Stress, Trading and Stoicism

Coffee Talk About Stoicism

Genesis.

I am a grumpy research engineer and lecturer. Some two years ago I started share trading, This activity led to some very stressful situations. It took time, but experience, perseverance and understanding helped me cope with this stress. Reading Illumination articles on stress inspired me to share my story with you.

When I started trading, the available “how-to” information assumed more knowledge than I possessed to understand and apply it. Other sources were full of hype. Some “recommended” sources spruiked the necessity of signing up to their costly conferences and courses. I found this situation very frustrating. Impulsively, I decided to learn trading by doing it.

Now, two years later, I know how stressful trading can be. This story is about how I learned to cope with and manage trading stress through applying the philosophy of stoicism.

Stress and I.

I feel stress as an emotional strain, a pressure. Stress places an inexplicable, unreasonable urgency on me to solve a problem, or complete my current task. My thought is that the stress I feel comes from a sense of not being in control. This lack of control usually comes from either not having enough information or not understanding the information I have to make progress in my task.

I drew the stress diagram as an aid to understanding my predicament.

The stakeholders in My Stress Diagram are myself directly and indirectly my family who may benefit from a successful trade. The problem is defined by the stakeholders and may be stated as “use funds for profitable trading”. I added quantified requirements of time and return on investment (ROI) that can be tracked and measured.

Stakeholder’s expectations must be managed and quantified to provide a solid basis to ensure a reasonable probability of success of an undertaking.

I have the responsibility for thinking about and developing a trading strategy as a possible solution to the requirement of “use funds for profitable trading”. The strategy is quantitatively assessed against the stated problem and if all looks reasonable, a trade is placed. Monitoring the trade-in-progress gives an indication of its theoretical profit/loss (value-in-use). Closing the trade realises its actual market value.

Following the impacts of stress arrow in the diagram indicates that unreasonable stakeholder’s expectations results in a poorly defined problem. It follows that my developed trading strategy will be poor and if executed will not meet the value targets. A trade may take 25 days to complete, so a poorly placed trade can be a long drawn-out stressful experience.

Using the diagram gave me a way of unpacking a trade to identify what caused my stress in developing, placing and closing a trade. If for example I experienced stress in developing the trading strategy, then the impact would most likely be a losing trade.

Anxiety is a Normal Reaction to Stress.

Anxiety is a normal reaction to stress and can be beneficial in some situations. It can alert me to dangers and help me prepare and pay attention to improving how I trade.

Learning to use anxiety as a thinking tool to indicate the source of stress when developing and placing a trade takes time and practice. But I find it to be a vital skill for successful trading.

Early on, I experienced excessive anxiety and I stopped trading to think and take stock. I started again with simple trades to gain confidence and slowly built-on-success.

The Stress Diagram provides a framework to use critical thinking for reviewing completed trades to see where things went wrong that contributed to stress and identify ways to improve processes. Like falling off a bike, the only way forward is fix the bike and get back on!

Stoicism

Stoicism teaches how to develop self-control and fortitude as a means of overcoming anxiety caused by stress. Stoicism emphasizes the necessity of developing critical thinking, that is the ability to think clearly, ethically and without bias.

Stoicism is a deterministic perspective. In trading, the assumption is that given sufficient information about a trade and its context then it might be possible to predict every aspect of the trade. However, given the complexity of trading, perfect prediction is not practically possible. In this light I rely on the concept of “adequate determinism”.

Applied to trading, adequate determinism simplifies the physical process to allow the use of logical and mathematical methods to understand how to achieve a realistic outcome from a trading strategy. It relies on averaging outcomes over large numbers of trades.

What I do: Setting Expectations.

My trading is a continuous learning-by-doing experience. Very early I learnt that as a stakeholder, carefully setting my expectations was key to minimising stress.

Initially, I decided my target was an annual return of 30%. I also considered the ROI on individual trades based on the question: how do I cover a bad trade? Early experience showed that I needed 4 good trades to make up for 1 bad trade.

Cash flow is important in a small account. I had to decide on how much cash I could have in trade at any one time (50%). What was the largest trade I could place as a percentage of allowable cash-in-trade (20%). Finally, what sort of expiration period would I like for an option trade (1 month). I have learnt that successful trading is all about maximising cash turnover.

Setting quantitative expectations establishes a measurable control framework. It enables me to calculate a precise trading position statement at any time. The statement provides a sound basis for deciding the path forward. When worried, I take heart from reviewing the actual figures in my trades.

Creating the control framework gave me confidence that I was in control and helped minimise stress and associated anxiety. The rule-based framework is efficient and flexible. It allows me to tweak it when necessary and quantify improvement outcomes.

What I do: Defining the Problem.

I treat trading as a complicated engineering project. I use a pilot project approach — testing the feasibility, tweaking, measuring outcomes, building on success. Initially, the problem was expressed in terms of a single option trade to realise an acceptable profit within 20 to 25 days.

I trade on a group consisting of 6 to 10 symbols (e.g. the symbol “F” represents Ford Motor Company), subject to some constraints such as do not trade symbols close to Earnings time or dividend payouts. Using my broker’s platform I test the trade strategy and analyse its performance across all of the symbols in my group. I check the ROI. To gauge cash turnover, I set minimum and maximum times in trade. Finally I select the best overall symbol to trade.

My rule is simple, I come up with a trade that in theory, given my knowledge and understanding, is worth placing into the market. No emotions, no guarantees, no second guesses. This is my key to minimising trading stress.

What I do: Placing the Trade.

The trade, once selected, is put on. No questions asked, no opinions sought. Ready, aim, fire!

I monitor the process of buy/sell and try to optimise the trade cost within the limits of my ROI constraints. If I can’t meet the ROI, I cancel the order.

My rule is that the trade must be processed and placed in the market on the same day I did the analysis. If the trade is not placed, I remove it and start a new selection process on the next day.

My first trades were nail biting stressful experiences. Following this mechanical rule based decision process eliminated the stress involved in placing the trade.

What I do: Managing the Trade.

Despite what some commentators say there is no “set and forget” in trading. In any case, I am by nature curious and a tinkerer.

I update my records for each trade, including the strike price, theoretical profit, expected profit and expected trade time. I check that the fees and commissions are in-line with my expectations.

Each day, I track the progress of the trade and I check that the symbol’s chart behaviour has no surprises. This is a confidence builder and again eliminates (or at least helps to eliminate) potential for unpleasant surprises.

What I do: Closing the Trade.

The targets I set when developing the trade have to be treated as “if all goes well” targets. Closing the trade is a “judgement call” based on my answer to the question “will the trade make the target?”.

Once again, I follow a routine analytical process to help make the judgement call. In the end, it is about a “feel” for the stock’s behaviour given past experience, the supporting analysis, and knowing my style of options trading.

My rule, is that once I make the call to close the trade, I carry out the close immediately. Money is banked. No second guesses. Move on to the next trade.

What I do: Move on!

My trading is made up of firm, no nonsense routines. Design the trade, place the trade, manage the trade, close the trade AND MOVE ON. I do carry out a monthly “critical thinking review” and may tweak my rules for new trades, but I never second guess past trades. What’s done is done.

Two years now and if anything my rule based trading has helped me understand risk management. It’s not a process of eliminating risk, it’s all about understanding and accepting a level of risk than I can cope with.

I feel that my trading style, based on stoicism, has helped me in many aspects of my life. My overall health has improved because I have minimised stress and anxiety. The analytical process I outlined for trading can be applied to many quantitative problems such as manging my diet and exercise regimes.

Further Reading

An excellent article from Dr Mehmet Yildiz which inspired me to write this story.