Dekha...Maine Bola Tha Na

Apurva Sheth
I knew it all along...
See, I told you so...
Dekha...Maine Bola Tha Na...

We use these phrases often...

An individual gets a confirmation for his first job a month after his final interview. When he tells his mother, she says 'I really had a feeling that you were going to get in'...though she expressed doubts to his father earlier that week.

A photographer sends pictures to a popular travel journal and says he thinks he has a good shot at getting published...though deep down he doesn't believe it. When he gets the acceptance letter, he talks about the importance of having faith.

You predict India will win today's T-20 final match against Pakistan. The game swings from one side to the other and you change your views accordingly. But when India finally wins this nail-biter, you thump the table and boast that you called it.

These are everyday examples of hindsight bias, a psychological phenomenon that makes past events seem more obvious than while they were occurring. Hindsight bias makes us believe an event was more predictable than it actually was, resulting in an oversimplification of cause and effect.

We all suffer from hindsight bias. This includes traders and investors.

Hindsight bias is most common after a stock market bubble has burst. Markets are flooded with the opinions of market participants including the media, pundits, economists, academics, as well as the aam investor. They all try to justify the crash. What few saw before the fact becomes imminent and visible. It was just a matter of time. They knew it all along.

Hindsight bias affects traders on an individual level too. You will often hear traders say things like 'I should have caught that move', 'I knew that was going to happen', and 'If only I had taken that trade'.

Whenever you hear such phrases, you can be sure hindsight bias is at play. Traders pacify the frustration of a bad decision by claiming they knew it all along.

The problem with this is that it's rarely true; we only feel as though we did. And if traders think they predicted past events, they are more likely to be too sure about their ability to predict future events. In this way, hindsight is a dynamic generator of overconfidence.

But overconfidence in your trading skills is dangerous. It gives traders a false sense of security and leads them to believe their views about market are always right. They might then leverage far more than they should, which can lead to humongous losses and even bankruptcy. History is full of rogue traders like Nick Leeson and Harshad Mehta who were more than confident about their abilities yet wound up broke.

A trader should always be careful not to fall into the pits of hindsight bias. If a trader feels that he knew it all along, then he will never stop to examine why something really works. This means he will never learn and grow.

One way to avoid hindsight bias is to keep a record of your trading decisions. One should keep a written record of thoughts and observations not only when making buy and sell decisions but when deciding to hold as well. After a trade is closed, one can analyse the decisions objectively and determine whether they were proper given the data and information available at that time. This helps the trader avoid hindsight bias and stay on right path.

At Swing Trader, we incorporated a trading journal in the trading portfolio tracker designed especially for our subscribers. This tracker enables our subscribers to record their reasons for entering and exiting trades so that analysis at a later stage will be easy and clear.

How do you avoid the hindsight bias while trading? Share your views in the Club or share your comments here.

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