Regret Aversion Bias can be simply put as the tendency to avoid making decision due to the fear of experiencing the pain of regrets. People exhibiting regret aversion avoid taking decisive actions because they fear that, in hindsight, whatever course they select will prove less than optimal. Essentially, this bias seeks to forestall the pain of regret associated with poor decision making.
In forex trading, regret aversion bias can manifest itself in several ways. One of the common occurrences of regret aversion bias is in situations whereby a Forex trader stubbornly hold onto losing positions for too long in order to avoid making the decision of realizing losses and admitting errors. Regret aversion can also be exhibited in the reverse situation whereby the Forex trader decides to sell off forex currency due to the fact that he fears losing even though the forex currency is not currently declining. This can be majorly attributed to the fact that the trader becomes unduly apprehensive about taking positions after a string of losses, as he feels instinctively driven to conserve, retreat and to lick his wounds. While this might seem like a good decision to make, it is rather conservative and counter-productive. The trader might end up hesitating at moments that actually merit aggressive behaviour and hence losing golden opportunities in setting up for a winning day. In addition, traders who are regret averse also tends to exhibits herding behaviour whereby the trader simply follows the crowd of others in a rush to get in or out of the market without any plan or strategy. Such herding behaviour is usually seen as the mass consensus diffuses responsibility for any wrong decision making and hence the potential for future regret.
The keys to overcome regret bias are preparation and confidence. Preparation refers to the devising and implementation of trading plans and strategies based on the worst case scenario. Quoting from Harry Harkowitz, father of modern Portfolio Theory, "I visualized my grief if the stock market went way up and I wasn't in it - or if it went way down and I was completely in it. My intention was to minimize my future regret, so I spilt my retirement plan contributions 50/50 between bonds and equities." By adopting a trading approach based on the worst case scenario, the trader has provided himself with maximize security and also minimizing his chances on future regrets. On the other hand, confidence refers to the instilling of self-belief and self-confidence such that despite a string of losses, the trader will still be able to trade consistently up to his best capability, making unpopular decision if necessary, and not be put off by the fear of potential regrets. Traders should never consider giving up opportunities to make even more money due to a preconceived notion brought about by a previous event that is totally independent and unrelated to the current situation. With these two elements of preparation and confidence, regret aversion, the emotional barrier to rational decisions can be easily overcome.
Find out more about trading psychology and learn how forex trading success can be more about your mindset and less about the markets.
Article Source: http://EzineArticles.com/?expert=Joseph_CK_Chua
No comments:
Post a Comment