In my travels, I meet many a day-trader who trades this time frame because he believes he is undercapitalised for trading overnight positions. In other words, the only reason he day-trades is because he believes his capital base will not support overnight margins. In my view, this is the worst possible reason for trading this time-frame.
The most valid reason to opt for day-trading is the same reason we’d opt for position trading - because it suits our personality. But what exactly does that mean?
Until a day ago, the distinguishing model I used was one suggested by Van Tharp: that there are two states required for trading.
- One state is the ‘waiting-for-the-trade’ to set up. In this state, patience and relaxation is called for. We prepare for the trade: identify our strategy, identify the zone, setup, trigger, initial stop, the risk/reward etc.
- The second state is the ‘action’ state. Once our entry is triggered, we adopt a ‘doing state’ - all action, and, little or no thought.
In day-trading, the two states sometimes almost become one - the shorter the time-frame, the more likely this will happen. Van Tharp suggested that for some traders the merging of the two states made them better traders; while for some traders, the merging resulted in poorer results.
I adopted it because the model made sense even though I was aware it did not answer the question, why do some traders prefer the merging?
Neurology now seems to have come up with the answer.
Yesterday I read the The Impulse Factor, Tassler and Bradbury. In it the authors suggest that our decision-making style is hard-wired at birth with one of two styles: the Impulse Decision-Maker and the Risk Manager. We all share traits from both styles, but we do tend to lean towards one or the other.
For the Impulse Decision-Maker what is important is his gut and the speed of his decision. For the Risk Manager what is important is information to assess the risk and time to make a decision. The Impulse Trader is more likely to risk more to attain a larger gain. Both styles have advantages and disadvantages.
The book has recommendations on how either types can make better decisions once we become aware of the style that we favour. To this end,they provide a free assessment so the reader can identify his decision-making style.
Here then is a possible answer to the day-trading/position trading question.
From my experience, the Impulse Type will make a better Day-Trader. The key here is for the Day-Trader to follow his gut and then assess the boundaries of the trade: where to exit - stop and profit, assess if the risk/reward favours the trade, etc. If on hindsight, the trade proves not to be worthwhile, then he’d exit.
The Risk-Manager has to face the fact that uncertainty is part of decision-making; he also has to learn to trust his intuition: identifying the conditions under which our gut is reliable and under what conditions it is less likely to be would be a good starting point.
Later this quarter, I’ll be testing the ideas.
With the discoveries from neurology, we now seem to have a starting point to assess what time frame, and indeed, what type of strategy, will better suit our personality. As with all knowledge, it is up to us to apply it.
Refer this blog post to a friend or colleague…
