Similarly, people recognize that there is much more to trading psychology than keeping their heads on straight. The three questions to ask about any market follow from a core recognition: that markets represent auction processes. Once you focus on market behavior as the result of bidding and offering in a real time auction process, you can ask those three relevant questions.
The three questions to ask about your trading also follow from a core recognition: trading is a creative process. Just as an entrepreneur succeeds by creating new goods and services or by delivering goods and services in new ways, the trader succeeds by discovering and exploiting fresh opportunity. Show me a trader who has made money consistently and I'll show you someone who displays uniqueness in their viewing and doing. Once you recognize trading as a fundamentally creative, entrepreneurial activity, the questions to ask about your trading follow naturally:
1) Am I looking at new information in new ways? - You don't mine for gold where everyone has been searching or, if you do, you use new tools that help you dig deeper and sift better. A wise portfolio manager recently explained his success by citing the importance of exploiting "hard to get data". That's where the truly new information--and the possible future sources of edge--lie. For example, in a recently developed routine, I break the day's action in ES into bars that represent a given number of trades. It's quite common for a single day to break down into 500-1000 bars, depending upon the level of market activity. I then look at the volatility of each bar and the degree to which expansions of volatility result in directional price movement. It turns out that expansions of microvolatility that have a directional bias precede short-term market trends. The new information is capturing the behavior of large market players who have to enter their positions over time because of their size. If you can recognize this process early, you can ride their waves. New information leads to new, promising trading.
2) Am I synthesizing market information, not just analyzing it? - Analysis gives us the pieces of the puzzle, but it's a perceptual synthesis that helps us identify what the puzzle represents. Without that synthesis, we can't assemble the puzzle; it makes no sense to us. Synthesis is sense-making; it's taking information from multiple sources and assembling it into a coherent market picture. Perhaps we see a possible trend starting per the discussion of microvolatility above. At the same time, we notice that one sector of the market is breaking out to the upside and other risk assets are firming, despite a seemingly bearish data release earlier in the session. Putting those pieces together, we recognize that the path of least resistance is to the upside and we construct a solid risk/reward entry. Too often we get lost in the weeds and overreact to single pieces of data. Our noses are so stuck in the screens that we don't pull back to see the broader context of what's going on in markets. Successful traders operate with microscopes and telescopes, developing ideas that synthesize the here-and-now with larger market patterns.
3) Do I flexibly adapt my trading style? - Traders often insist that they succeed by finding a trading style that fits their personality and faithfully sticking to that style. I've come to recognize the limitations of this view. A while ago I gave the example of the radio station owner who played music he believed to be "good music". The problem was that musical tastes were changing and people did not want to listen to the music he believed to be good. Rather than adapt to consumer needs, he stuck with his style and drove the business into the ground. Creativity means that we flexibly adapt to changing conditions. We don't insist that markets follow our predilections. When I adopted cycles as my unit of market analysis, issues of "trend trading" vs. "mean reversion trading" became moot. At certain, early portions of a cycle, you trade the momentum. At other points, you fade directional moves. When cycles are higher frequency, you trade in and out more opportunistically. When lower frequency cycles dominate, you can behave more like an investor. The market plays the music. How you dance depends on the music being played.
Too many traders approach their craft as if they're managing a manufacturing process. They don't recognize that they are also managing a creative enterprise. How you manage an assembly line making widgets is different from how you manage a movie studio. It's great to become more consistent by introducing process control and staying process driven--but not if the rigidity of process becomes a straitjacket that limits the creative essence of managing our capital.
Further Reading: Creativity, Research, and Development
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