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12 Irrational Behavior and Thinking Patterns

Updated: Sep 28

1. Introduction


During the last few centuries, the world has evolved very quickly. But, it seems like humans still have to catch up on that fast evolution. In fact, we still carry some old behavior and thinking patterns. Obviously, at some point in human history, these behaviors were necessary for our survival. Today, a lot of these characteristics aren't suited to our environment anymore. This makes some of these patterns be irrational.


Our brains are fascinating, complex and very fast machines, but the one thing we are bad at, is change. Almost everybody can relate. It is very difficult to change a behavior (e.g. smoking) or a thinking (e.g. the scientific switch from Classical Mechanics to Quantum Mechanics) pattern.


The thing is, we are mostly unaware of the presence of these innate characteristics. And even after we gained awareness, changing these instincts is a pretty hard task.


In this article, I'd like to take you through twelve of these characteristics. Ultimately, the first step to change is awareness. Obviously, I picked those that are the most present in Trading, but, as you'll probably notice, you might be able to relate to these traits in your everyday life.


2. Social proof


Social proof happens whenever we are uncertain on how to behave in a social environment. If you hang out with a group of friends and two of them start staring at the sky, it is almost certain that you and the rest of the group will mimic this behavior.


A few thousand years ago, following others was a matter of survival. Today this isn't the case anymore, but this behavior pattern is still present, it's instinctive.


It is important to be aware of that trait, especially if you use social media when trading. Socials can be useful, if you don't fall for social proof. In other words, you don't want to blindly follow the crowds, no matter how many people support an idea ("If 50 million people say something foolish, it is still foolish" William Somerset Maugham).


Whenever you see some "pump and dump", it's social proof at work. Image 2.1, shows a clear pump and dump. Prices rose to 8.50 pre-market (pump) and crumbled at open (dump). By checking the feed for that stock (ticker: FRAN) on Stocktwits, you'll notice that there was an unusual increase in message volume that day. "Pumpers", are trying to convince other people to buy the stock.

Obviously, if people wouldn't fall for social proof, we would not see a drop of nearly 50% in one trading session.

2.1 Pump and dump

What you can do with socials is get new ideas and learn new things, but you always have to be critical and do your due diligence. Finally, never ever, (blindly) follow other people.


3. Confirmation bias


The confirmation bias, is the distortion of information to make sure that it fits our beliefs. Let's think about it that way : if you think that the world is an awful place, you'll find facts to back your belief about the world. What happens when you encounter a fact that denies your belief ? You either ignore it or distort it in order to make it fit your belief.


It's about the same thing when you're trading. Sometimes, especially new traders, hold bags, meaning that they hold on to losing positions for a long time, hoping for a recovery. No matter what, the trader will find himself putting more weight on the information that confirm his belief and will ignore the information that refutes it.


In order to avoid the confirmation bias, you need to weigh every new information the same way.

4. Hindsight bias


The hindsight bias, is directly correlated to the confirmation bias. We tend to understand things better in hindsight than we do in the present moment. To take the previous example of the trader that holds bags a little further : what happens when the trader decides to cut the losses ? He immediately says : "Oh, all the information I had indicated a clear downtrend, why didn't I cut my losses earlier ?". The hindsight bias. In hindsight, everything appears to make sense.


In Trading, the best way to avoid this bias, is to react to the market information that's available to you, rather than trying to predict it or to hope for something to happen. In other words, when you have an edge, you trade your edge and you remain open to any information the market gives you, be it information that confirms or invalidates your initial belief.


5. Overconfidence effect


Overconfidence is a very evil trait to trading. When we are overconfident, we tend to overestimate our knowledge and take bigger risks. Financial markets are unforgivable with overconfidence. Markets really are unpredictable, therefore we shouldn't even try to predict them.


We need to go with the opporunities that the markets make available to us. The best traders are aware of it, therefore they try to be humble and respect the markets. As an example, we could imagine a trader that is on a 5-trade winning streak. He feels great, he feels invincible. What happens ? He takes bigger risks and one day he'll inevitably issue a huge loss.


6. Outcome bias


This is another very, very important psychological trait that messes with our trading. Human beings tend to judge a decision by its outcome, rather than gauging the decision process. In the best case scenario, you have an edge and you act on that edge every single time you see it appearing on a chart.


The problem is, because trading is all about probabilities, sometimes, your edge won't work. Does this have something to do with the process ? Absolutely not, it's just how trading works. But, when you aren't aware of it, you start questioning your trading strategy, even though, the outcome is not correlated with the process. Just be aware that the outcome is not a reflection of the process.


7. Paradox of choice


The NASDAQ exchange lists more than 3,330 stocks. Without taking that reasoning further, you can easily imagine how many opportunities are available to you.


The problem is, that nowadays, we have too much choice. Be it in the stock market or in our lifes in general. Our brains get tired pretty quickly when we make too much choices. The general advice I could give, when trading stocks, is to stick within one or two industry groups (e.g. technology and retail). If you trade the forex market, you could stick with 2 or 3 pairs, instead of 10.


By doing this, you can save energy and take better decisions by not overwhelming your brain with too much choice.


8. Loss aversion


We feel better losing nothing than winning something - say hello to loss aversion. Overall, humans are more sensitive to negative things than to positive things. Think about how much we complain. Sometimes, it's justified, but often it isn't. We complain about things we don't have, but omit to be grateful for everything we have.


In trading, loss aversion, is the pattern that makes us hold on to a losing position for a long time. After all, an unrealised loss is less painful than a realised one. To avoid loss aversion, you have to work on your mindset and start thinking in probabilities.


9. Exponential growth


Our ancestors didn't need to think in an exponential way. Intuitively, we do not understand what exponential growth is. We only understand linear growth.


Chose between these two options :

  • $1000 dollar per month

  • A penny that doubles every day

Obviously, you might already be familiar with the answer. But if you were to answer intuitively, you would take the first option. If you would receive a penny every day for 30 days, you would have $5,368,709. Whenever it comes to exponential growth, don't trust your intuition, use a calculator, it's the only way you can make a rational decision.


Traders have a dream. They want to crack the million overnight. The need for quick money is what makes most traders fail. Rather than trying to do something that is that risky, think about trading as a long term game (even if you're a short-term trader). By slowly and continously growing your capital, you can increase your position size and therefore your returns, over time. You take less risks and get better profits. Of course, this takes some time and patience, but in case you didn't already get it, trading is all about patience.


10. Action bias


Whenever we do something to compensate for our inaction, we fall for the action bias. We rather do something useless than nothing at all. If you watch football, you've probably witnessed this bias a lot of times. When the opposing team shoots a penalty, the goalkeeper, either dives left or right, even if chances are that the opposing player shoots right in the middle. Why ? Well, diving looks way better than just standing still, whatever the result is.


As Jesse Livermore would say, "Money is made by sitting, not trading". Considering this bias, for us human beings, it is hard to sit and do nothing. Just think about what you do when you have to wait, be it in a waiting room or at the bus stop. This could be an explanation why most traders fail. They struggle letting their trades unfold and get caught into thinking that their inaction is harmful. Eventually, they end up overtrading, taking trades they otherwise wouldn't, to avoid inaction.


"All of humanity's problems stem from man's inability to sit quietly in a room alone", Blaise Pascal (17th century Philosopher).


11. Self-serving bias


The self-serving bias is pretty straightforward : I cheer myself up when I succeed and blame external factors when I fail.

I can't think of a single person that hasn't blamed his teacher when having a bad grade. Everybody did that. Was it an objective thought ? I don't think so.

It's all about what feels good. Our mind is a kind of compensation machine. When something doesn't fit our beliefs and we feel emotional pain, we need a way to compensate.


Think about what a child does when you take away his toy. He cries. This is how his mind compensates. In fact, we know that, because studies have been done on tears and researchers found that most of our tears contain negatively charged proteins.


They way to deal with it, is to take responsability for everything that happens. I'm not saying you should beat yourself up, but just stop rejecting the responsability. When your trade goes wrong, don't blame the market, don't blame your broker, don't blame hedge funds. The problem with rejecting responsability is that you'll eventually be so caught up in blaming, that you'll miss your own trading errors. By being critical with yourself, you can learn the most out of every situation.


12. Information bias


Does more information help you taking a better decision ? This is what we usually like to think. Gathering too much information puts us in a state of confusion. This is one of the reasons I like trading with price action only. My trading decisions happen within a few seconds. It's effortless. I know what to look for and I stick with that.


I can imagine that this is something a lot of traders struggle with, especially when overusing technical indicators. I once met a trader that used 10 different indicators to make a trading decision. It goes without saying that this process is very fatiguing and probably also frustrating. Waiting for 10 different indicators to align can take a very long time.


The only advice I can give is : keep it simple and stupid.


Related : Analysis paralysis


13. Illusion of attention


I've already, briefly, talked about another form of illusion of attention, in my first post "Change your mind, upgrade your trading", saying that fear narrows our focus on what we try to avoid, meaning that we don't perceive all the information that is made available from the environment.


Illusion of attention says that when we are focused on something, we usually miss other things that happen right in front of us, no matter how big they are.


Psychologists Daniel Simons and Christopher Chabris did an experiment in the 1990s called "The Monkey Business Illusion". Take a few minutes to watch it.

I hope that you enjoyed this article and learned something new. If you have any question, suggestion or idea, do not hesitate to leave a comment below. You can also send me a message through the "Contact" page.


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