Traders love patterns.  We trade chart patterns, oscillator patterns, historical patterns, cyclical patterns—you name the pattern, chances are there’s someone trading it.  Much of trading boils down to pattern recognition and the ability to quickly identify and act upon profitable patterns as they occur.  This is particularly challenging for active futures and options traders, who must read the patterns, make their decisions, and place their orders within a matter of seconds.  Processing market patterns in the midst of our own emotional patterns—our tendencies toward impulsivity, hesitation, frustration, and regret—is one of the greatest challenges of active trading.

It is always sobering for traders to realize that they are every bit as patterned as the markets they’re trading—and sometimes far more so.  In this article, I will draw upon two decades of experience as a clinical psychologist to illustrate a powerful technique for interrupting and changing repetitive emotional and behavioral patterns that disrupt trading.  The technique is a cognitive-behavioral method known as exposure, and—in the Ranger tradition described by Brace Barber, Linda Raschke, and me in September’s issue—it is a powerful tool for challenging oneself for exemplary performance.

Becoming Your Own Therapist

Extensive studies by Axel Cleeremans and Arthur Reber suggest that, with sufficient experience, people can learn to read patterns in data and anticipate future data sequences.  Interestingly, this pattern recognition is intuitive and implicit rather than verbalized:  we know things long before we know we know them.  Such findings contradict the common belief that successful trading requires an elimination of emotions.  Our feelings, like market data, consist of relatively weak—but vitally important—signals in the midst of considerable noise.  Our sensitivity to market patterns often remains hidden amidst the pushes and pulls associated with trading fears and ambitions.  Traders can learn to become their own therapists by using techniques such as exposure methods, not to dull or eradicate emotion, but to gain control of their cognitive worlds and better extract signal from noise.

            The problem, you see, is not simply our patterns of anxiety, guilt, anger, or discouragement.  The problem is that we cannot control these patterns.  No one consciously plans to fail to pull the trigger on a promising trade; nor does anyone want to impulsively leap into a non-trending but volatile market before evidence of a breakout is at hand.  As I emphasize in The Psychology of Trading (Wiley; January, 2003), such emotional and behavioral patterns play themselves out against the will of the trader, in spite of our best-laid trading strategies and sophisticated market research.

            For most of us, the scenario is embarrassingly familiar: We make plans to get into shape, to diet, or to treat others better—and what happens?  All too easily, we lapse into our ruts.  At the time we make our resolutions we are sincere.  But under the influence of old patterns, the resolutions lose their force.  The plans that we had carefully crafted fall by the wayside, like so many good dieting intentions.

            Why?

            Our trading (or dieting or exercise) plans are anchored to a particular state of mind—associated with a particular set of thoughts, feelings, and physical sensations.  When something intervenes to shift us to another state, we lose our anchoring.  We no longer have vivid and immediate access to the motivating experiences that spurred our initial intentions.  The key is not to spend months and years psychoanalyzing why we are “self-defeating” or otherwise lack “self-esteem”.  Rather, we need to become our own therapists and learn to remain anchored, even in the face of market and emotional forces that could disrupt our trading plans.  That is the purpose of exposure-based techniques.

Overcoming Problem Patterns Through Exposure

            Let’s take a classic example of how exposure can break seemingly Manhattan Escortsintractable emotional patterns.  Ellen is suffering from a condition known as panic disorder.  Sudden, episodes of anxiety hit at seemingly random moments, greatly interfering with normal activities.  These episodes are so scary that she is afraid she is losing control and might even die.  As a result, Ellen develops a fear of her panic episodes—something known as “secondary anxiety”.  Sure enough, her fear of the panic attacks leads her to become increasingly anxious and actually triggers further attacks.  By the time Ellen makes it to therapy, she has been caught in a continuous cycle of worry, anxiety, and panic. 

            If I were using exposure methods with Ellen, I would first teach her a skill, such as a deep-breathing, progressive muscle relaxation method.  This involves learning how to slow oneself down by reducing the rate of respiration and deepening the breathing while eliminating physical tension by gradually tensing and relaxing muscle groups from one end of the body to the other (See Figure One at the end of the article). 

            Once Ellen has learned this method, the exposure can begin.  I would ask her to take a few rapid and shallow breaths, simulating hyperventilation.  This exposes Ellen to the some of the same physical sensations that she experiences during the early phases of her panic attacks.  It also summons those panicky thoughts and feelings that have become deeply associated with the physical sensations of anxiety.  When Ellen begins to re-experience a bit of her anxiety, I instruct her to perform the deep breathing and muscle relaxation.  She continues with the relaxation work until the initial anxiety sensations are eliminated.

            After Ellen learns to extinguish the anxiety that comes from a few rapid, shallow breaths and then from more prolonged hyperventilation, I then have her perform more intensive exposure exercises.  I may have her spin around in the room, recreating the feeling of dizziness that comes with her panic attacks.  Later, I might encourage her to provoke panicky sensations by entering situations (such as a crowded shopping mall) that are associated with anxiety.  In each case, she would expose herself to the very problem pattern that she has been trying to avoid, but would always limit the exposure and immediately follow it with the rehearsal of a coping skill.  With daily practice between sessions, severe problems such as panic disorder can be successfully treated within a matter of weeks.

            What makes this technique work? 

            Most of our problem patterns are painful; no one likes feeling anxious or depressed.  It is only human nature to want to avoid emotional pain.  In avoiding our problems, however, we never learn the control necessary for their elimination.  By gradually and progressively exposing ourselves to stressful circumstances—all the while practicing ways of coping and maintaining control—we build a sense of mastery.  This is how people learn to overcome crippling phobias and debilitating traumas.  No amount of talk substitutes for the first hand experience of directly facing fears time and time again and staying in control.  Repeated success changes the self-image, and it alters our self-talk.  Suddenly, we really begin to feel and believe, “I can do this!”

Applying Exposure Methods to Trading

            If you are going to serve as your own therapist in the exposure-based mode, the cardinal rule is:  You always must activate a problem pattern in order to overcome it.  It isn’t enough to think about your problems or talk about them.  You must actually experience your problem patterns in real time, gradually and progressively, and make conscious efforts to counteract those patterns.  If your trading problem is triggered by increasing your size, you will need to gradually and steadily trade larger.  If your impulsive trading pattern occurs during trendless, low volatility markets or in the opening minutes of trading, that is when you will need to work on yourself.

            Fortunately, we can speed emotional change through a process known as imaginal exposure .  Imaginal exposure can be thought of as the psychological equivalent of paper trading.  Instead of starting out with real-time problem situations (known as in vivo exposure), we can vividly imagine scenarios associated with our negative patterns—triggering some of the feelings of greed, fear, doubt, and regret—and mentally rehearse strategies for dealing with those scenarios.  Imaginal exposure is not as powerful as facing problems in vivo (much as paper trading lacks the immediacy of actual trading), but it is a useful starting point in building the sense of success and mastery.  Just as athletes have found mental rehearsal to aid Olympic performance, the mental tackling of trading challenges can prepare us for the real thing.

            Let’s consider an example:

            Lou is an active futures trader, with a little over a year of experience under his belt.  He has made most of beginner’s mistakes and has learned from them, carefully planning his trades, limiting his losses, and scaling in and out of positions with initial sizes that are adjusted for market volatility.  He largely trades the ES and NQ eminis in a short-term breakout mode, attempting to catch 1-4 swings per day depending upon trend and volatility conditions.  His entries are based on dual RSI oscillator readings, using short-term (intraday) and longer-term (swing) parameters.  While he has been generally successful, he notices that he has performed relatively poorly on upside and downside trend days.  He finds that he hesitates too long in entering the market and then is too quick to exit the trades once they are profitable.  As a result, he takes small bites out of the moves that should be providing him with much of his profit.

            An examination of problematic trend days reveals that these begin with a gap at the open in which price moves sharply up or down relative to the last trade of the previous day.  This gap immediately triggers negative thinking on Lou’s part, much of which reflects feelings about having missed the apparent high or low in the market.  During this period of regret, he is not actively following price action or planning an entry.  Instead, he finds himself hoping for a pullback so that he might have a better entry point (and a reprieve from his self-recriminations).  Price, of course, does not accommodate to his desire and moves even further from the open, now registering an “overbought” or “oversold” signal on the short-term oscillator.  Lou uses this as further justification to hold off on entering a position, allowing him to miss a good segment of the morning trend.

            This problem seems unusually rookie-like for an experienced trader, so we examine Lou’s overall trading performance.  Sure enough, we find that his worst losses have occurred when opening gaps in the market have been reversed.  These false breakouts have left him buying at the early highs and selling at the lows, starting his day with solid losses and shaking his confidence.  This allows us to see that what appears to be the problem—the failure to enter the market early during trend days—is actually a coping mechanism designed to minimize the possibility of losses.  Unfortunately, it also minimizes opportunities!

            Our exposure therapy for Lou begins with skill teaching, as in the case of Ellen.  We teach Lou a method for behavioral self-control that involves slow, rhythmic deep breathing and soothing imagery and encourage him to practice this until he becomes skilled at maintaining his composure.  In addition, however, we also want Lou to learn some vital trading coping skills.  He needs a set of rules for distinguishing potential trend days from those that may reverse and/or rules for quickly identifying reversals once they occur.  For example, his own research and a little mentoring from experienced traders might teach him that gaps that occur on X-period breakout highs or lows in the NYSE TICK are more likely to show continuation than gaps that occur without such breakouts.  Alternately, he may find that moves from opening gaps that remain intact by Y o’clock are more likely to continue through the day than those that partially fill.

Once Lou has identified his trading rules for the problem situation and learned a method for cultivating self-control, the exposure work is ready to begin.  First we can start with imaginal exposure, encouraging Lou to enter his relaxed mode with slow, diaphragmatic breathing and eyes closed.  In this mode, he vividly imagines an preopening news report that sends the market gapping lower, well outside its prior Globex range.  He maintains the visualization of the scenario as he practices his slow breathing and mentally rehearses the appropriate trading strategies.  Thus, for instance, he might image the TICK plunging to a multi-day low on the opening move and the SP failing to fill its gap on the first TICK bounce toward zero.  This would be his trigger for a short entry, and he would clearly visualize each step he would take in monitoring the market, placing his order, setting his stops, etc.  A similar set of visualizations could also facilitate the rehearsal of exit strategies.

Once all discomfort is extinguished in the mental rehearsals, the next step in exposure work would be applying the skills in paper trading.  Using historical market data, we would have Lou advance charts bar by bar in trading simulations of trend days while rehearsing his self-control and trading strategies.  Only when these simulations proceed successfully (i.e., eliminating anxiety) would Lou undertake real-time, in-vivo exposure, beginning with small positions and building to larger ones.  (The speed with which Lou progresses from imaginal exposure to paper trading to in vivo work would depend upon the severity of the problems and the intensity with which he rehearses the techniques.  Research suggests that fewer but longer, more intensive exposure sessions are more effective in eliminating negative emotional patterns than a greater number of brief exposures.)

The idea is that, before Lou confronts another potential trending day in the market again, he will have experienced multiple successes in handling such days in imagination and then on paper.  It is the repeated experience of mastery and success that provides the power behind exposure-based intervention.  Nothing so builds confidence as repeatedly facing and overcoming one’s fears.  (See Figure Two at the end of the article for keys to success in the exposure method).

A Final Note

            There are many psychological approaches that can enable us to gain control of our problem patterns.  Exposure-based methods are particularly useful for futures and options traders because they can be self-administered and often produce rapid results.  Such methods cannot overcome all problem patterns; sometimes people with chronic difficulties need additional forms of treatment, including medication.  Nevertheless, when emotional reactions are situational rather than chronic—and especially when you can isolate the trading situations that trigger the problem patterns—exposure-based techniques are excellent mechanisms for gaining control and staying anchored to trading plans.

            Notice, however, that I have emphasized the need for proper, researched trading strategies to accompany the exposure methods.  As an experienced clinical psychologist and trader, I can assure you that self-help techniques alone will never enable you to master the markets.  If you want to know how to trade a candidate trend day, an intraday range breakout, or an afternoon consolidation of a morning trend, you damned well better have researched those market conditions and generated some rules and techniques to guide your entries and exits.  Otherwise, you will be teaching yourself to focus and relax while you lose your hard-earned capital.

            What psychological methods can do is provide you with the self-control to implement your well-researched trading strategies.  That is important.  Consistency of effort, not the home run trades we all like to talk about, best positions us for trading success.         

“The most merciful thing in the world…” H.P. Lovecraft writes in his horror story The Call of Cthulhu, “is the inability of the human mind to correlate all its contents.”  To be sure, if all our memories and perceptions registered in the mind equally, we should be like the unfortunate Funes of the Borges tale—completely overwhelmed by the sum of our experiences, unable to act.  Yet, as Freud realized, we pay a price for this compartmentalization.  The conflicts, urges, and passions that we sacrifice in the interest of present concern do not merely vanish.  Like Cthulhu, they lie beneath the depths; in the apt phrase of The Fields of the Nephilim, “dead but dreaming”.  They call to us when our emotional stars are aligned, waiting for the time of their release.

Those stars are aligned when we experience “triggers”: situations sufficiently similar to initial traumas and travails that they reactivate memories—and earlier modes of coping.  This is a most important concept within depth psychology.  Every current problem represents a mode of coping from the past that has long since lost its usefulness.  Perhaps as a child I felt humiliated by my siblings and their emotional abuse.  Whenever I tried to prove myself to them, they beat me down with taunts and physical threats.  My only coping, as a younger, smaller child, was to withdraw in silence so that I would not incite them to a physical expression of their hostility.

Now I am an adult, trading the financial markets, and I am eager to prove myself in this most challenging arena.  Trade after trade I experience losses and, before long, I retreat to my psychological shell, passively watching as the market ultimately moves in the anticipated direction.  “Why didn’t I take those trades?” I wonder after the close, bemoaning my inability to “pull the trigger”.  Later, I find myself even more frustrated, as the prescribed self-affirmations and visualizations of trading coaches fail to dent my dysfunctional pattern.

Perhaps the most perplexing aspect of this scenario is that I can know what to do during times of sober reflection.  In the heat of trading, however, when those emotional stars are right, my past coping is activated—and it is as if I become another person!  If there is anything more horrifying than the prospect of encountering Dagon-like creatures in the seas, it is finding oneself dominated by an internal Cthulhu, with no prospect of escape.  As long as I experience market losses as humiliations heaped upon my hopes for self-assertion, part of me will protect myself from emotional pain through withdrawal—even as I yearn to pull that trigger.  The only way to trade better in such a situation is to find a way to reprocess market events.

The key to such reprocessing is to make the trigger events familiar and non-threatening.  Something that we encounter time and time again tends to lose its emotional valence, much as repeated jokes are drained of their humor.  Some depth psychologists believe that repetitive dreams—and the Freudian compulsion to repeat past problem patterns in the present—are the mind’s attempt at self-healing, promoting self-mastery through a reworking of those patterns.  We needn’t wait for our stars to be right to attempt this reworking, however.  Rather, we can align those stars ourselves—activating the very triggers that thwart our planning and judgment—and learn to process them afresh. 

The practical steps in this reprocessing are straightforward:

1.      As Gurdjieff recognized, the work begins with self-observation.  Before we can reprocess the triggers that activate past behavioral patterns, we need to know what those triggers are.  Careful recounting of the thoughts, events, and feelings preceding problematic periods will generally yield patterns: recurring situations that are associated with the seeming shift in personality.  Many times these trigger situations will be accompanied by a shift in our physical and emotional state: a sudden rush of frustration, anger, hopelessness, or excitement.  Maintaining a personal journal can be very helpful in tracking the situations and state shifts associated with our triggers.

2.      Once we recognize our most difficult triggers, we want to face them—but only in a fresh manner.  This means invoking a state of thought, physical arousal, and emotion that is contrary to the ones normally triggered.  Teaching oneself to become highly relaxed and cognitively focused through deepened, rhythmical breathing and concentration on a single stimulus is highly useful in this regard.  It provides a relatively non-emotional, controlled state that, with practice, you can enter at will.

3.      When you have gotten to the point of being able to enter a calm, focused state, you then use guided imagery to place yourself in situations that you’ve highlighted in your journal.  The key is to make these mental rehearsals vivid—as if you are truly reliving them.  While experiencing these events in imagery, you are focusing your mind and slowing and deepening your breathing as you have been practicing.  The goal is to stay calm and focused, even as you are contemplating the most emotionally challenging circumstances.

4.      From there, it is a matter of repetition: creating endless variations of the scenarios from your journal and systematically reprocessing them.  Once you are able to encounter these situations without emotional arousal through the use of imagery, you are then ready to bring your focusing and deep breathing into life events as they occur—facing your triggers in real time, while keeping yourself under control.  This, too, requires repetition, but with repeated success comes confidence and a heightened sense of control.

Freud realized that the basic problem with people is that, to the extent that they are dominated by past patterns, they lack a truly free will.  “Where id was, there ego shall be,” was his formulation of the idea that self-awareness is the philosopher’s stone that unlocks our inner gold from its base surroundings.  The alchemist Theobald von Hoghelande recognized this in 1594 when he declared, “The art requires the total man.”  So it is with the art of trading.  The exclusive focus on profit and loss triggers our fears over success, failure, inadequacy, gratification, and self worth, making alchemical “puffers” of us all.  The philosopher’s stone is within: in the realm of a liberated will.  A small footnote to Elizium, taken from the Chaldean Oracles, advises:

Stay not on the precipice with the dross of matter, for there is a place for thy image in a realm ever splendid.

What have I learned as a trading psychologist?  Just this: In newly revisiting the nightmares of our depths, we become more total; more capable of Will.  To find one’s purpose and passion in life and yoke it to an unfettered will: what greater and nobler challenge could there be?  “Love is the law, love under will,” was Crowley’s formulation: the ideal of placing passion in the service of one’s capacity for directed action.

Gurdjieff emphasized that effort is the currency with which we purchase our will’s development.  Yet without adversity and challenge, there is no need for effort.  Imagine a universe without gravity.  Our muscles would never develop, as nothing could possibly test—and develop—their strength.  It was Colin Wilson’s seminal insight that human beings need emotional gravity for self-development.  This is the purpose of all suffering, great and small: to provide the counter-forces by which we can develop the muscles of will through directed effort.  It is human nature to avoid suffering: to consign it, like Cthulhu, to the depths.  Yet there it lies dead but dreaming, entering our thoughts and actions, refusing to accept banishment. 

How ironic it is that we overcome suffering by embracing and facing it, ferreting it out and repeating it so often that its voice is stilled!  It is as if our worst fears and memories are crying out, “Smother me or suffer”:  immerse yourself in me, rework me, or be dominated by me.  The markets pose us with obstacles—and even suffering—on a regular basis.  In their complexity and uncertainty, they offer unparalleled challenges to our ordered minds.  Facing those challenges, we face ourselves, and become ever more the total individual, the true discoverer of the philosopher’s stone.  Mercy grants us limits in correlating the contents of our minds; providence provides for the possibility of achieving ever-greater correlation.

How do you cope with the risk and uncertainty that are built into markets, and are you coping effectively?  In this and my next article, I will be tackling these important questions.

The topic of coping actually begins with the notion of stress.  Stress is a characteristic set of physiological, cognitive, and emotional responses to threat.  Generally, these responses speed up such bodily functions as heart rate, galvanic skin response, muscle tension, and rate of respiration.  For this reason, the stress response has sometimes been called the "flight or fight" reaction.  In the face of threat, our bodies prepare us for action: either to attack the source of danger or to run from it.

What constitutes a source of stress is highly dependent upon our perception.  If we define something as a threat, we will experience it as threatening, and that will trigger a stress response.  For some people, public speaking is an everyday activity, not to be feared at all.  It might even be something enjoyable.  Others view public speaking as a potentially humiliating event.  Their perception of threat triggers the stress response that we call performance anxiety.  Cognitive psychologists, however, remind us that it is not the public speaking event itself that is generating the anxiety, but rather our processing of that event.  Take away the perception of threat and the anxiety diminishes.

Some of us view the world through lenses that emphasize the threat in life events.  Perhaps we grew up in an unstable home, perhaps we were overprotected and never experienced life's hard knocks, or perhaps we learned to anticipate negative events as a way of handling multiple setbacks during a difficult period of life.  All of these scenarios can lead to situations where stress becomes a way of life.  Once we acquire habitual thinking patterns that emphasize life's dangers, we fall into a chronic mode of flight or fight.  Continually mobilized, we can experience ongoing high blood pressure, muscle tension, and jitteriness. 

Psychologically, chronic stress is experienced as dis-stress.  Anxiety, depression, and anger are common consequences of viewing the world through the lenses of threat.  These emotional reactions, in turn, produce typical behavioral consequences, such as indecision, lack of self confidence, impulsivity, and interpersonal conflict.  We know from cognitive neuroscience research that high levels of distress shift regional cerebral blood flow away from the frontal cortex--our executive center of judging, planning, and reasoning--and toward motor regions.  This is why it is so difficult for people under chronic stress to calmly work out their problems.  Their perceptions of threat create physical and emotional arousal, which in turn make it difficult to access the cognitive capacities most needed at those times.  Every trader knows how easy it can be to abandon a well thought out trading plan in the heat of adverse market activity!

The term coping refers to the actions we take to deal with sources of threat.  Broadly speaking, there are three coping styles:

1. Emotion-focused coping - Dealing with dangerous and threatening events by processing one's emotions and engaging others for support;
2. Problem-focused coping - Handling threats by focusing on the situation and ways of dealing with it to reduce danger
3. Avoidant coping - Avoiding sources of threat or choosing to not think about or deal with a problematic situation.

None of these coping styles are good or bad in and of themselves.  Each can be used effectively, and each can be misused.  We know that a coping style is effective when it reduces threat and produces positive outcomes.  There are times when it can be effective to sort out our feelings and deal with these, such as after the loss of a relationship.  There are occasions when it is very helpful to be problem focused and directly deal with an immediate emergency.  Other times, we need to suppress feelings of upset and problematic situations in order to get by in a job or as a parent.  In many respects, the best coping style is one that flexibly incorporates all three ways of handling situations.

While all of us do cope at times by dealing with feelings, attacking problems, and removing ourselves from situations, most of us have characteristic ways of dealing with threat.  Those are our typical coping patterns, and they are integral to our personalities.  For instance, if I have a significant problem, I very often will cease interaction with others and become extremely task focused.  At such times, my attention narrows considerably and is concentrated on the problem at hand.  This is useful in that it generally accelerates the resolution of the problem.  It is not useful in other respects, particularly if it leads to others feeling shut out in a team-based work situation.  If I become locked into particular ways of coping that worked for me in one setting--or during one period of life--and then bring these to new situations, there is a real risk that the coping will no longer ward off threat and may even create new conflicts.  My colleagues at work who feel shut out by my problem focus, for example, may stop collaborating with me at times when I want and need their assistance. 

This situation is much more common than people realize, and it is a source of untold trading problems.  Coping strategies that worked well at one time or in other situations are brought into the trading arena, where they wreak havoc.  Very often this occurs when the emotions evoked by our perception of  trading situations (perceptions of failure, danger, invincibility, etc.) trigger coping actions from an earlier life period where those emotions were problematic.  Perhaps, for example, I felt like a failure in my growing up years because I could not make friends or develop relationships.  This led me to cope by avoiding social situations and retreating into my own fantasy world where I didn't have to deal with others.  As a child, this may have helped me through a painful and awkward life period.  Now as an adult, however, responding to market losses with feelings of failure--and then retreating into fantasy--is not constructive. 

Very often, our most problematic coping occurs when we deal with threatening situations in ways that greatly differ from our normal coping styles.  During normal trading, I might be highly problem focused.  In a volatile stretch of trading where I take large losses, however, I find myself coping by exploding emotionally and then feeling guilty over my outburst.  Such out-of-the-ordinary coping generally is a sign that an earlier coping mode is being activated.  Something about the day's trading is triggering old memories, feelings, or conflicts.  As a result, we're no longer using our constructive, adult coping capacities.  Instead, we're mindlessly repeating a pattern from the past.

If you find yourself overreacting to a situation, there's a good chance it's not really an overreaction.  You are reacting to the situation--*and* to something previous in your life that is being stimulated by the situation.  The first step of progress you can make in this circumstance is to remind yourself that you're not really reacting to the situation at hand.  "This isn't about trading," you tell yourself.  "Something else is going on."  Such a reminder does not, by itself, eliminate the threat response, but it starts the process of putting threat in perspective.  That is important.  Remember: threat--and stress--are functions of perception.  As you alter your perception, you alter your responses.

I’m encountering frequent tales of the demise of once-successful “daytraders” of the futures markets, which perhaps had me thinking of The Fields of the Nephilim when I titled this piece.

Here is what I believe:

As an increasing number of players swarm to a recognized trading “edge”, this creates new patterns of over-reaction and under-reaction in the markets and fresh sources of “edge”.

The new sources of “edge” are always diametrically opposed to the old ones.  Where the edge had been momentum plays with growth stocks, the new edge can be found in fading low volatility markets.  The erstwhile edge in harvesting ticks from inefficient markets yields way to an advantage trading the more protracted overreactions of these short-term players.

The insight I had on Friday was that the patterns defining the current edge are not resolvable into the terms of the previous advantage.  They are emergent phenomena, to draw upon a concept from systems theory.  No amount of counting and categorizing pixels on a television set can yield insight into the meaning of a broadcast; the laws that capture the firing of neurons cannot speak to the content of resulting thought.  The overreactions of today’s traders form a larger pattern that becomes tomorrow’s source of alpha.  The larger pattern cannot be seen from within the perspective of current traders.

Yesterday’s heroes always hope to hold on to their dying edge by blending the old with the new—oblivious to the fact that the new derives its edge precisely from the excesses of the old.  Shades of Kuhn and paradigm shifts…

As I write this, Carl McCoy is growling “Love Under Will”: a song about goodbyes at the graveside.  I visualize the book in the eminis—the thick size and the frantic pulling and hitting of bids and offers—and I can see yesterday’s traders desperately hoping to catch the next few ticks.  Like the Nephilim contemplating life in the cracks and hollows, I’m resigned to the reality that “someone’s gonna suffer.”

            A number of recent books have emphasized trading as a performance activity, in which mental state is a key element in success or failure.  So prevalent is this view that two separate books with the same title—Trading in the Zone—have appeared in the last two years.  What is this “zone” and how can traders reach it with consistency?  In this article, I will review ideas about the zone from a variety of sources, including new research in cognitive neuroscience, and spell out the implications for futures and options traders looking to improve their mindsets—and their profits. 

Understanding the Zone

            The idea of a performance-enhancing zone originated neither in athletics or trading, but in the philosophy of Zen Buddhism.  In the 1930s, Eugen Herrigel traveled to Japan to learn Zen through the practice of archery.  Nearly two decades later, his book, Zen in the Art of Archery, popularized the notion of achieving excellence through mental discipline.  His book was the inspiration for the popular novel Zen and the Art of Motorcycle Maintenance written by Robert Pirsig.  Interwoven in Pirsig’s story of a father and son rediscovering each other on a motorcycle journey is a serious exploration of the experience of “quality”.  Traveling on a cycle, Pirsig explains, possesses a different “quality” from driving a car.  In the latter, you are always watching reality through a frame, shut inside a compartment.  On a cycle, he writes, you are “in the scene, not just watching it anymore, and the sense of presence is overwhelming.”  This fusion of actor and act, performer and performance, is experienced as “the zone”. 

            Crucial to the philosophy of Zen—and to the accounts of Herrigel and Pirsig—is the idea that our normal state of consciousness ruins the quality of the Zen experience.  As soon as we consciously think about our performance, we are no longer one with it.  Trying harder at a task only compounds this separation.  The discipline of the Zen archer can be found in the performer’s ability to still the mind, remove mental interference, and allow instinctively honed skills to manifest themselves naturally. 

            In their books Trading in the Zone, authors Mark Douglas and Ari Kiev emphasize the importance of focus and concentration in reaching a state where trading flows without seeming effort.  Both authors view the zone as an outgrowth of trading discipline and a positive mindset.  Once the trader lapses into patterns of fear, greed, and frustration, the zone is lost and instincts born of long hours of observing market patterns cannot emerge.  For the trader, as for the Zen archer, turning off the mind is a crucial element in success. 

But how valid is this notion of the zone?  Do elite performers in archery, trading, and other fields of endeavor truly find their success in Pirsig’s state of “quality”?  This is where research provides surprising answers. 

Creativity and the Zone

            Abraham Maslow was one of the first psychologists to study healthy, high-functioning individuals rather than mentally ill ones.  His investigation of “self-actualizing” people—those who were unusually creative, productive, happy, and fulfilled—led to several important discoveries.  Foremost among these, he found that self-actualizing people report a significantly greater number of “peak experiences” than the average individual.   These peak experiences, he explained, have an almost mystical quality, in which the person feels suddenly at peace, at one with the universe.  Invariably these experiences arrive during moments when the self-actualizing person is immersed in an activity of personal significance.  Interestingly, they emerge naturally and spontaneously, not by conscious design.

            Could Maslow’s “peak experiences” refer to the same mind state noted by Herrigel in Zen archery, by Pirsig in his exploration of “quality”, and by traders who have experienced “the zone”? 

            Research by University of Chicago psychologist Mihaly Csikszentmihalyi would answer in the affirmative.  Studying unusually creative, successful individuals across a variety of disciplines, Csikszentmihalyi found that their work activity is accompanied by a state of “flow”.  This flow state is experienced as inherently enjoyable, in which workers are so immersed in their tasks that time seems to melt away.  They lose awareness of themselves and their settings, becoming one with their labors.

                In his book Creativity: Flow and the Psychology of Discovery of Invention, Csikszentmihalyi identified nine characteristics of work activities that yield the flow experience (See Figure One).  He found that challenging tasks with clear goals and immediate feedback provide the greatest intrinsic pleasure.  Summarizing these studies, Csikszentmihalyi writes, “Every person we interviewed said that it was equally true that they had worked every minute of their careers, and that they had never worked a day in all their lives.  They experienced even the most focused immersion in extremely difficult tasks as a lark, an exhilarating and playful adventure.”  He describes performers in the zone as “programmed for creativity” because their pleasure-pain mechanism leads them to seek ever-greater productive challenges.  (See Figure One at the end of this article for a list of characteristics associated with “the zone”). 

What makes the creative, successful, self-actualizing person unique, then, is not just the presence of “peak experiences”, “flow”, or “the zone”, but the ability to access and sustain this state with regularity.  This is only possible, Csikszentmihalyi asserts, when people intrinsically love what they are doing.  The trader who is primarily motivated by factors extrinsic to the markets themselves—by a need to prove himself, a desire to avoid failure, or urges for fame or fortune—is less likely to find the zone than the trader who finds the markets fascinating in their own right.  From the Maslow-Csikszentmihalyi perspective, it is the trader who is “programmed for creativity”—who finds intrinsic enjoyment in the rigors of studying and trading market patterns—that is most likely to develop unique, winning trading strategies.

Exemplary Achievement and the Zone

            Persistence of effort fueled by intrinsic love for one’s work seems to be a formula for success across a variety of disciplines, not just trading.  Studies supporting this conclusion date back to Francis Galton’s 1869 work on Hereditary Genius.  Investigating eminent creators, Galton found that these high-functioning individuals were capable of performing large amounts of highly laborious work, as if they were “urged by an inherent stimulus”.  This “laboring instinct”, Galton believed, was a major factor in determining success or failure.

            Subsequent research has confirmed Galton’s early conclusions.  Psychologist Dean Keith Simonton of the University of California at Davis, in his book Greatness: Who Makes History and Why, explains of highly productive creators, “These individuals are driven by huge motivational forces that far eclipse the impetus behind less accomplished colleagues…Geniuses cannot spend so many hours without an inherent passion for what they do”.  The reason the successful people are successful, Simonton found, is that they produce more than their colleagues: more works of art, more scientific experiments, more political initiatives.  Because of this productivity, they are more likely than the average person to hit the jackpot and stumble across a truly meaningful contribution.

            These findings have significant implications for traders of futures and options.  A trader’s productivity might be measured, not just by his or her equity curve, but in the number of unique and viable trading strategies that can be generated.  The trader motivated by an intrinsic fascination with the markets is constantly working on the markets, seeking a tradable edge.  A developer of 100 mechanical systems, on average, is more likely to come up with a robust trading method than a trader tinkering with the canned “systems” that accompany many charting software programs.  Similarly, the discretionary trader who has observed and paper traded thousands of days of market action is more likely to internalize tradable patterns than the part-time trader.  The zone is important, not just because it blocks negative emotions from trading, but because it provides the motivational fuel for achieving market mastery.

            The hypothesis worthy of consideration, then, is that the factors underlying trading success are similar to those underlying success in other fields of endeavor.  The successful trader, like the scientific genius or great artist, attains a state in which effortful activity is experienced as inherently pleasurable.  This state of flow—what traders know as the zone—blurs the distinction between work and play, fueling an extraordinary level of creative effort. 

This hypothesis fits well with the research of K. Anders Ericsson, who has found that successful performers in sports, the arts, and sciences are distinguished by the amount of intensive, deliberative practice they devote to their disciplines.  As Ericsson reports in his book The Road to Excellence, there appears to be a lawful, linear relationship between the amount of time spent in high-quality practice and the performer’s ultimate level of achievement.  Significantly, many of the characteristics of high quality practice, as observed by Ericsson, overlap the factors that generate the flow state, including challenge, clear goals, and rapid feedback.  It appears that exemplary performers structure their practice in such a way as to maximize flow/zone states, thereby sustaining their motivation for hard work.

Ericsson observes that effort alone is not enough to generate the zone.  Physical exertion by itself, for example, does not ensure a pleasurable experience.  Rather, it is the specific effort of mental concentration that generates an altered state of consciousness and heightens learning and performance.  When a musician is immersed in her craft, Ericsson notes, she can generate a flow experience.  When that immersion is interrupted by coaching, the zone is lost.  As Herrigel discovered in his investigation of Zen archery, it is not possible to be at one with an activity and simultaneously concerned with the activity’s outcome.  If traders are to find the zone, it can only be through the highly focused concentration that occurs during trading itself.  While positive thinking and trading discipline are necessary for reaching the zone, they are not sufficient.  Sustained mental effort appears to be the key.

Cognitive Neuroscience and the Zone           

What is happening in the brain when traders are in their zones?  While studies have yet to be conducted measuring brain activity during actual trading, we do know quite a bit about the brain activity associated with sustained mental effort thanks to imaging studies and investigations of patients with localized brain injuries. 

This research suggests that attention, concentration, and sustained mental effort are associated with a high level of activity in the brain’s frontal lobes.  In his book of the same title, neurologist Elkonon Goldberg refers to the frontal lobes as The Executive Brain.  When people need to coordinate complex activities, such as generating and executing a trading plan, the frontal lobes receive a disproportionate share of cerebral blood flow.  The frontal lobes, neurologist Oliver Sacks writes in the foreword to Goldberg’s book, “are crucial for all higher-order purposeful behavior…The intentionality of the individual is invested in the frontal lobes”. 

            When there is injury to the frontal lobes, the result is a decline in the ability to carry out purposeful behavior.  Neurologists refer to this as the “dysexecutive syndrome”, and it is typified by emotional interruptions of intentional activity, impulsivity, and distractability—qualities not unlike those seen in attention-deficit hyperactivity disorder (ADHD).

            Figure Two summarizes characteristics of successful and unsuccessful traders derived from writings on trading psychology.  These include my own recent investigations with Linda Raschke, in which we surveyed the traits of 64 active traders.  Notice how the parallels between the successful and unsuccessful traders mirror the differences between individuals who have intact versus impaired frontal lobes.  Could it be that the conditions associated with frontal lobe activation—the intensive concentration and mental effort of the zone—are also the stuff of which good trading is made?  (See Figure Two for a comparison of characteristics distinguishing successful and unsuccessful traders).

            Research supports such a conclusion.  Arthur Shimamura at the University of California at Berkeley summarizes a series of studies that identify the role of the prefrontal cortex as one of “dynamic filtering”.  The frontal lobes allow us to carry out intentional, complex tasks by filtering out extraneous stimuli.  This permits us to keep plans firmly in working memory while we carry out the specific tasks associated with those plans.  Among the stimuli that are filtered out by frontal activity are emotional experiences.  Activation of the frontal lobes by remaining focused on planful, intentional trading—i.e., trading in the zone—turns out to be among the most effective strategies for eliminating emotional interference with decision-making.

            Interestingly, the frontal lobes tend to be more involved in novel tasks than routine ones.  When a skill is first learned, blood flow to the frontal lobes is at its greatest, and is centered in the right brain hemisphere.  As the skill becomes automatic, the flow shifts to other brain regions, particularly in the left hemisphere.  This makes sense, since the greatest attention and mental effort are needed to process new stimuli.  Once a task is routine, such as driving a car, it no longer requires the participation of the brain’s executive center.

            Experienced futures and options traders know that patterns in the markets are never static.  The patterns one finds in a low volatility, bracketing market are different from those observed in a trending, volatile environment.  In his book The Education of a Speculator, well-known trader Victor Niederhoffer refers to this phenomenon as “ever-changing cycles”.  To the extent that market patterns shift over time, traders are confronted with ongoing novelty.  Trading can never become a wholly automatic task, as the identification of new patterns requires the effortful involvement of the brain’s frontal lobes.  This conclusion suggests that the capacity to sustain mental effort is a necessary ingredient in ongoing trading success, allowing traders recognize and exploit ever-changing cycles before they melt away.  It also helps explain the common understanding among traders that one must filter out emotions to be successful.  To the extent that one is immersed in greed, fear, or frustration, the zone is lost and novel patterns cannot be identified and exploited.  Temporarily, it is as if the trader functions with a dysexecutive syndrome or ADHD, reducing the capacity for intentional behavior.

            This brings us to a second, important hypothesis:  The experience we call “the zone” is an altered state of consciousness that accompanies ongoing activation of the brain’s frontal cortex.  It facilitates accelerated learning by enabling us to sustain effortful, focused attention.  As I emphasize in The Psychology of Trading, the zone can be thought of as the “second wind” of consciousness.  It is a by-product of sustained, high-quality effort that becomes a motivational state in its own right.  Recognition of that fact opens the door to new and promising strategies for trading psychology.

Finding the Zone: Strategies for Traders

                How can traders improve their ability to operate within the performance-enhancing zone?  Several strategies can be derived from the research covered to this point:

1. Deliberative Practice – The trader can structure practice sessions in such a way as to mirror the conditions needed to produce flow experiences.  This means that practice sessions should:  have clear goals; be sufficiently challenging to require a high degree of mental effort; offer prompt and accurate feedback; and proceed with a minimum of distractions.  Such practice sessions are not merely teaching exercises; they also serve as training in reaching and sustaining the zone.  Simulated trading exercises using historical data are particularly helpful as tools for deliberative practice.  By advancing data bar by bar, constructing trading plans, placing trades, managing and exiting positions, traders can rehearse essential trading skills in a challenging fashion, receiving immediate feedback about their efforts.
2. Progressive Resistance – The development of one’s executive capacities—the hallmark of operating within the zone—is very similar to one’s physical development.  Just as weightlifters must challenge themselves with sufficient resistance to build muscle strength, progressively increasing the resistance over time, traders can improve their focus by tackling increasingly complex trading challenges.  For example, deliberative practice involving simulated trading of a single market position could be followed by rehearsal requiring the management of multiple positions.  Simulations could also be initiated under conditions of increasing distraction to require greater mental efforts.  (See the September, 2002 SFO article, “Trading the Ranger Way” for a model of training drawn from the military that incorporates the notion of progressive challenge).
3. Frequent Breaks from Trading and Deliberative Practice – One of the interesting findings from research with expert performers is that they rehearse their skills in bursts.  Episodes of high-quality concentration lasting no more than a few hours are followed by frequent breaks, often in the form of brief naps.  A number of successful traders note that they stop trading when they are tired and stop trading at points in the day when volatility diminishes.  This gives them time to recover their concentration and stay in the zone when they are trading.  In a recent interview with Mark Etzkorn, for example, well-known trader Mark Cook reported that he finishes most of his trading by 2:00 ET.  “At that point,” he explains, “I’ve already been thinking ‘market’ for seven hours, and that’s about my limit.”  His self-study revealed that his performance diminishes when he trades beyond his fatigue threshold: when he is presumably out of the zone.
4. Biofeedback – Of all the strategies for developing trading expertise, this may have the greatest potential.  Biofeedback systems that measure skin conductance, heart rate, muscle tension, and brain waves are becoming increasingly affordable, allowing individuals to monitor their own levels of calm and arousal.  While a calm biofeedback profile does not guarantee that one is in the zone, an aroused profile almost certainly ensures that the wrong brain regions are being activated for optimal performance.  By combining biofeedback with deliberative practice, traders can track when their emotional patterns are taking them out of the flow state and threatening to disrupt their trading.  In my own research, I have been working with forehead skin temperature biofeedback, which is highly sensitive to enhanced blood flow to the brain’s frontal cortex.  By tracking rises and declines in forehead temperature during practice sessions, traders can objectively measure the degree to which they are in the zone and discover strategies that maintain the state. 
5. Cognitive Exercises – Elkonon Goldberg raises the intriguing notion of creating gymnasiums for the mind, in which cognitive exercises raise the level of frontal lobe functioning.  Such exercises are already utilized with success among patients who have experienced brain injury or dysfunction.  Goldberg believes that normal individuals can similarly enhance their brain functioning by exercising their frontal lobes with tasks that require sustained concentration across progressively challenging tasks.  For example, in my own research, I measure forehead skin temperature while performing mental sums on the stock prices moving by on the ticker tape.  Because the tape moves relatively quickly, the task requires intense concentration.  Interestingly, forehead skin temperature tends to stay highly elevated throughout the task (suggesting frontal lobe activation), resulting in a state of quiet focus akin to the zone.  Through these and other exercises, such as those found in Zen, it may be possible to create flow experiences on demand, placing traders more consistently in a high performance zone.

Conclusion

            Robert Pirsig, in his Zen and the Art of Motorcycle Maintenance, offers the interesting observation that the real motorcycle the rider works on is the cycle called the self.  Whether it is cycling, Zen archery, or trading, working on one’s craft and working on oneself are one and the same.  Through disciplined and intensive training, we literally shape the brain and create the motivational states necessary to sustain exemplary performance.  This article suggests that traders can greatly accelerate this process.  “What I do every day is a mental exercise that increases my mental dexterity…” trader Mark Cook observes.  “I always say, ‘I am not a trader, I am trading’.  Trading has engulfed my being.”  The real market we are trading, he has found, is the market called the self.