Trader Tip: Trader Dunning-Kruger Effect Trader psychology is very important when discussing the trading discipline. So often we focus on just trading specifics, but our mental approach can be just as important. Otherwise anything discussed can not be absorbed and acted upon. In this Blog post, we want to discuss the Dunning–Kruger effect as it applies to the trading discipline. So first off, what is the Dunning–Kruger effect. Here is a reference link (from the link one can learn more of its history of development and testing) and a summarized definition:

The Dunning–Kruger effect is a cognitive bias wherein persons of low ability suffer from illusory superiority, whereas the miscalibration of the highly competent persons stems from an error in understanding others and their own abilities.

Unfortunately, many traders we see at Blue Point Trading, and frankly most retail traders, fall in the first part of this Dunning–Kruger effect definition. Traders see the “easy money” ads on the internet and think that clicking buttons with a 50/50 chance of winning can’t be that hard. Ok, perhaps a little training, but it is all about the feeling one has for the markets. If I just trade aggressively and just keep trading I can do this and be better than the next – they suffer from illusory superiority and won’t take the time to learn the basics (i.e. why is your PSR always negative? What is a PSR anyway?), let alone the more sophisticated trading approaches.

I often use the analogy of a football sports player/team, who just goes out on the field and plays, with no real plan, follow up, or attention to the disciple. In today’s professional environments, this is disaster. People simply do not know what they don’t know and refuse to continually educate themselves. The other part to the Dunning–Kruger effect is to understand that it has a life cycle process to achieve expert status (see insert thumbnail). One should understand where they are at on this life cycle process and act accordingly. In and case, I share my top 5 comments we get at Blue Point Trading that tend to be a “red flag” for this Dunning–Kruger effect:

  1. I am a really good trader, here is a month’s sample of my [cherry picked unaudited] trading results.
  2. I have been trading for 10 years, I just lack the funding [there is no such thing as a broke “good” trader].
  3. I normally trade very well, it is the trader programme and/or the system that caused me to fail.
  4. I am a good trader because I can follow the trends and price action [unlike others] because of my experience.
  5. I already know how to trade, I don’t need to do any trader education [Trade Plan, Trade Journal etc …].

The other side of the Dunning-Kruger Effect are the smart traders (or potentially “good” traders) who think they are not and can’t do it. We typically don’t see too many of these traders, as they are already gainfully employed in the trading discipline or they never start. This is another matter. Hence we tend to focus on the first part of the Trader Dunning-Kruger Effect. So whichever camp of the Dunning-Kruger Effect you as a trader fall into, just be aware that our cognitive biases can get to us all. This leads me to the quote for this Blog post that almost any experienced trader would agree with:

“The markets will humble us all.”

So for all you “Hot Shot” traders out there, your enthusiasm for the trading discipline is great, just keep keep your feet on the ground. For all the good traders out there stuck in self doubt, pick your feet up and move …. ;-). Click here, or watch below a video presentation of this Trader Tip.

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Trader Tip: Trader Dunning-Kruger Effect

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