296 · Dr. Brett Steenbarger - Playing to Your Strengths

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Yeah, one of the things that we see among very successful traders is a love for generating ideas. for studying markets, identifying opportunities in markets, digging. Seeing things that other people don't see. It's all related to creativity. It's all related to research. But really, really good traders are motivated by idea generation. They're not simply motivated by PL when opportunities are not.

Hey traders, investors, and explorers of trading, welcome to Chat with Traders. As always, we're so glad to have you join us. This is Tessa, my co-host is Ian and we're in episode two ninety six. So how do you feel about trading psychology? Think about this. Across our 296 episodes, the topic of trading psychology, or aspects of it, shows up in about Two hundred and forty two of the two hundred and ninety six episodes. That's eighty two percent of all of our episodes.

Well, Brett, I would like to welcome you back to Chat with Traders.

Well thank you very much, Ian. I uh I appreciate the interest.

Yeah. Well, it's been uh over eight years since you were last on with us. Um, what have you been working on since we last chatted with you?

Wow. Eight years. Been doing uh quite a bit in different areas. I still teach at a medical school in Syracuse, New York, uh, and uh teach uh short-term approaches to change, changing our emotions, changing our behaviors. And and a lot of that is what I apply to my work with traders, with portfolio managers. So I continue to do that and uh I've uh written a new book and that will be coming out later this year. Uh it's called Positive Trading Psychology.

So yeah, go into a little bit uh more about that. Some people th say that you should be aware of your weaknesses, uh, so you can improve them'cause who wants to have weaknesses, right? But you're focusing on more on the just the strengths.

Well, uh focusing primarily uh on on strengths, and that is a way to address weaknesses. Um if we focus, focus, focus on our weaknesses, we reinforce the concept that we're weak. And what happens in positive psychology is that you look at problems as being the result of not playing to our strengths, not making full use of what we're good at. So the idea is to study and study and study our successes.

For say uh some newer traders or people just getting into the field, are there any ways that they can know about potential strengths that they have prior to getting a bunch of experience trading so they know where to focus on? Yeah.

Clearly you couldn't know your strengths prior to that experience. So it's like someone just starting to get involved in sport. How can you figure out what you're good at? Well, you have to try basketball, you have to try baseball, you have to try, you know, uh soccer, what have you. Um you you play different sports, you play different positions in different sports. And you see what you do well, you see what speaks to you. So there's a whole process of exploration that precedes specialization.

Some say that human psychology hasn't changed in thousands of years. Did you learn nearly everything about this subject uh before your first book that you wrote over twenty years ago?

Well wow, that's a really good question. Ian um, you know, prior to my first book, which came out uh early in the 2000 period, uh 2003, uh I had been teaching for many years. at the medical school in Syracuse and teaching these very top So my career as a psychologist taught me a lot about working with people, taught me a lot about positive psychology, and I ended up applying that.

In uh in a previous interview you you mentioned uh you said that, quote, many traders don't really know what they do best. They are invisible to themselves. Why is that? I mean, what Why are traders invisible to themselves and how how do they get to know what they do best?

Yeah, because they're not focused on learning markets. They're not focused on discovering what they do best. They want to trade and make money. Period. Well, let's say as an analogy that I go about meeting people for romantic purposes. And I'm focused on just making a connection and getting them into bed. And then I wonder why I don't have a fulfilling relationship life.

On the topic of self coaching, which you have mentioned in the past and continuous improvement. Many traders struggle with self-deception when reviewing their own performance. Uh how how can traders develop an objective self-coaching framework that prevents confirmation bias and excuses?

Yeah, that is a risk. You know, the coaching framework that I often talk about in my writing is just to review each day one thing. That I did really well, that I want to build upon tomorrow. And one thing I could have done better. that I want to improve tomorrow and a specific plan for improving that. So you're really looking at, well, I'll give you a perfect example just for my recent trading.

Would you mind sharing with us uh kind of what you felt you did good and what you felt you need to improve uh in the last few days um regarding the recent drop in the market?

Yeah. What I did well, and I and I have a blog post, uh my trader feed blog uh alludes to this. Uh I had the patience to wait for different time frames to line up. So the first thing I did right was not trade. I just waited and waited and waited for the time frames to line up. And what we had were overbought signals on multiple timeframes. where the market could not make a new high. And so once that started to turn over, I was quick to sell and take advantage of that.

Great. Thanks for sharing. Uh you've worked with traders, um, from my understanding, um, coached them across different types of asset classes and timeframes. Have you observed psychological traits or mental models that consistently separate the elite traders from the merely competent? And if so, what are they?

Yeah, and I've actually been involved in research at several different hedge funds to identify predictors of success. And there are a few. You know, one of the things that we see among very successful traders is a love for generating ideas. A love for studying markets, identifying opportunities in markets, digging, seeing things that other people don't see. It's all related to creativity. It's all related to research. But really, really good traders are motivated by idea generation.

Mm-hmm. Uh, can you give us an example of an idea that you heard uh from a trader um that you found interesting?

Yes. It's a type of idea. The trader, and this is actually a team at a hedge fund, they noticed that certain things were going on in the currency markets in FX. Certain things were going on in the interest rate market. And certain things were going on in specific sectors in the stock market. And they identified that there's a theme, a single theme, uniting all of those.

Ah, interesting. So the traders that you you've worked with primarily institutional traders is

Yes. Um I work with one proprietary trading firm and I work with all the rest are um multi-strat multi-strategy hedge funds.

So uh the traders that you've worked with, they're not purely a technical trader.

They may look at technical factors, but that's one among many things that they look at. They would never put money at risk. Based on the shape of a chart. Now, they might say that for this and this and this reason, I want to be long. I'm seeing that. I'll talk about the current market. Um, uh I see that defensive stocks are behaving better than growth stocks. And people are shifting money away from growth and toward value.

In previous interviews, you've mentioned about using structured feedback loops to refine trading strategies and decision making. Uh, what is a structured feedback loop and how do we create one?

Journaling is one structure that we can use to constantly get feedback about our performance. And what I just described earlier is a very simple form of journaling, just writing down the one thing I did well and writing down the one thing I could have done better. but you are creating a structure for regular feedback about your performance.

Sounds like you're a a fan for um traders getting a mentor.

It's uh I'm hesitating because that's not so available to many traders. Now, at the places where I work, everyone has a mentor. People belong to teams. the more senior members of the team mentor the more junior members of the team. So that is a hallmark of the places where I work. And if you think about Performance fields in general, performing arts, athletics,

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So in your early trading, uh did you trade for a while uh without a mentor and did you at some point uh get a mentor and uh how how what were the uh

Yeah, good question. Yeah. So what happened when I first learned trading and I started trading in the late 1970s? Every single day I printed out. Multiple, multiple, multiple charts. of all the variables I was interested in. And then I would study patterns on those charts. So, for example. I would have a chart, like a one minute chart for the day of the S P. And I would have a one minute chart of advances declines, a one minute chart of upticks versus down ticks in the market. And I would look

Great. Let's um go on to the topic of uh emotional resilience and adaptability. Traders often hear about the importance of emotional regulation. But is there ever a case where controlled aggression or frustration can be beneficial in trading? And if so, how would it be managed?

Yeah, good question. So I'll I'll back up and and just challenge the premise a bit. I had a teacher many, many years ago named Ayn Rand who would challenge premises. The most important thing in trading psychology is not emotion. Period. Um People have negative emotional reactions because they do things that they're not prepared for. They don't go about learning the right way.

In extreme volatility, emotional discipline can be the difference between survival and ruin. Uh, what psychological techniques do you recommend for traders to maintain clarity and adaptability in fast moving chaotic markets?

Yeah. So in fast-moving chaotic markets, those are typically markets that traders have not had a lot of experience with. And the patterns that show up in those markets are quite different than the ones in lower volatility markets. So if you have a very low volatility market, particularly in the stock market, you'll see a lot of range bound or cyclical action.

It it's very, very important to practice trading volatile markets before putting money at risk in those. And one way to do that is to go to various historical markets and play them bar by bar on your screen and practice thinking through what's happening and how you would respond and so forth.

So okay, moving on to the topic of cognitive biases and trading decision making. Recency bias and overfitting are common pitfalls for traders using historical data. How can traders balance learning from past patterns while ensuring they are not trading outdated strategies?

Yeah, uh good good question. Um, if the strategies are going to be outdated. It's because something fundamental in the market has changed. So the professional traders that I work with, they are always monitoring volatility of the market. They're always monitoring the correlation of their market to other things that are trading. And when they see that volatility and correlations are changing meaningfully.

Uh would you characterize the market uh that we're in right now at the end of February twenty twenty five as uh a market that's uh changing to a new regime? I mean a new new t a type of market that that we've been in in the past. Or do you think this is just a a pause and and a continuing uh bull market? Um

Um, it's a really, really good question. Uh I do believe we are in a corrective phase. of what has been quite a bull market. Uh, and we are seeing rising volatility. And we are seeing a number of sectors of the stock market that are not making new highs, even though the averages are making new highs. So that's a pattern we've seen at bull market peaks. We saw it in the late 1990s going into early 2000. We saw it in 2007 going into 2008. Fewer and fewer stocks.

So in trading, uh randomness plays a major role in short term outcomes. Uh, what methods do you suggest for traders to distinguish between skill based results and those driven by sheer luck?

Yeah, yeah. When you have a trading idea. You want to clearly identify what would tell you that idea is wrong. Because as you're pointing out, Ian, there's random movement moment to moment. But if I, to use my earlier example, if I see that the market has bounced higher on multiple timeframes, and seems to be making a lower high. And now all of a sudden we see more sellers coming in. I may aggressively get short there. But I know I'm wrong.

Uh-huh. So do you set your stop level based on rather certain levels that uh that if they break that level then you think that we're in resuming in a bull trend rather than a a fixed percentage?

Definitely not a fixed percentage because yeah, because the market volatility can change from day to day and week to week. Um yeah, I'm uh basing the stop on my idea, on the trade idea. And what will tell me that idea is wrong? And so if I think we have topped out. I usually don't want to try to buy The absolute high, uh sell the absolute high uh of a market that I think will fall, or buy the absolute low of a market that will rise. Um in technical terms, I love to sell The right shoulder.

So some traders uh struggle with adapting to changing market regimes, kind of what we were talking about. What habits or approaches have you found do the most adaptable traders use to stay ahead of evolving market conditions?

Many times we can identify market conditions by seeing how certain markets or parts of markets are trading with respect to one another. So for example, I collect uh breadth information, how many stocks are making new highs, new lows on different time frames. uh for every single stock in the NYSE universe. And I post some of this occasionally to the blog. If I see that there's lots of breadth strength in certain sectors, but weak breadth in other sectors. That tells me it's a rotational market.

With the rise of AI driven trading and algorithms, uh strategies. Uh where do you see discretionary traders fitting into the future of the financial markets? What human cognitive advantages do you believe will remain irreplaceable?

You know, certainly there are th I work with systematic traders and there are certain things that they're able to do that individual traders uh just can't do because they can't process all that information. So there are systematic traders I've worked with who literally look at every single transaction in the market. Every single trade. And where is this transaction occurring?

Have you ever been tempted yourself to du uh go into the small cap uh stock arena uh where it's less efficient?

In in working with traders, yes. In my own trading, I haven't felt a need to do that. Uh, because I have an approach that does make use of high frequency information or higher frequency information. And so far I haven't found that edge going away.

So it's a solid trading process uh can include proper research, disciplined execution, and risk management. Does this process change with changing market conditions? And how much of a drawdown before you and other traders you have talked with uh would take before changing one's strategy?

I mean, my feeling, and I'll just speak for myself here, if I've done my research and really have a good idea and confidence in that idea, a lot of research backing it up, and the idea doesn't work. Then my first hypothesis is I've missed something. Something is different. Something's going on that I was not able to account for. I have to figure it out before I start trading again. So the loss becomes information.

In the past, you've emphasized a process-driven approach over an outcome-focused mindset. But in an industry where capital allocation depends on performance. How can traders balance the need for consistent results with the patience required for process mastery?

Good question. And now you're really up my alley because I'm involved in capital allocation at places where I work. And so many places allocate capital, not simply based on level of profit. though that's relevant. They are also looking at things like sharp ratio. How much are people winning with their trades compared to how much are they losing? How smooth is their profit curve? Because if someone has a very liquid strategy,

Mm-hmm. Could you go in a little bit more about uh unique, like give an example of what you've seen uh would classify as a unique approach?

Yes. Uh let's see if I can think of a really good example. Um Okay, so uh uh a person who I work with who heads up a team talks to many different informed people. During the course of the day and tracks what they're thinking, what research they've read, the people they've talked to. And he shares with them what he's been thinking, what he's been researching, and so forth. Across many different people that he talks with, he can see patterns.

Hm. Interesting. In the past you've you've mentioned about Using personality assessments to identify whether a trader is better suited for scalping, swing trading, or long-term investing. Can you share with us a a few examples of questions that are asked in these types of uh assessments?

Uh and when it comes to scalping versus longer time frame uh trading or investing, it's not just personality, but cognitive style, how people process information that ends up being important. So uh, for example, there are some people who are very, very, very good at quick thinking pattern recognition. Daniel Kahneman has written a book, Thinking Fast and Slow. These are fast thinkers.

As someone who's spent decades in both trading and psychology, what personal beliefs about markets, traders, or coaching have you changed your mind about over the years?

Wow. What have I changed my mind about? Um, I've probably changed my mind about. the importance of the role of emotions in trading. I think I understand trading a lot better than I used to. Just as just as a result of working with so many people are successful and also my own experience. And controlling emotions is necessary but not if sufficient. The analogy I sometimes use is becoming a surgeon. You know, I teach in a medical school.

In a previous interview, you mentioned uh you said, quote, pursue your anxiety because that is where your growth lies. Um, you know, we can be anxious about many things. How can we know which anxiety is worth pursuing?

When we think about our goals, when we think about how we would like to develop, sometimes those thoughts can become scary. And the goals can seem like they're they're a little too big. I'm afraid I won't make it. You know, that kind of thing. But it's not a fear, it's not an anxiety out of danger. And anxiety that stems from questioning ourselves. But as I've also mentioned, great things never come from within our comfort zone.

Sounds like you're saying to be selective on which anxiety we um we pursue. Um or th the anxiety that's related to Something of substance that's that has a meaning, because we we can have endless anxieties about many things, right?

So a good example would be we've been successful trading and now it's time to bump up our size. So when we bump up our size, our the volatility of our PL is going to increase. And that could make people anxious. So we have to be prepared for that. That's getting past our comfort zone. Yeah.

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Um, so tell us about your new book called Positive Trading Psychology. Um, supposed to be coming out.

Be coming out this year. Uh Herriman House is the publisher. And uh it's about the application of what's called positive psychology to trading practice. So in positive psychology, we're focused on strengths. We're working on challenges by learning about our strengths and building on those. And so for instance in solution focus work.

Um, how how often have you found that um being in the flow state is how important is that to generating positive returns in the market or or being on your game?

Great question. I'll speak personally. For me personally, it's probably, if not, the number one predictor, very close. If I'm not in that flow state where I'm so absorbed in the market that ideas and patterns are coming to me. then I don't see things nearly as clearly. I don't trade nearly as effectively. So immersing myself in different time frames, different markets, seeing what's happening, seeing the patterns that are showing up, letting it come to me. And at some point.

And ha is there a way that we can measure whether we're in a flow state or not? Because it i is it subjective?

Yeah, uh there is a subjective element to it. And uh what people talk about uh with respect to the flow state and creativity. Mihai Shent Mihai has done a lot of the research in this area, is that we're so absorbed uh that we aren't really focusing on should I trade this, should I trade this? You're not focused on outcomes. Time can pass by uh without you even noticing it.

What has been the most challenging parts for you of being a psychologist for traders?

Wow. Um the most challenging parts, I would say the evolution of the industry toward larger and larger and larger teams. And working, I mean some teams I work with, you know, 15, 20 people. Uh, so it's like a miniature trading firm. The challenge of working with large teams where members of the team are interacting with each other.

Mm-hmm. Great. Well, thanks for sharing. Well, Brett, I'd like to thank you for coming on uh Chat with Traders.

Well, thank you for having me, Ian. I appreciate it and uh look forward to staying in touch.

Yeah, well how how can our listeners reach?

Well, the blog is called Trader Feed, T-R-A-D-E-R-F-E-E-D. And I've been posting, I think since 2006. Uh, so there are a lot of blog posts. And in fact, if you're interested in a topic, you can simply uh go to Google and type in the topic and then trader feed and articles on that topic will uh show up. Uh I do have other books that are out.

Fantastic. Thanks for coming on the show.

Thank you.

Hey, for those who made it all the way to the end, thank you so much. Here's an extra five minutes bonus clip of my own behind-the-scenes chat with Dr. Steenberger. I started trading about ten years ago, uh, on and off, but it was only last year that I went all in on my trading, being laser focused on trading and taking it seriously. But I I find that I know that my psychology and mindset, you know, affects my trading, but I'm also convinced that the type of style of trading that I chose to do.

Yeah, I I couldn't agree more. Um and that's uh what I was referring to with Ian with respect to cognitive style. Uh some of us are big picture thinkers, some of us are very quick. thinkers. And if we try to process market information in a style that is not our strength cognitively, then we create frustration, we create overload. And and so it's very important. To figure out

But that's taken some experience. But your point is very well made. Being in the wrong type of trading for you itself can create emotional challenges. So it's not that working on the emotions is going to help your trading.

But you don't know that until you you try all kinds of things like in trading. I I didn't know that until I tried scalping, uh day trading. And then in the end I find, you know what? I'm going back to my options trading, which is just the right I mean, I love you mentioned creativity. I love options because it allows me to be creative because I'm naturally more of a right brain person.

I don't have those emotions. It's like asking me, yeah. I work with people in psychotherapy. I'm a psychologist. And people will come to me with their personal issues. It's like asking me, well, how do you manage your emotions while you're talking to these people? Well, I'm so focused on the person. I'm not. thinking about, oh, is this therapy going to work out or is it not going to work out or will it work out quickly? Again, that um analogy I used with a surgeon.

Sure. They they they don't have that kind of pressure.

No, it's it's very helpful to not have that pressure. Uh and what I have seen people have those emotions that intrude, it's because they're not just wanting to make money or planning to make money, they're needing to make money. Um and and that creates a lot of the emotional pressure.

If if I may ask one more thing, because you mentioned a lot about um like you notice the the successful traders are ones that I think you mentioned they they work in a team structure, they're team structure based. But the the truth is I I think a lot of um traders or retail traders. I think there are more retail traders than there are like proprietary traders right now or institutional traders. And so naturally there people who go into trading like myself. Uh I I consider myself a retail trader.

Well, I I think you can work collaboratively with other traders without having a boss and and that kind of formal structure. And I think that's why many people are joining trading communities. Because they want an environment where they can communicate with other traders, learn with and from other traders, but still maintain their autonomy. Uh so for for them, I think that can work out very well and have many of the advantages of teamwork uh while still preserving the independence.

Right. Good point. Community is extremely important. And um yeah, thank God that there are a lot of uh trading communities out there that we can access.

Yeah, and there are some good ones. The other thing that I've mentioned before, by the way, this is Mia Bella. Oh cute. Russian blue cat. It's a good friend. But it really, really, really, really, really helps to have lots and lots of things in your life that are more important than trading.

Absolutely.

Yeah, and me is one of them. Uh we have three other cats and uh my wife and I have five children and we have seven grandchildren and we have four cats. And I have a career as a psychologist and teaching in a medical school and et cetera.

And trading. How do you do it all?

Is it on a trade? I mean, seriously, big effing deal. I mean, really? You know, is that going to define who I am and what I achieve? And it you know, it's something I'm into, it's something that I work at, I something I enjoy. It really helps to pursue something when you don't know. Need it with a capital N. And by having a well diversified life, it takes so much of the pressure off each individual trade.

Yeah, that is so true.

But rest assured there are more episodes of the channel.