Friday 29 April 2016
Thursday 28 April 2016
Heuristics and Cognitive Bias: the Reason Most Fail at Betfair Trading
When I went for an interview at an investment bank for a place on its trading programme I was subjected to a two day assessment centre where I went through a number of psychological and psychometric tests. I obviously did ok as I was later offered a job and a place on the programme.
I did not realise it at the time but the bank was screening for individuals whose mental processes involved the fewest mental shortcuts “heuristics” and cognitive bias.
I suspect many readers will switch off at this point (if they’ve got this far!) thinking “what a load of rubbish I just want to make a few quid on Betfair!” If they are one of the lucky few who are not affected by heuristics or cognitive bias then good luck to them. However the studies show that such people are in the minority to such an extent that 1.01 would offer value on them being affected.
If you have stuck with me…
Heuristics
Psychology splits the making of predictions into two parts: intuitive and quantitative. Intuitive predictions are made by a person running through possible outcomes, relying on personal knowledge, experience and common sense. Quantitative predictions on the other hand are made using only objective data and the data’s relationship to the outcome. With quantitative predictions there is little, if any, subjective (or “thinking”) component.
Why is this important? Numerous studies have shown that simple quantitative models outperform not only the average person but individuals that are supposedly experts in their fields. For example:
Lewis Goldberg showed that experienced clinical psychologists failed by some margin to beat a simple model in diagnosing patients.
Andrew martin and Kevin Quinn showed that a simple model was more successful in predicting the outcome of cases in the Supreme Court in the US than legal experts.
The studies conclude that the models beat humans because they reliably and consistently apply the same criteria over and over. It is this complete reliability in the application of the models that generates the better results. Models, after all, are never influenced by emotions. Humans, on the other hand, are quite the opposite. Not only are we emotional creatures are brains have evolved to be used to a life in the wild where instant decisions could mean the difference between living and dieing. Evolution resulted in us developing mental shortcuts – heuristics – that enable us to identify a danger and react before we are conscious of what that danger is. But take as an example the situation when you jump thinking that you have seen a spider, snake or whatever but shortly afterwards notice that the spider is a piece of fluff, the snake is a stick, etc. Here you have been the victim of the heuristic to avoid spider-like or snake-like objects.
Heuristics are clearly useful for survival but lead to cognitive bias that make it difficult for us to make logical decisions. These include:
Overconfidence – regarding our own judgement as better than it is.
Self-attribution bias – ascribing successes to ourselves but blaming others for failures.
Hindsight bias – believing after an event occurs that we had predicted it in advance.
Availability bias – placing more weight on information that is recent or easily brought to mind.
So how do you overcome this hardwiring that mother nature has imposed on aspiring sports traders? More on that in another post…
I did not realise it at the time but the bank was screening for individuals whose mental processes involved the fewest mental shortcuts “heuristics” and cognitive bias.
I suspect many readers will switch off at this point (if they’ve got this far!) thinking “what a load of rubbish I just want to make a few quid on Betfair!” If they are one of the lucky few who are not affected by heuristics or cognitive bias then good luck to them. However the studies show that such people are in the minority to such an extent that 1.01 would offer value on them being affected.
If you have stuck with me…
Heuristics
Psychology splits the making of predictions into two parts: intuitive and quantitative. Intuitive predictions are made by a person running through possible outcomes, relying on personal knowledge, experience and common sense. Quantitative predictions on the other hand are made using only objective data and the data’s relationship to the outcome. With quantitative predictions there is little, if any, subjective (or “thinking”) component.
Why is this important? Numerous studies have shown that simple quantitative models outperform not only the average person but individuals that are supposedly experts in their fields. For example:
Lewis Goldberg showed that experienced clinical psychologists failed by some margin to beat a simple model in diagnosing patients.
Andrew martin and Kevin Quinn showed that a simple model was more successful in predicting the outcome of cases in the Supreme Court in the US than legal experts.
The studies conclude that the models beat humans because they reliably and consistently apply the same criteria over and over. It is this complete reliability in the application of the models that generates the better results. Models, after all, are never influenced by emotions. Humans, on the other hand, are quite the opposite. Not only are we emotional creatures are brains have evolved to be used to a life in the wild where instant decisions could mean the difference between living and dieing. Evolution resulted in us developing mental shortcuts – heuristics – that enable us to identify a danger and react before we are conscious of what that danger is. But take as an example the situation when you jump thinking that you have seen a spider, snake or whatever but shortly afterwards notice that the spider is a piece of fluff, the snake is a stick, etc. Here you have been the victim of the heuristic to avoid spider-like or snake-like objects.
Heuristics are clearly useful for survival but lead to cognitive bias that make it difficult for us to make logical decisions. These include:
Overconfidence – regarding our own judgement as better than it is.
Self-attribution bias – ascribing successes to ourselves but blaming others for failures.
Hindsight bias – believing after an event occurs that we had predicted it in advance.
Availability bias – placing more weight on information that is recent or easily brought to mind.
So how do you overcome this hardwiring that mother nature has imposed on aspiring sports traders? More on that in another post…
Friday 15 April 2016
IPL – Gujarat Lions v Pune Superkings
The Indian Premier League, love it or hate it, is back in full swing. I love it and not just for the trading opportunities it presents. It has to go some to live up to the World T20 but I am sure it will have a good crack.
I didn’t do much in this game. Pune won the toss and elected to bat. There have been a few decent scores at Rajkot and with the likes of Ajinkya Rahane, Faf Du Plessis, Kevin Pietersen, Steve Smith, Mitchell Marsh and MS Dhoni in the side I was expecting a decent total so was with Pune from the start. I was pretty happy with Faf and KP going along nicely but things when wrong from there. I bailed for a small profit and watched as Pune made a mess of the second 10 overs. Had it not been for 20 off the last over their total would have been poor. The Manhattan chart and the Betfair graph of the Lions at the break illustrate things nicely:
I couldn’t trade the second innings so left things there. Hope you were able to get something out of the game.
Thursday 14 April 2016
Hello... again
Two and a half years and no posts… What happened? Good question.
I often wondered why well written blogs abruptly came to a halt. The authors clearly knew a lot about their subjects and posted some useful content but then they went quiet. Whether I have posted useful content or not I don’t know – I only made a few posts so the odds may be against it! – but I certainly went quiet. The truth is that after acknowledging at the outset that the blog may “die on its arse” I then developed some grand ideas whereas I should have probably approached things with a more gradual plan.
One reason I am a full time trader is freedom. Freedom from the 9-(if you’re lucky!)5 drudgery, freedom from the rat race, freedom from clueless bosses who have got where they are because they can talk the talk rather than walk the walk, freedom from the risk of being laid off, freedom from pointless meetings… You get the picture. I get to choose what I do, when I do it and where I do it from (I am writing this on the terrace of a chalet in the Alps) With my grandiose plans I found that it changed from an enjoyable pastime where I could share some knowledge and hopefully help aspiring traders to something I felt I had to do. It became a chore.
So I stopped. Why am I starting again? The truth is I like helping people, giving something back. When I began cricket trading there was very little out there to help people starting out. There is a lot more these days but much of it is of questionable quality. I won’t be able to tell you how to make “£10,000 per day working from home for 3 hours for the ‘one-time only’ discounted price of £29.99 along with several free gifts with a value of £769”! Perhaps there isn’t anyone who can…
What I can do is, hopefully, point you in the right direction and get you started on a profitable trading journey. I am not going to make any commitments as to posting frequency and I may just throw up a few screenshots now and again to show what is possible. I know that “P&L blogs” are a controversial subject and I agree that on their own screenshots of big green numbers do not give much to the reader but I personally find that they are interesting when coupled with other content.
Let’s see how we go.
Subscribe to:
Posts (Atom)