free download links about online stock trading, forex, futures, stock investing, market, trading systems
THE STOCK MARKET CROWD AND YOU
Back to contents page

The market is a loosely organized crowd whose members bet that prices will rise or fall. Since each price represents the consensus of the crowd at the moment of transaction, all traders are in effect betting on the future mood of the crowd. That crowd keeps swinging from indifference to optimism or pes­simism and from hope to fear. Most people do not follow their own trading plans because they let the crowd influence their feelings, thoughts, and actions.

Bulls and bears battle in the market, and the value of your investment sinks or soars, depending on the actions of total strangers. You cannot control the markets. You can only decide whether and when to enter or exit trades.

Most traders feel jittery when we enter a trade. Their judgment becomes clouded by emotions after they join the market crowd. These crowd-induced emotions make traders deviate from their trading plans and lose money.

Experts on Crowds

Charles Mackay, a Scottish barrister, wrote his classic book, Extraordinary Popular Delusions and the Madness of Crowds, in 1841. He described several mass manias, including the Tulip Mania in Holland in 1634 and the South Seas investment bubble in England in 1720.

The tulip craze began as a bull market in tulip bulbs. The long bull market convinced the prosperous Dutch that tulips would continue to appreciate. Many of them abandoned their businesses to grow tulips, trade them, or

become tulip brokers. Banks accepted tulips as collateral and speculators profited. Finally, that mania collapsed in waves of panic selling, leaving many people destitute and the nation shocked. Mackay sighed, "Men go mad in crowds, and they come back to their senses slowly and one by one."

In 1897, Gustave LeBon, a French philosopher and politician, wrote The Crowd, one of the best books on mass psychology. A trader who reads it today can see his reflection in a century-old minor.

LeBon wrote that when people gather in a crowd, "Whoever be the individuals that compose it, however like or unlike be their mode of life, their occupations, their character, or their intelligence, the fact that they have been transformed into a crowd puts them in possession of a sort of collective mind which makes them feel, think, and act in a manner quite different from that in which each individual of them would feel, think, and act were he in a state of isolation."

People change when they join crowds. They become more credulous and impulsive, anxiously search for a leader, and react to emotions instead of using their intellect. An individual who becomes involved in a group becomes less capable of thinking for himself.

The experiments of American social psychologists in the 1950s have proven that people think differently in groups than they do alone. For exam­ple, an individual can easily tell which of the two lines on a piece of paper is longer. He loses that ability when he is put into a group whose other members deliberately give wrong answers. Intelligent, college-educated people believe a group of strangers more than they believe their own eyes!

Group members believe others, and particularly group leaders, more than they believe themselves. Theodore Adorno and other sociologists showed in their two-volume study, The American Soldier, that the single best predictor of an individual's effectiveness in combat was his relationship with his sergeant. A soldier who trusts his leader will literally follow him to his death. A trader who believes he is following a trend may hold a losing position until his equity is wiped out.

Sigmund Freud explained that groups are held together by the loyalty of members to the leader. Our feelings toward group leaders stem from our childhood feelings toward our fathers — a mixture of trust, awe, fear, the desire for approval, and potential rebellion. When we join groups, our think­ing on issues involving that group regresses to the level of a child. A leader- less group cannot hold itself together and falls apart. This explains buying and selling panics. When traders suddenly feel that the trend they have been following has abandoned them, they dump their positions in a panic.

Group members may catch a few trends, but they get killed when trends reverse. When you join a group, you act like a child following a parent. Markets do not care about your well-being. Successful traders are independent thinkers.

Why Join?

People have been joining crowds for safety since the beginning of time. If a group of hunters took on a saber-toothed tiger, most of them were likely to survive. A lone hunter had a slim chance of coming out alive from such an encounter. Loners got killed more often and left fewer offspring. Group members were more likely to survive, and the tendency to join groups appears to have been bred into humans.

Our society glorifies freedom and free will, but we carry many primitive impulses beneath the thin veneer of civilization. We want to join groups for safety and be led by strong leaders. The greater the uncertainty, the stronger our wish to join and to follow.

No saber-toothed tigers roam the canyons of Wall Street, but you probably fear for your financial survival. Your fear swells up because you cannot control changes in prices. The value of your position rises and falls because of buying and selling by total strangers. This uncertainty makes most traders look for a leader who will tell them what to do.

You may have rationally decided to go long or short, but the moment you put on a trade, the crowd starts sucking you in. You need to pay attention to several signs that indicate when you start turning into a sweaty crowd member instead of an intelligent trader.

You start losing your independence when you watch prices like a hawk and feel elated if they go your way or depressed if they go against you. You are in trouble when you start trusting gurus more than yourself and impulsively add to losing positions or reverse them. You lose your independence when you do not follow your own trading plan. When you notice what is happening, try to come back to your senses; if you cannot regain your composure, exit your trade.

Crowd Mentality

People become primitive and action-oriented when they join crowds. Crowds feel simple but strong emotions such as terror, elation, alarm, and joy. Crowds swing from fear to glee, from panic to mirth. A scientist can be

cool and rational in his lab but make harebrained trades after being swept up in the mass hysteria of the market. A group can suck you in, whether you trade from a crowded brokerage office or from a remote mountaintop. When you let others influence your trading decisions, you lose your chance of success.

Group loyalty is essential for the survival of a military unit. Joining a union can help you keep a job even if your performance is not very good. But no group can protect you in the market.

The crowd is bigger and stronger than you. No matter how smart you are, you cannot argue with the crowd. You have only one choice — to join the crowd or to act independently.

Many traders are puzzled why markets always seem to reverse immediately after they dump their losing position. This happens because crowd members are gripped by the same fear—and everybody dumps at the same time. Once the fit of selling has ended, the market has nowhere to go but up. Optimism returns to the marketplace, and the crowd feels greedy and goes on a new buying binge.

Crowds are primitive, and your trading strategies should be simple. You do not have to be a rocket scientist to design a winning trading method. If the trade goes against you — cut your losses and run. It never pays to argue with the crowd — simply use your judgment to decide when to join and when to leave.

Your human nature prepares you to give up your independence under stress. When you put on a trade, you feel the desire to imitate others and overlook objective trading signals. This is why you need to develop and follow trading systems and money management rules. They represent your rational individual decisions, made before you enter a trade and become a crowd member.

Who Leads?

You may feel intense joy when prices move in your favor. You may feel angry, depressed, and fearful when prices go against you, and you may anxiously wait to see what the market will do to you next. Traders join crowds when they feel stressed or threatened. Battered by emotions, they lose their independence and begin imitating other group members, especially the group leader.

When children feel frightened, they want to be told what to do and look up to their parents. They transfer that attitude to teachers, doctors, ministers,

bosses, and assorted experts. Traders turn to gurus, trading system vendors, newspaper columnists, and other market leaders. But, as Tony Plummer brilliantly pointed out in his book, Forecasting Financial Markets, the main leader of the market is price.

Price is the leader of the market crowd. Traders all over the world follow the market's upticks and downticks. Price seems to say to traders, "Follow me, and I will show you the way to riches." Most traders consider themselves independent. Few of us realize how strongly we focus on the behavior of our group leader.

A trend that goes in your favor symbolizes a strong, bountiful parent call­ing you to share a meal or risk being left out. A trend that goes against you symbolizes an angry, punishing parent. When you are gripped by these feelings, it is easy to overlook objective signals that tell you to exit. You may feel defiant, or bargain, or beg forgiveness—while avoiding the rational act of accepting your loss and getting out of a losing position.

Independence

You need to base your trades on a carefully prepared trading plan and not jump in response to price changes. It pays to write down your plan. You need to know exactly under what conditions you will enter and exit a trade. Do not make decisions on the spur of the moment, when you are vulnerable to being sucked into the crowd.

You can succeed in trading only when you think and act as an individual. The weakest part of any trading system is the trader himself. Traders fail when they trade without a plan or deviate from their plans. Plans are created by rea­soning individuals. Impulsive trades are made by sweaty group members.

You have to observe yourself and notice changes in your mental state as you trade. Write down your reasons for entering a trade and the rules for getting out of it, including money management rules. You must not change your plan while you have an open position.

Sirens were sea creatures of Greek myths who sang so beautifully that sailors jumped overboard and drowned. When Odysseus wanted to hear the Sirens' songs, he ordered his men to tie him to the mast and to put wax in their own ears. Odysseus heard the Sirens' song but survived because he could not jump. You ensure your survival as a trader when on a clear day you tie yourself to the mast of a trading plan and money management rules.

Smarter trading The art of day trading Trading Chaos Sane Investing In An Insane World
Beat The Odds In Forex Trading Robert Kiyosaki - Rich Dad, Poor Dad
The Five Rules For Successful Stock Investing Joe DiNapoli - Trading with DiNapoli Levels