When to Stop Trading - Part III

By Brett N. Steenbarger, Ph.D.

In the first article in this series, I suggested that profitability results as much from knowing when not to trade as when to initiate positions.  That article explored the relationship between volume and volatility, concluding that successful trading might require traders to stand aside when markets offer insufficient movement and opportunity. 

The second article examined reasons to stop trading that are internal to the trader, emphasizing the need for warning and drop dead levels to limit daily losses and preserve overall profitability.  Even when opportunity is present, sometimes traders are not in a mindset where they can exploit their edge.  This is often due to emotional arousal--fear, frustration, or excitement--that interferes with concentration and judgment.  In this final installment, I will summarize a few of the practical steps traders can take to profitably re-enter the game after they have stopped trading for emotional reasons.

Emotional Arousal and the Brain
Cognitive neuroscientist Elkhonon Goldberg, in his excellent book "The Executive Brain", details the role of the frontal lobes in such executive functions as planning, judging, analyzing, and reasoning.  To no small degree, our frontal lobes are the instruments of our rationality.  Patients who suffer from damage to their frontal lobes, either through accidents or the effects of dementias, invariably suffer from a loss of self-control, deficiencies in reasoning, and/or difficulties in planning and executing sequences of action.  When we are engaged in those executive functions, our frontal lobes stand out in functional magnetic resonance imaging (fMRI) due to enhanced regional cerebral blood flow.  Conversely, when we are stressed, blood flow shifts to other, more evolutionarily primitive cerebral regions, such as the amygdala.  If it feels as though we are not in our right minds when we are stressed out, that may be because we are no longer activating the brain regions responsible for our executive functions.  Little wonder that we say or do things that we regret when we are unusually angry!

That, of course, poses particular challenges for traders.  Initiating and monitoring trades, scaling in and out of them, and eventually exiting positions require concentration and keen judgment.  Under emotional conditions of boredom, fear, or frustration, we find ourselves activating precisely those "flight or fight" sequences that might facilitate rapid action, but surely not calm reflection.  Traders I work with intuitively recognize this when they tell me that they need to take a break from trading and "calm down".  They realize that, under conditions of emotional and physiological arousal, they are unlikely to sustain the concentration and clear-headed judgment needed for superior decision-making. 

Conversely, most traders have experienced that sense of being "in the zone" where they feel as though they are at one with the markets, making decisions accurately and effortlessly.  This state of "flow", described in detail by psychological researcher Mihalyi Csikszentmihalyi, results from prolonged activation of the frontal lobes.  Because such activation requires sustained cognitive effort, most of us enter the zone only occasionally, cycling in and out of states of greater and lesser arousal and frontal activation.

When traders take a break from trading after a particularly frustrating market sequence, they generally attempt to relax and take their mind away from trading.  Some close their eyes and listen to quiet music, others talk with friends, and still others go to the gym and work out.  All of these can be useful courses of action in that they interrupt mind states that are not conducive to trading.  Decreasing arousal, however, is not the same thing as activating executive functions.  Simply relaxing or diverting attention will not bring traders closer to "the zone".  For this, a different kind of activity is needed when taking trading breaks.

Activating the Executive Brain
Several years ago, realizing that I could neither afford nor regularly access an fMRI unit, I obtained a biofeedback unit that several innovative psychologists were using to treat attention deficit disorder.  Unlike most biofeedback devices, which measure the body's level of arousal, this unit measured forehead skin temperature.  The idea was that, under conditions of frontal activation, the enhanced regional cerebral blood flow would be reflected in higher skin forehead temperatures.  When the brain's executive functions were not under recruitment, the blood flow would withdraw from the frontal cortex and result in lower temperatures.  Several hours of trials, in which I engaged in a variety of intellectual, social, and emotional activities, convinced me that the device's rationale was sound.  It also convinced me that I could enter the zone at will if I were willing to sustain the cognitive effort needed to maintain my forehead temperature above a threshold level.

What I have found using the device is that relaxation alone does not result in higher forehead temperatures, because relaxation does not actively engage such cognitive functions as attention, concentration, and reasoning.  Indeed, we generally soften our cognitive focus in order to relax.  The state that most reliably produced the high biofeedback readings and feeling of the zone was one of relaxed but intent concentration.  I tried many different exercises at home to consistently produce this state, and the one that worked best (and has since worked well for others) was as follows:

You sit in front of the television, tuned to CNBC, with the volume off.  Your sitting position is very still, and you're breathing deeply, slowly, and rhythmically.  While doing that, you intently watch the ticker on the CNBC screen and the numbers that accompany each stock symbol.  Your task is to keep a running sum of the last digit of these numbers.  This is easily done when the numbers are small, but as the cumulative sum increases and natural fatigue and boredom set in, it takes ever-greater mental effort to keep the sum running.  While initiating and sustaining that effort, your skin forehead temperature steadily rises and then plateaus.  After 15-30 minutes of this, you find yourself in a different "zone", much more clear-headed and calm than when you started.  Another variation that has worked for me involves counting backward by sevens from a very large starting number.

This technique works for several reasons:

• The physical stillness and rhythmical breathing facilitate a state that is incompatible with emotional arousal;
   

• The cognitive focus on emotionally neutral stimuli (such as number sequences) interrupts the flow of frustrating events;
   

• The sustained concentration allows access to new cognitive and emotional states.

My experience is that thinking is clearer and more intuitive after this exercise than it is normally--and much better than when we are emotionally charged.  It is possible that this is merely a placebo effect: we expect to become calmer and more focused, so that is how we experience ourselves.  Thus far, however, my trading results--and those of traders I've worked with--also support my experience.  The key is sustaining concentration beyond the normal threshold of boredom.  If you keep counting the numbers even after antsiness has set in, eventually you get to a quiet, focused point where the counting becomes near effortless and your perception is very clear.  And, if you perform the exercise routinely, you can access that zone with increasing ease.

My Latest Experiments
Most recently, I've been using sensory isolation tanks to push the limits of sustaining concentration in an emotionally neutral environment.  For this exercise, you float in water that is filled with epsom salts and heated to exact body temperature.  During the float, you are enclosed in a soundproof and lightproof tank.  You hear and see nothing, and you feel very little, because your body's surroundings match the condition of your body.  The task is to sustain concentration in the absence of all external stimuli.  This requires a complete stilling of our normal internal dialogue--a task very reminiscent of Zen meditation.  

What happens after an hour or more of isolation is that the mind and body adapt to the changed environment.  Once again, this requires a willingness to stay in the tank, focused, beyond the normal boredom threshold.  My experience is that you know you have adapted to the environment once you no longer feel a need to move or leave the tank.  Although I am not hooked up to the biofeedback machine during my time in the tank, I strongly suspect that my skin forehead temperatures are quite high, as I sustain active, directed awareness during my time of isolation.  By the time you leave the tank, the world looks and sounds different, as you are now no longer adjusted to the world's colors and volumes.  The clarity of perception and thought that are characteristic of the biofeedback work are even stronger following  immersion in the tank.  

Although work with meditation, isolation tanks, and biofeedback is often couched in esoteric terms, there is nothing mystical about them at all.  By controlling our environment and cognitive activities, we can access states of mind that are associated with executive functioning and deactivate brain regions that are associated with impulsivity.  Elkhonon Goldberg foresees the day when all of us will participate in gymnasiums of the brain, just as we join health clubs to attend to our bodies' health.  Traders might be the first in line to benefit from his vision.

Brett N. Steenbarger, Ph.D. is a clinical psychologist and active trader, writer, and researcher for the past 20 years, Brett is the author of The Psychology of Trading (Wiley; 2003) and numerous articles on trading psychology for print and online financial publications.  Click here for full bio >>