I have generally found success fading the recommendations of such emotional gurus. Their market maps are distorted by their needs for recognition, and the emotionality of their communications is a measure of the degree of likely distortion. I recall one guru who remained steadfast in his support of Nasdaq growth stocks during the severe slide in the early years of the new millennium. Following market bounces, his opinions were voiced in a particularly strident manner, almost as if he were trying to talk the market higher or to convince others (or himself) that he was right. These strident communications invariably occurred within a few days of the ultimate market high, making considerable money for anyone trading from the couch.
For sheer projective test value, however, few market phenomena can beat the online bulletin boards in which people share their market perspectives. Here, the individuals posting their views are not constrained by the need to maintain an image of professionalism. What often emerge are raw responses to market ambiguity in which people project their most basic fear, elation, regret, and hope. I sometimes look for postings that are placed on the board at odd hours, such as very late night or very early morning. A person who is offering emotional perspectives at 3 A.M. is clearly desperate; the presence of many such people is a nice indicator of sentiment extremes in the market. A series of hopeful late-night postings about technology stocks early in 2001—in the midst of their historic decline—struck me as peculiarly lacking in form level. It was one piece of information that told me the decline had further to go.
Occasionally, I will post a market analysis to a popular bulletin board simply to gauge the response of readers. I generally lay out my reading of the market, the conditions under which I might go long or short, and my current leaning based on my observations. Occasionally, I will receive positive replies in which readers will share their own analyses; occasionally, I will receive no replies. Sometimes, however, my posting will strike a chord, and I will receive vitriolic, ad hominem responses. On one occasion, when I indicated a leaning to short the market on waning rallies, I was greeted with insulting remarks from several traders. One even accused me of undermining the economy by advocating the short side! If this were an isolated response from a single crackpot, I would pay no heed. The fact that several people, independently, felt sufficiently threatened by my analysis to attack me personally provided useful information. They needed the market to rise. Had they felt secure with their bullish stance, they would have had no need to attack.
Two days later, the market did in fact rise. It then sharply reversed and headed downward to new lows, culminating in a panicky selloff. At some level, I believe, those who posted attacks to the bulletin board knew that the market was vulnerable. This, however, conflicted with their existing positions, creating a psychological dissonance. Their attempts to quash my trading strategy were an effort at dissonance reduction. Their maps were no longer fitting market realities—and their emotional communications were the best evidence of the lack of fit.
At the time I am writing this, the most aggressive mental map I experience among longer-term market participants is the insistence that failed large-cap growth stocks—many of which are down significantly from their highs—will return to their prior glory and bail out their retirement plans. Any intimation that these stocks have seen their best days and that performance has swung to other market segments and themes is met with violent disagreement. I thought one middle-aged man was going to physically attack me when I simply asked how younger investors would keep the market value of these stocks elevated above historic norms while the greater number of baby boomers cashed in their retirement holdings.
His response was no different from that seen in therapy sessions when I strike a nerve and point out something that is threatening to a patient. It is not disagreement, but the need to reject evidence before evaluating it that is significant. The best market forecasts are the ones people, at some level, know to be true but cannot reconcile with their interpreters. A trader whose portfolio is about to undergo death and dying will first experience denial and anger, and only later fear and capitulation. Great trades can emerge from the denial and anger phases, fading the positions of insecure holders.
MAPS AND THE LANGUAGE TRADERS USE
Imagine that two traders, John and Carol, come to my office for counseling. Both have the same presenting concern: They find themselves too quick to take profits and too slow to trim losses.
John presents his problem as follows: "Doctor, I don't know what's wrong with me. Maybe I have some need to lose money. Can you help me? When I put on a good position, I get too excited and take profits before the move is even halfway done. It's like I sabotage myself. But when the market goes against me, I hang in there while it goes down and down. I seem to be a glutton for punishment. I did that in my marriage as well. I stayed in that awful relationship for years. What's my problem?"
Carol has a different presentation: "Doctor, maybe you can help me. I work hard as a trader, but my results aren't what I'd like. I find myself rationalizing reasons for staying in bad trades and becoming fearful of seeing my profits evaporate. I need a way to stay steady and think clearly when the market is moving quickly. Can you help me?"
Here we have two people with the same basic concern, but two very different problems.
The key to understanding these traders lies in the language they use. The words people employ are among the best windows on their mental maps. John has defined the problem as himself. He views himself as a "glutton for punishment"; he sees himself as self-defeating. His mental map is skewed: He is not a person with a problem; he is a problematic person.
Carol, alternatively, does not personalize the problem. She sees a weakness in her trading execution, not a fundamental character flaw. Carol wants to solve a problem; John wants to change himself.
Psychologists are attentive to such linguistic subtleties, for they reveal a great deal about a person's self-perception. They also say quite a bit about how people view markets.
One of the pleasures of writing columns for financial web sites is the opportunity to hear from readers. Their e-mails provide valuable insight into the minds of traders during turbulent market times.
After a column I wrote in February 2001 for the MSN Money site, several readers responded with their concerns about the falling market in technology stocks. Sometimes these letters ask me to perform a crystal ball act: Where do you think this market is headed? Should I hold or sell?
These questions, however—asked in the face of an historic one-year decline from over 5000 in the Nasdaq to under 2000—were different. "What is this market doing?" was the gist. People were not even focusing on tomorrow's market. They were simply trying to make sense of the present.
Fear and greed generally get top billing in market psychology writings, but there is much to be said regarding trauma and disorientation. The manner in which readers responded to my column said to me that they were neither bullish nor bearish. They were paralyzed. In fact, the results to a subsequent informal poll I took of reader-respondents showed that not one had decreased their positions during the fateful market drop, despite media reports of "capitulation." That was an important factor in my analysis that the bear market had not yet ended at that juncture.
Cognitive therapy is based on the understanding that people's responses to the world are mediated in part by their ways of thinking. The language people use is a window that reveals how they think. Their meanings of the world are reflected in the words they choose and the ways in which they organize those words.
Consider a job applicant for the position of company CEO (chief executive officer). The firm is looking for a person who can be a strong and effective leader. The applicant has a positive track record at a smaller company and qualifies for an interview. He is asked a question about his experience at the smaller company and responds: "I've seen some ups and downs at the XYZ Company, but fortunately the ups have outweighed the downs. Several manufacturers were attracted to us as a supplier during my
tenure as president, and those accounts significantly boosted our production and market share. The resulting jump in our share price helped me retain our key managers due to a generous stock option plan. I'm seeing some challenges on the horizon, including a slowdown in the general economy and rises in labor costs, especially health care. This past quarter, those factors ate into our margins somewhat. We've remained profitable throughout, however, and I believe the economic downturn will leave us stronger than ever."
On the basis of this reply, what might you hypothesize about the candidate's suitability for the position? The average person might look at the content of the words and conclude that this is a successful, positive-thinking leader. A psychologist, however, would entertain reservations about this candidate.
Although the words are positive, the ways in which they are structured are revealing. Notice that the candidate never speaks of himself in the active tense. Things have happened to him; he has not truly described any leadership. This is reflected in the fact that his language does not place him in an active role. How he constructs his sentences says more than the sentences themselves.
There are few words in the English language more powerful than "I." Whenever you utter an "I" sentence, you are using the language to reflect important psychological realities. How you experience and construct your world is often manifest in your "I" sentences. Do your "I" sentences contain more positively tinged words or negatively tinged ones? More active verbs and adverbs or more adjectives and passive verbs? I strongly suspect that the ratio of "I" to "me" in a person's speech is a nice "technical indicator" of the degree to which a person views himself or herself as an active agent in his or her life. "I" can do things, but things can only happen to "me."
Your understanding of the market is similarly revealed in your language, as in the example of my column readers. This is also revealed in online bulletin boards and chatrooms devoted to the market. The content of these message boards and rooms is not particularly important. One person might tout a group of stocks; another might pan them. The language used in the postings, however, often speaks volumes.
One simple gauge is a measure of the frequency of emotional words in the posts. Some postings are relatively factual and focus on news, earnings, product developments, chart patterns, and so on. Others are highly emotional and either attack or praise companies, industries, economic policies, and so forth. As a psychologist, I don't care whether writers are pro or con; what is relevant is that they are emotional. In general, increased emotional processing of information is seen at important market turning points, when bullishness or bearishness is at extremes. This is a valuable marker for the couch trader.
During the aforementioned tech-stock decline, postings vilifying Federal Reserve (Fed) chairman Alan Greenspan reached a frenzied pitch. It was difficult to find a message board without numerous postings blaming personal losses on Fed policy. This suggested that a significant number of traders were processing market information in an emotional mode, contributing to rising market volatility. That set up a number of profitable short-term trades based on (temporary) pullbacks in volatility.
The language of the market can also provide useful clues as to emotionality. I monitor put option and call option volumes every five minutes of the trading day to look for significant expansions. Instead of computing the traditional put/call ratio, I simply examine the degree to which total option volume for each five-minute period compares to its relative norms (the average option volume for that same five-minute period over the past 100 days) and to the most recent set of five-minute periods. The total option activity is a gross measure of emotionality. High levels of emotion often occur at those points when traders are playing the game in the ways it was intended to be played. This can serve as a marker for a promising contrary trade, for it reveals the models under which traders are currently operating.
CONCLUSION
Once you become sensitive to the structure of language, reading financial web site columns, watching financial news programs, and participating in online chats take on a new dimension. Your language reflects your worldview; every time you speak, you reveal. People will rarely disclose their true feelings in what they say, but they cannot hide their feelings in how they say it. Good poker players, psychologists, and traders know the value of "tells." Your words, feelings, and actions reflect the models you employ to make sense of the world.
More than once I have heard successful traders indicate that they figure out the right thing to do in the markets by determining what could happen to frustrate and to hurt the majority of traders. At first this may sound paranoid—and, believe me, I have often thought the market had a personal vendetta against me—but it may in fact reflect a profound understanding of one's model making.
Time and again, I have seen situations where bulls and bears were dueling it out in the chatrooms, only to find the market mired in an ongoing consolidation range. Similarly, it has been at the gloomiest market periods, such as the days following the September 11, 2001, World Trade Center attack, that the market has been able to mount meaningful rallies.
The function of markets is to efficiently allocate capital within an economy. To accomplish this function, they must, over time, reward risk assumption. If the assumption of risk systematically produced inferior returns—if stocks consistently returned less than savings accounts—business formation and expansion would essentially come to a halt. The mental models of the markets formed by the majority of traders define what they perceive to be the safe, certain path. Although such models may produce acceptable returns on particular occasions, overall, they must be punished if risk is to be rewarded by the markets. When I saw the dramatic capital inflows into bond funds and money markets in the wake of the September 11 disaster, I knew it was time to shorten the maturities in bond portfolios and to take profits at the long end of the curve. The panic response of the market—whether to the upside or the downside—is rarely rewarded. Rather, the market rewards those who create anomalous maps, finding the nonobvious ways in which the trading game has been designed.
Chapter Twelve
A Session at Gunpoint
In tensions, we find intentions.
The role of extraordinary mind states in accelerating change helps to explain why crises are times of both great turmoil and great opportunity. It is when our mental maps are most challenged that we are apt to feel disoriented and threatened. Yet this is also when we are likely to stop assimilating events to our maps and instead accommodate the maps to our discrepant reality. Change requires that we provoke the crises that challenge our constructions of self and markets, shaking up what we have taken for granted so that we can approach life and trading anew.
In this chapter, we will explore the role of crises in change and the ways in which we can afflict our comfort through the strategic pursuit of unsettling events. If we learn to embrace crisis, we have taken a large step toward becoming our own change agents—across all facets of life.
JACK, MAN IN CRISIS
There is an unwritten law in counseling: The probability of the occurrence of a crisis is directly proportional to the therapist's proximity to Friday afternoon. All week can be slow; it doesn't matter. At 5 P.M. on Friday, someone is going to call and will be hurting. And every fiber of your being wants to ask, "Can it wait until Monday?" But you don't ask. You cheerfully set the appointment for 6 P.M. and practice a new apology for a late arrival home.
There are times, like right now, when I'm sitting in my supermarket cafe perch, my laptop looking slightly out of place amidst the early-morning weekend shoppers, that I love what I'm doing. I've just broken through a major obstacle with a student who has been through hell, and I think we'll work everything out just fine. I've also reviewed three years of data on the Dow TICK ($TIKI) and Standard & Poor's (S&P) futures premium, and I believe that I've refined a tradable short-term pattern that I can test out. So many ideas . . . so little time.
Then there are times like Friday afternoo
n, when I wish I had banker's hours—or no hours at all. After back-to-back meetings with people in varying states of distress, the finish line looks very far away at 6 P.M.
That's how I was feeling when Jack entered my office. During the hour previous to Jack's arrival, I tried to convey a message to a client by challenging his persona, his comfortable view of himself. In the aftermath of the subsequent misunderstanding, I wasn't sure that he would return to counseling. Holding my head and lamenting the lightning stroke with which I had delivered my message, I was, in Borges' words, a case study in contrition and weariness.
Jack was a big man, in every sense of the word: tall, broad shouldered, and stocky. He looked haggard and emotionless. He wore a sweatshirt and jeans, both of which needed a good laundering. Everything about him screamed depression.
Within 30 seconds, my energy returned. Jack stated his intention to kill himself. Not with fear, not with anguish, just very straightforwardly. He would plant his car into a tree at 60 miles per hour. It was plausible enough to qualify as an accident, he explained, and to allow his children to inherit the insurance money. A brief empty feeling in the pit of my stomach told me that this was not the usual "cry for help." This was the real thing.
"I'm here because people keep telling me to talk with someone," Jack explained. "But I've made up my mind. I don't want to live. I won't live this way." With that, he covered his face and collapsed into silent tears.
It takes a certain kind of person to enjoy crisis intervention. Everything that happens in long-term therapy is condensed into a single session in crisis intervention: getting acquainted, learning about the person, shifting gears, developing and implementing a plan for change. Such speed is not for everyone; after all, more people drive the Toyota Camry than the BMW M3. Crisis intervention is the NASCAR of counseling. No comfortable analytic couch and careful interpretations, à la Freud; just a stripped-down carbon fiber cockpit and a heady blur of passing events and rapid reflexes.
The Psychology of Trading Page 33