Rajandran R Founder of Marketcalls and Co-Founder Algomojo. Full-Time Derivative Trader. Expert in Designing Trading Systems (Amibroker, Ninjatrader, Metatrader, Python, Pinescript). Trading the markets since 2006. Mentoring Traders on Trading System Designing, Market Profile, Orderflow and Trade Automation.

Crowd Behavior – Psychology of Trading

4 min read

Before we get into the crowd psychology, first we need to understand our own behavior, and the actions we take as an outcome of conditional reflex.

‘The mind has a mind of its own’. Most of the time in critical situations you will act upon a conditional reflex and then after the critical situation has passed you start to analyze your action. From your analysis will emerge the question, why I always repeat the same mistake? The answer is that your ancient mind reacts upon emotional memory that repeats itself and makes you act and regret.

Crowd Psycology

To try to explain these behaviors, first we need to go back into the brain’s evolution. Surrounding the top of the spinal cord is the most ancient brain with a minimal nervous system. Its job is to coordinate basic surviving body functions such as, heartbeat, blood pressure, breathing rate, muscles tone, and metabolism. Whenever a person is in an existential risk, this mind sends existential alert signals to act immediately to remove this threat. For example, if you take the most apathetic person with no enthusiasm at all and put him in a rollercoaster, after the first loop you will find an exhilarated person with intense anticipation of the next loop. All this happens since the primitive mind is sending mixed existential alerts. The brain, like in response to injury, releases into the blood and to the spinal-cord analgesic in a form beta-endorphins. That is also the reason why we start to feel better immediately after an acute physical trauma. Beta-endorphin has approximately 80 times the analgesic potency of morphine.

If you compare the rollercoaster to the stock exchange, you will start to understand why the behavior is so much alike. In millions of years of evolution, came the emotional thinking brain. It remembers all the good and bad things that have happened to us, and it holds both physical memories such as pain, smell, taste, as well as strong emotions. It is enough for a single cue to activate strong emotions or even pain, just as painful as it happened in the past. For example if a person put his hand on ice and left his hand on the ice until this person could not tolerate the pain, if today he only looks at ice his mind will activate the pain memory just as it has happened again.

If you compare this pain to a losing trade, it is more likely that you will encounter a bad feeling in the next trade.

Then there is the last in the evolution of human mind and it is the “Neo-Cortex” that came hundreds of thousands years after the emotional thinking brain to its developed form today. Since its late development, the emotional mind sometimes overpowers the rational mind. As time passes and history changes, the human race as a superior creature is getting more and more aware of emotional intelligence, where the rational brain works in perfect correlation with the emotional mind, improving quality of life.

The modern world knows that it can work its drawbacks by using emotional intelligence in a proficient way. For instance even in extreme cases such as OCD, there is a meaningful influence in physiotherapy, meaning with the right therapist, the resolution will be the same as taking anti OCD drugs such as Prozac, all the more so, there is a way to overcome drawbacks by using the “Neo-Cortex “ intelligently.

Now once we have understood individual behavior, we can move on to crowd psychology. Analyzing crowd psychology is much simpler than an individual analysis. Scientific researches show that common behaviors in groups are much alike and are the most basic survival needs.

First come the basic existence needs, and than all other needs. For example, President Clinton’s administration needed a boost in the economy back in the nineties. For that, the administration gave a green light to a several tax relief measures and eased lending rules, which unleashed the real-estate bubble and the subprime fiction. President Clinton’s administration ended with a surplus that led to several future tax deductions. This bubble exploded in President Bush’s administration, and along with a costly war led to a deep budget deficit and deteriorating economy. The past two Presidents have made mistakes that will change the face of history in the economy and its perceptions. At that time, US citizens and from all over the world suffered from a low morale, a consequence of very bad economy conditions and worst to come. All those events led the crowds in United States and all over the world to their deepest anxiety concerning the unknown dark future.

On these grounds, President Barack Obama’s campaign strategy was to use the basic existential needs of the common people. Accompanied by impressive rhetorical abilities, and that the mind tends to an idealization of reality they built a mutual dream for better future, although vague future. President Barack Obama used these existential needs for his campaign strategy. In fact, the campaign was so successful that people from all over the world looked up to him as the ultimate savior. In every country he visited all over the world, hundreds of thousands of people came to hear his orations. The general feeling was almost religious. With slogans like “Yes We Can”, President Barack Obama managed to sweep away the crowds into action and vote for him.

Understanding the power of crowd psychology, we will move forward to understand how it affects our day-to-day trading skills.

Market participants are divided into three groups: The frantic group, the static group and the realistic group.

The Frantic Group
They act on impulse, their dominate mind is the primitive mind sometimes accompanied by lack of knowledge. This group will buy the financial instrument right at the top and will sell it right at the bottom. Usually this group will generate high volumes and give all the others a perfect reverse signal. Their emotional memory will lead them repeatedly to revive the same mistakes.

The Static Group
Passive-aggressive behavior is an inability to accomplish requested tasks for which one assumed, often explicitly, to be responsible. The mind gets into a defense mechanism and more often than not, only partly conscious. For example, under the intimidation of market movement and accumulating relatively large losses, this group gets in a passive-aggressive behavior, although, instead of rationally act on a pre-planned strategy, consciously cannot get into action and passively prefer a procrastination mode. The passive-aggressive group is a metaphor to a deer that crosses the road at night, suddenly a car is driving in front of the deer’s way with head lights on, the deer gets into awestruck mode and stay freeze on the cross road, needless to tell the end of this story.

The Realistic Group
A well-balanced group. Their rational mind coordinates perfectly with the emotional mind. This group studies thoroughly the material, as if they were studying a new craft and intend earn a living from this profession. Then they practice paper trading. After they understand what they are facing, they start gradually trading and continue studying until they feel they have reached a professional level. Even though they feel that they had reached that level, they will continue searching for new input just to stay sharp and intact. Before this group will get into a trade, they will plan a strategy. It will execute strategy only if all the terms of entering to a trade are fulfilled. After trade execution, they have a plan and they plan how exactly they will act upon possible scenarios and what exactly are its exit points. This group never breaks its own rules, although this group will criticize its strategy but only after it followed the rules and after exiting the trade. This group will revive success trades, study hard fault trades, and seldom change its strategy structure.

If you feel that you are repeating the trading mistake again and again then do check out the video and the reason behind it and how to overcome it.

TEDxPortsmouth – Dr. Alan Watkins – Being Brilliant Every Single Day (Part 1)

TEDxPortsmouth – Dr. Alan Watkins – Being Brilliant Every Single Day (Part 2)

Rajandran R Founder of Marketcalls and Co-Founder Algomojo. Full-Time Derivative Trader. Expert in Designing Trading Systems (Amibroker, Ninjatrader, Metatrader, Python, Pinescript). Trading the markets since 2006. Mentoring Traders on Trading System Designing, Market Profile, Orderflow and Trade Automation.

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4 Replies to “Crowd Behavior – Psychology of Trading”

  1. You are just a intelligent person bcoz you provide great stuff always. I visit first time your wb page and i impressed . Good luck man.

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