. That means the speculator develops several possible scenarios of future events and determines what his actions will be under each scenario.
Speculating is the application of intellectual examination and systematic analysis to the problem of the uncertain future.
The gambler plays for the excitement—the adrenaline rush. He isn’t playing to win—he is just playing.4 The speculator doesn’t have the advantage of the engineer. The rules of natural science will not render the future direction of prices predictable. But the speculator does know more than the gambler because while the gambler is dealing with pure chance, the speculator has at least some knowledge about what determines the outcome of his activity.
needs to know for a technologically satisfactory answer to his problems. He builds safety margins into his calculations to eliminate any fringes of uncertainty. Therefore, the engineer basically operates in a world of certainty since he knows and controls most, if not all, of the variables which affect the outcome of his work.3 The gambler, on the other hand, knows nothing about the event on which the outcome of his gambling depends because the distinguishing feature of gambling is that it deals with the unknown.
When dealing with the risk of the uncertainty of the future, you have three choices: engineering, gambling, or speculating.
Since the herd instinct and crowd behavior arise out of our desire to replace uncertainty with certainty, if the future were certain we wouldn’t succumb to emotionalism.
people lose (really lose, not just have occasional losing trades) because of psychological factors, not analytical ones (chapter 5). They personalize the market and their positions (chapters 1 through 4), internalizing what should be external losses (chapter 6), confusing the different types of risk activities (chapter 7), and making crowd trades (chapter 8).
So instead of trying to monitor yourself for all the different emotions and what they might mean, simply monitor yourself for the few stages of crowd formation. By avoiding the tell-tale symptoms that accompany becoming part of the crowd, you will automatically avoid emotionalism.
That uncertainty about the future also elicits two primary emotional responses: hope and fear. We hope the future will turn out well, but we fear it won’t.
man is extremely uncomfortable with uncertainty, tries to substitute certainty for uncertainty, and, in doing so, succumbs to the herd instinct.
individual and the crowd is that the individual acts after reasoning, deliberation, and analysis; a crowd acts on feeling, emotion, and impulses.
When the sentiments and ideas of all the people in the gathering take one and the same direction and their conscious individual personality disappears, then the gathering has become a psychological crowd.3 It is my contention that this process does not require a gathering of people; an isolated individual who displays those characteristics is, for all intents and purposes, a member of the crowd.
Emotions are neither good nor bad; they simply are. They cannot be avoided. But emotionalism (i.e., decision making based on emotions) is bad, can be controlled, and should be avoided. So instead of examining each of the many individual emotions, this chapter will focus on the entity that epitomizes emotionalism: the crowd.
Betting and gambling are suitable for discrete events but not for continuous processes. If you introduce the behavioral characteristics of betting or gambling into a continuous process, you are leaving yourself open to enormous losses. In betting and gambling games,
The big difference is: gambling creates risk while investing/speculating assumes and manages risk that already exists.
Life is fraught with risk. Crossing the street is a risk, driving a car is a risk, getting married is a risk, and so is having children. Needless to say, starting and operating a business is a risk, and so is participating in the markets. Risk is defined as the possibility of suffering a loss.
On the other hand, a discrete event (e.g., a football game, roulette, blackjack, or other casino game) has a defined ending point, which is characteristic of external losses.
However, internalizing an external loss is a lot easier to do with the other type of loss-producing activity: a continuous process—an activity that has no clearly defined end.
This involves your ego and causes you to view it in a negative way, as a failure, something that is wrong or bad. Since psychology deals with your ego, if you can eliminate ego from the decision-making process, you can begin to control the losses caused by psychological factors. The trick to preventing market losses from becoming internal losses is to understand how it happens and then avoid those processes.
Market losses are external, objective losses. It’s only when you internalize the loss that it becomes subjective.
carry their jock straps in math. That taught me that there are people for places, places for people. You can do some things and you can’t do other things. Don’t get all upset about the things you can’t do. If you can’t do something, pay someone else who can and don’t worry about it.
Smart people learn from their mistakes and wise people learn from somebody else’s mistakes.
Smart people learn from their mistakes and wise people learn from somebody else’s mistakes.
This “becoming convinced” is the process of personalizing achievements or successes. Learning to recognize and prevent that process is what this book is all about.
This “becoming convinced” is the process of personalizing achievements or successes. Learning to recognize and prevent that process is what this book is all about.
Listen to Herb Kelleher, CEO of Southwest Airlines: “I think the easiest way to lose success is to become convinced that you are successful.”
all too often a meteoric rise triggers a precipitous fall. People fail for the most part because they shoot themselves in the foot. If you go for a long time without shooting yourself in the foot, other people start calling you a genius.”2 Listen to Herb Kelleher, CEO of Southwest Airlines: “I think the easiest way to lose success is to become convinced that you are successful.”
Listen to An Wang, founder of Wang Laboratories:
Personalizing successes sets people up for disastrous failure. They begin to treat the success as a personal reflection rather than the result of capitalizing on a good opportunity, being at the right place at the right time, or even being just plain lucky. People begin to think their mere involvement in the undertaking guarantees success.
Personalizing successes sets people up for disastrous failure. They begin to treat the success as a personal reflection rather than the result of capitalizing on a good opportunity, being at the right place at the right time, or even being just plain lucky. People begin to think their mere involvement in the undertaking guarantees success.
That something was the psychological distortion accompanying a series of successes, drawing my ego into the market position and setting me up for the disastrous loss.
I didn’t lose that kind of money simply because of a faulty method of analysis. That may have played a role, but something else was going on to keep me in a losing position even to the point where I went into debt to hold onto it. That something was the psychological distortion accompanying a series of successes, drawing my ego into the market position and setting me up for the disastrous loss.
Experience is the worst teacher. It gives the test before giving the lesson. —UNKNOWN
there are as many ways to make money in the markets as there are participants but relatively few ways to lose, and despite all the books on how to make money in the markets, most of us aren’t rich!
What you need is not a long litany of complex psychological theories but a simple framework to help you understand, accept, and thereby avoid catastrophic losses. This book will help you recognize, identify, and avoid the pitfalls of investing, trading, and speculating.
one method for another when the first one produces a losing position.
psychological factors can keep you in a losing position and also cause you to abandon
People lose money in the markets either because of errors in their analysis or because of psychological factors that prevent the application of the analysis. Most of the losses are due to the latter.
Namely, there are as many ways to make money in the markets as there are people participating in the markets, but there are relatively few ways to lose money in the markets.
What one market pro advocated, another ardently opposed. It finally occurred to him that studying losses, losing, and how not to lose was more important than studying how to make money.
This is particularly true if you have unknowingly broken the rules of the game and won anyway. Once that happens to you, you think that you are somehow special and exempt from following the rules.
One of the premises of this book is that the rise sets up the fall; the winning sets up the losing. You can’t really be set up for disaster without having it preceded by success. If you go into a situation in a neutral position, having neither successes nor failures beforehand, you acknowledge that your odds are maybe fifty-fifty; you may have a winner, you may have loser. But if you start from scratch and have a run of successes, you are setting yourself up for the coming failure because the successes lead to a variety of psychological distortions.
They begin to treat the successes totally as a personal reflection of their abilities rather than the result of capitalizing on a good opportunity, being at the right place at the right time, or even being just plain lucky.
Personalizing successes sets people up for disastrous failure. They begin to treat the successes totally as a personal reflection of their abilities rather than the result of capitalizing on a good opportunity, being at the right place at the right time, or even being just plain lucky. They think their mere involvement in an undertaking guarantees success.
Personalizing successes sets people up for disastrous failure.
Success can be built upon repeated failures when the failures aren’t taken personally; likewise, failure can be built upon repeated successes when the successes are taken personally.
I use Jim Paul’s story as a parable to point out the three biggest mistakes that investors and traders make every day in the markets. These have not changed and never will.
successful trading is not about discovering a great strategy for making money but rather a matter of learning how to lose.
The truth is that trading, both successful and unsuccessful, is more about psychology than tactics.