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24 Trader Decision Making
& Cognitive Biases

1. The Disposition Effect: The tendency to cut winners too short and let losing trades run (Loss Aversion), yielding negative expectancy.

2. Looking for No's: Approaching trades by attempting to find something that could work versus searching for what is objectively optimal.

3. Strong Convictions Loosely Held: Bayesian analysis with quantitatively supported ideas that are regularly updated based on new evidence.

4. High Win Rate Emphasis: Misunderstanding that high win rates can still have negative expected value.

5. "You Can't Go Broke Taking Profits": You can go broke taking profits too quickly if the losses, when realized, are large enough (see Disposition Effect).

6. Goldilocks Analysis: Overweighing optimal outcomes and not fully appreciating non-conforming outcomes seriously enough.

7. Skill Gap Analysis: Misjudging the level of skill required to be successful at something and/or overestimating our skill level (think "there are levels to this" concept). 

8. Confirmation Bias: Weighting information that adheres to existing beliefs versus pursuing objective reality.

9. Anchoring Bias: Overweighing reference points and becoming attached to a perspective.

10. Hindsight Bias: Falsely perceiving past events as being more predictable than they actually were.

11. Survivorship Bias: Sample selection bias focusing on successful samples as representative of the entire population.

12. Overconfidence Bias: Part of the Dunning-Kruger Effect, where we overestimate our abilities and/or how much effort we put forth.

13. Blindspot Bias: The perception of being less biased than other people and the proclivity to assess others' bias as more severe.

14. Outcome Bias: Evaluation error of a decision cycle when the outcome is already known, which skews our analysis.

15. Availability Heuristic: Mental shortcut where immediately available data points are overweighted.

16. Sunk Cost Fallacy: Reluctance to abandon a course of action because of a previous investment in it.

17. Illusion of Control: Overestimation of one's ability to control events or outcomes.

18. FOMO (Fear of Missing Out): Fear of missing out, leading to impulsive decision-making without rigorous analysis.

19. Gambler's Fallacy: Incorrect probabilistic weighing of a future outcome based on previous occurrences.

20. Hasty Generalization: Conclusions drawn from insufficient data or generalizing inadequate samples.

21. Cognitive Bias: Over-filtering of information through a personal lens, losing an objective view of the data.

22. Recency Bias: Overweighing more recent information and devaluing older data points.

23. Reductive Bias: Oversimplification of a process and/or it's corresponding inputs and failure to objectively analyze things holistically.

24. Cognitive Dissonance: When a person fails to objectively evaluate something and develops a cognitive gap between what they believe reality is and what reality actually is. 

The Dunning-Kruger Effect

The Dunning-Kruger effect is a cognitive bias those with low ability, knowledge, or expertise tend to overestimate their own skill level, while those with high ability, knowledge, or expertise tend to underestimate their relative competence. 

 

I had been trading for several years, studied for hundreds of hours, and made thousands of trades. Yet, I ended up experience the largest % drawdown of my trading career precisely at this point.

 

What happened? The Skill Gap Peak. The Dunning-Kruger effect is a MUST KNOW concept for traders (or people building any skill). There's a delicate period of time where we know just enough to hurt ourselves and are ripe for our own destruction.

Dunning Kruger Effect.png
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