This article is theoretically closer to real-time operations, allowing you to understand that some of your seemingly untraceable erroneous transactions in the past actually have traces to follow.
At the same time, this article will also help you build a healthier mid- and long-term buying and selling theory system and some psychological factors you may encounter, helping you avoid mistakes!
1. Prospect Theory😆
At the beginning of this article, I would like to ask you who are reading this article a question: Where do you think the satisfaction brought by wealth growth comes from?
Do people feel satisfied simply by pursuing numerical growth, or do they feel satisfied because the growth of wealth can satisfy more needs?
If it is the former, imagine that you have endless money but are put on an isolated island. Will you be satisfied? If it is the latter, imagine that you are in a place where you don’t need to spend any money, and you can eat, drink and have fun as you like. Will you maintain this sense of satisfaction as time goes by?
I think you already have some answers just by thinking about these two scenes~
In game theory, the source of people's happiness is often generated by comparison with the environment. When you have something that others around you don't have or even dream about, you will feel satisfied at this time.
From this, behavioral finance has also derived a famous theory: prospect theory, which states that people do not care about the absolute value of wealth or the utility brought by wealth, but change their own needs through the environment (reference point).
Assume this scenario: you have been working as an IT engineer for many years, earning 20K a month, and are undoubtedly the best among your peers and those around you. But at this time, when you accidentally talk to your colleagues, you find that they earn 5K more than you for the same job, and this is just because they have changed jobs more often;
At this point, even if your income remains the same, the psychological satisfaction you get starts to drop dramatically because of the different information you receive. You go from being complacent at the beginning to feeling depressed whenever you think about this.
Through the above examples, you must have a simple and quick understanding of the application scenarios and principles of this theory. So how does this theory affect investment decisions?
2. Reference point dependence 😘
I am not sure whether you who are reading this article have a systematic investment and trading logic, but if you do, I would like to ask you a question: Is the basis for your judgment on each transaction entry quantifiable?
I think this question can be answered in many different ways: long-term value? holding equity? technical indicators? or hearsay?
But in fact, if people do not have a systematic investment logic, they tend to take "cheap" chips when trading. This cheapness is not cheap in an absolute sense, but cheapness based on a certain point, that is, relative cheapness.
Common decision-making reference points include: historical highest price, historical lowest price, previous high and previous low. People are often influenced by these reference points in their investment decisions.
It is these reference points that lead to your countless irrational emotions and the result of missing out and chasing high prices. This is also the essence of the short-term emotional school. It is a process of using the strong combined force of the market in the short term to induce investors to have FOMO (fear of missing out) emotions and enter the market.
This is also the source of the importance of establishing an investment logic and trading system. You need a handle on the market or an anchor point for judgment so as not to be swayed by such emotions.
Investments are often made based on expectations for the future. Only when you understand the phenomenon of reference point dependence can you manage expectations and make investment decisions even without a trading system.
3. Reference point dependence of selling decision 😅
I have mentioned some reference point dependence when buying, but in fact, when making selling decisions, our reference point dependence phenomenon will be more serious, because people often fall into the expectation of rising prices and wanting to get back their investment when prices fall. The final result is often a result of falling again and again and being stuck. #cryptotrading
There are two common reference points: cost price and other people's opinions.
This is actually very easy to understand. People usually judge whether a position should be closed based on the two states of holding profit or holding loss, because both the profit and loss states are based on the entry price. People will naturally be influenced by this method of using cost price as a reference.
What will be the result? You will keep adding positions in a project that obviously has a great risk of bankruptcy, under the beautiful name of "averaging costs". Of course, I am not saying that averaging costs is a wrong behavior, but I am saying that the logic of using cost price as the starting point of operation is wrong. This will cause you to go from a light position to a heavy position. You only missed a pig's trotter meal, but you lost a Rolex.
Similarly, when there are two positions, one with a loss and one with a profit, people are more inclined to sell the profitable one to realize their profits, because they have an expectation for the losing one: just get back the investment. The final result is often not optimistic...
In fact, no matter we are buying or selling, we are easily influenced by others in the decision-making process. After all, there are people in the market who are more professional than us, and it is always right to listen to them. But if we go one more step here and think about the position of their speech, perhaps we can look at the opinions of some "professionals" more rationally.
After all, I think it's hard to see CZ shorting BNB~ #BNB
4. The importance of stop-profit and stop-loss
Any choice will not be an absolute level, but a relative level. If you can set a reference point in advance and manage the reference expectations, you can avoid many wrong operations in the transaction.
So this is why it is very important to set take-profit and stop-loss before trading. It is also a necessary operation that is easier said than done.
In the market, only those who survive are the winners. Experts only earn considerable profits and control controllable risks. Managing reference points is to manage profit and loss expectations, which is also the first cognition for traders and investors to survive in the market for a long time!
Aside from extreme market conditions, any trader who suffers a margin call due to not setting a stop loss is not worth investing in.
