Coming up with a trade idea usually involves planning entries and exits based on a particular outcome.
Whether this involves trading around market estimates for an economic report or an expected price reaction to technical levels, we often make detailed plans with some degree of fixation on a specific scenario.
This is all well and good, especially since trading is mostly about profiting from high-probability setups.
The danger, of course, is getting too fixated on a singular plan that it results in tunnel vision. As traders, this can blind us from seeing alternative possibilities and making plans for these.
As one of my favorite authors Adam Grant writes in his book Think Again:
“When we dedicate ourselves to a plan and it isn’t going as we hoped, our first instinct isn’t usually to rethink it. Instead we tend to double down and sink more resources in the plan.”
Grant refers to this pattern is called escalation of commitment.This happens because humans are rationalizing creatures, constantly searching for justifications of prior beliefs as a way to soothe our egos and validate our past decisions.
You’ve probably experienced this when you moved your stop loss while a trade isn’t exactly going your way or when you struggle to flip your bias even when the market is flashing clear signs to do so.
Escalation of commitment is a major factor in preventable failures. Grant notes that this is where grit – a combination of passion and perseverance, often lauded as one of the main ingredients to success – can manifest its dark side.
People with grit have a stronger tendency to stay the course even in tasks at which failure is inevitable. The trick is to see the fine line between heroic persistence and foolish stubbornness, then take necessary steps to correct the course.
One way to avoid getting blinded by tunnel vision and falling into escalation of commitment in trading is to conduct regular checkups on the trading position and current market factors.
Ask yourself the following questions:
- Did the high-probability scenario play out as expected?
- If not, are there any remaining factors that support your initial bias? Or does it make more sense to cut losses at this point?
- Were there any other potential outcomes you might have missed? And how can these impact market bias moving forward?
- Are there any factors that could warrant a pivot from your original trade idea?
- Which upcoming events might still affect your position and how?
As you reevaluate the situation and identify biases that are no longer relevant to the current market environment, it becomes easier to rethink whether or not it’s worth holding on to a trade.