The Disposition Effect and Computer Games

Every trader has heard of the trading adage “Hold onto your winners and cut your losers”… in practice, this is actually quite difficult to do as people have a habit of closing their winning trades early to secure their profit but have a habit of holding onto their losing trades in the hope that they may cover. This behaviour is universal for all investors or traders to the stock market and is known as the Disposition Effect.

I recently learnt of the¬†Disposition Effect through attending a seminar¬†although I have heard about the trading adage for many years now. What was interesting is that there a direct correlation between ones Disposition Effect and ones P&L… as a trader, one must learn to hold onto his or her winners longer and get out of losing trades quicker. The question is how can one do this, how does ones ‘programme’ his or her brain to be able to lower their disposition effect.

The answer is computer games. The seminar introduced a game which was designed to do this… basically it was a trading simulator where a price chart went up and down. When you entered a trade, if the trade is losing and you’re continuing to hold the trade, the Disposition Effect meter started to go up. If you were in a winning trade, the longer you held the trade, the lower the Disposition Effect meter went. The idea is to keep the meter as low as possible to win the game. I could see how a game like this could help in the real world of trading but also, the fact that it isn’t real trading.. I wonder how much it can actually help. The game that I saw was geared more for the short term trader, ie daytrader and it would need to be different for those trading longer timeframes or long term investors. Still, it’s a great step towards having tools which should make us better traders/investors.

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Category: Make Me Some Money Ideas