The Psychology Behind Casinos And The Stock Market

Traders don’t like it when their profession is compared to gambling (and vice versa) because they believe that in trading skills determine if you come out ahead, whereas gambling is seen as a pointless endeavor where skills do not exist and only the desperate people are hoping to hit the jackpot.

However, in today’s world, the stock market has become a topic that you can read about in the news daily or watch 24/7 TV coverage of what is happening in the markets around the world. The way the stock market and trading is displayed and talked about has shifted significantly from sophisticated investing to sensation driven entertainment.

The implications of such a presentation and the impacts on the mindset and on the trading approach can be significant, without people even knowing how and why their trading decisions are being manipulated and impacted. The following article has been inspired by a chapter from the book “The indomitable investor : why a few succeed in the stock market when everyone else fails” where the parallels between the world of casinos and the stock market are compared.

Casino vs. Stock Market

Casinos



When people go to the casino, they often have a very detailed game-plan about how disciplined they are going to play, what their risk limit is, how much they are willing to lose at most and plans about leaving with more than what they came with. However, the casino managers are aware of the ‘preparation’ of the average gambler and they found ways to trick them into abandoning their good intentions.

• Free alcoholic drinks to seduce people to take more risk than what they had planned
• Women and other attractions to create arousal and to stop people from thinking too much about risk and potential losses
• Bright and flashy lights and sounds to create a casual atmosphere with lots of excitement
• Everything in a Casino is designed to make you want to spend your money, often created by professionals with a psychological background, including odors, sounds, patterns of the carpets, etc.
• Casino chips are used to make you forget you are actually playing with real money

The Stock Market

Although trading and investing is a very hard thing to do successfully, the way the media presents investing in the stock market is comparable to a large scale casino where the only goal is to create attention, excitement and awaken the hopes of people who are looking for a fast buck. The following attributes of the mainstream media and trading websites often create a wrong impression of trading and can be the cause of a negative trading performance:

• TV channels and newspapers use attention grabbing headlines and slogans to attract people
• Pictures and photos of young , rich men are used to awaken hopes and dreams of a certain clientele
• The hosts of investing shows have often little to do with sophisticated investors, but are very emotional to draw a lot of attention
• If there are extreme rallies you can read and hear about it everywhere and you can witness that even ‘the average Joe’ now suddenly sees himself as an investor

Research on investor behavior and media coverage

The fact that financial media and the media coverage is impacting investor behavior is widely researched and 3 findings stand out which highlight the impacts of financial media:

1) Attention-grabbing events lead active individual investors to be net buyers of stocks.

2) Individual investors are more likely to trade an S&P 500 index stock after an earnings announcement if that announce­ment was covered in the investor’s local newspaper.

3) Investors who have never previously owned a stock are more likely to buy when stocks reach upper price limits such as all-time highs.

These three findings show that the media and attention has a big influence on how the average investor makes his decisions. Furthermore, even if you think that you make your decisions completely independent, being exposed to very emotional and convincing reports or announcements can lead to trading decisions that deviate from your original plan. The next points will show how a trader can protect himself from such negative influences.

Implications for your own trading and tips to counteract the outside influence

#1 “Think slow to think at all”

Before you make a decision, think about what caused to you think in a certain way. Before entering a trade, ask yourself whether the trade idea is based on sound principles and your trading rules,or did get you the idea from an outside source? To be profitable over the long-term, a trader has to make his decisions self-determined and based on his own research.

“Give a man a stock tip, and you feed him for a day; show him how to trade, and you feed him for a lifetime.” – Modern_Rock


#2 Who do you engage with during trading?

It is OK to interact with other traders and talk about experiences or personal views. But during trading sessions, traders should be somewhat isolated. Being active in forums, trading chat rooms or listening to financial news can influence your own decision making process. Amateur traders often look for outside confirmation when a trade goes against them and then they ask other traders, often with completely different trading methodologies, why a trade is still good.

“When a trade goes wrong if you’re looking for confirmation bias instead of hitting stops, you don’t have the mental strength to be a trader.” – Assad Tannous


#3 Check your surroundings

As we have seen above, the atmosphere in casinos can have big impacts on how we perceive risk and act in situations. Therefore, be aware of the music you play while trading and avoid anything that is too arousing – some traders report that they listen to classical music during trading sessions to keep their level of arousal low. Do you really need to have CNBC running at all times? To bypass periods where nothing happens, do you watch funny YouTube videos or engage in any other activity that could have an impact on your mood?

This point might sound over the top, but everything around us, and the activities we engage in directly impact how we perceive risk and make our decisions, even though we might not be aware of it at first glance.


#4 The colors on your chart

As we have seen, even the color and pattern of the carpet in a casino has the purpose to make people loosen up, feel comfortable and lull them into plying more.

The colors we use in our trading platforms impact how we perceive the current price development. All our lives we are primed to respond to the two most commonly used signal colors red and green. Whenever we see green, it means go and everything is good, whereas red signals an immediate stop or danger.

Are traders more likely to engage in impulsive trading decisions when they are currently faced with a big green or red candle? Very likely. Are you more likely to close a buy trade when the current candle is red? Possibly. Even if the impact is minor, a trader should grab every possibility to put the odds a little more in your favor should be embraced.

Source: https://tradeciety.com/

Quote for the day

"The person interested in success has to learn to view failure as a healthy, inevitable part of the process of getting to the top." -  Dr. Joyce Brothers

Short And Distort – Naked Short

Short and distort is a less publicly known investment scam similar to the classic pump and dump. Shorting is a word in traders jargon and means basically selling a stock, currency, paper or any other similar financial item that can be traded. Short and distort is as illegal as the pump and dump. The short and distort scheme is used in a bearish trend (prolonged period in which investment prices fall) and is the inverse method of pump’n dump.

The short and distort player will look for stocks that might be overvalued. When there is little activity on a stock due to news, the short seller may come into the market and sells the stock. He will then spread unsubstantiated rumors and other kinds of unverified bad news in an attempt to drive down the equity’s price. This can be done by negative posts to message boards, chat rooms, newsgroups, issuance of newsletters recommending the sale of the stock, seminars, private phone calls and similar. The plan is to entice investors to dump their stock with the prime objective of driving the price down. Instead of excitement, the distorter tries to stimulate fear. When the price is falling, the manipulator will buy stock to cover his position. Buying the stock at a discount and thereby making a profit. In order to create a selling frenzy which the distorted must do in order to buy enough stock to cover his position and not drive the price up he will create the impression that there is a great deal of selling taking place. He will do this by having his friends and brokers cross stock to each other giving the impression of large volume. In the end the investors who bought stock at higher prices will sell at low prices because of their mistaken belief that the stock is worthless, caused by an effective negative campaign.

TIPS FOR AVOIDANCE

- Everyone providing investment information or advice must fully explain the nature of the relationship between him and the company that is the subject of the report. If there is no disclaimer, investors should disregard the report

- Potential profit should not be exaggerated. Assumptions upon which the earnings model is based should be clearly stated so that the reader can evaluate the reasonableness of the assumptions. If a report lacks these details, it is generally safe to assume that the report lacks a sound basis, and investors should ignore the report

- It is a good sign if the author’s name and contact information is on the report, because firstly it gives you a way to contact the author for additional information and secondly it shows the author is proud of the report. If the author’s name is not given, investors should be very skeptical of the report’s contents. Don't believe everything you read and verify the facts on your own before making an investing decision

- Beware if the report contains a lot of great words and exclamation points. Good analysts are not supposed to be boring, but good reports don’t read like a Mcdonalds commercial. A good report should be interesting, but would never use exaggerations, sure things and guarantees. You would never be suggested to mortgage your home to buy a stock

- An ongoing research coverage usually acts as a sign that the firm legitimately believes in the long-term potential of a stock
Source: http://www.bustathief.com

Quote for the day

"What we need to understand is, one, that there are market failures; and two, that there are things like asset bubbles and irrational exuberance. There are periods of booms, bubbles, and manias. These things, if left to themselves, can lead to crashes, to busts, to panics." - Nouriel Roubini

Pump And Dump – Stock Fraud

Pump and dump is a term referred to an investment scheme which attempts to boost the price of a company’s stock through false and misleading promotions or highly exaggerated statements. As long as there have been stocks, there have been stock fraudsters who seek to inflate the price of stocks. Usually the con artist is a third party person who is not in any relation to the company about to be scammed. The only In most cases the company itself is clueless that it is part of a scam. It’s chosen because its stock is selling for pennies a share, making it easy for the scammer to acquire a huge number of shares with a minimal investment. Due to the small float of these types of stocks it does not take a lot of new buyers to push a stock higher. Often the promoters will claim to have inside information about an impending development or to use a great combination of economic and stock market indicators to pick stocks. In reality, they are only thieves who will earn a quick profit by gaining lots of investors. Once the price is high enough they sell their shares and stop inflating and promoting the stock which ultimately ends with a sharp fall in prices and thus investors lose their money. Similar but inverse scam is Short and Distort.

HOW PUMP AND DUMP SCAM WORKS

a) You need a worthless stock, with a tight float and which is thinly traded. Small companies are needed as a precondition. Tight float means that most of the stocks are held by insiders and promoters and not by the general public. The reason for this is that it is much easier to manipulate the price of the stock when there are fewer stocks held by the general public since fewer buying of stock is needed to increase the price. You now buy an otherwise worthless stock at low prices. This sets the stage for to make money when the stock price elevates.

b) You start a promotional campaign to create interest in the stock. You use advertising campaigns, cold calls, newsletters, newsgroups, message boards, chat rooms, emails, seminars and any other media to promote the stock. Information used to promote the stock is said to be a rumor, inside information or your unbeatable technical and economical analysis. Investors are being enticed with visions of making the big score, quickly and without much risk. Your promotions will make investors swim in the water of excitement. Essentially, you are playing on the investors strings of greed to try to make the investors feel that he can’t miss the next great investment play.

c) You now attempt to increase the price of a stock. The stock chosen is thinly traded, so you and insiders can quietly raise the price by buying up the stock. Instead of putting bid offers at lower prices, they take the ask bids out and go up the price ladder. Since there is little public float, it doesn’t take a lot of buying to get the price up.

d) You have increased the price of a stock and now dump it at a higher level. You leave with a high profit, while other investors face a sharp ride to the south.
Source: http://www.bustathief.com

Quote for the day

"If you want to create wealth, it is imperative that you believe that you are at the steering wheel of life, especially your financial life." - T. Harv Eker

Quote for the day

"We were not taught financial literacy in school. It takes a lot of work and time to change your thinking and to become financially literate." - Robert Kiyosaki