Trading on Sentiment
Trading on Sentiment deepens your understanding of markets and supplies you with the tools and techniques to beat global markets- whether they're going up, down, or sideways. Dr. Richard L. Peterson is CEO of MarketPsych and a behavioral finance expert, investment adviser, psychiatrist, and consultant to the financial industry. His two previous books, Inside the Investor's Brain and MarketPsych were named top financial books of the year by Kiplinger .
Trading on Sentiment
As a 12-year-old boy I was befuddled when my father-a finance professor-gave me trading authority over a small brokerage account. At the time I didn't understand what the stock market was, and I had no idea how to proceed. He educated me on how to read stock tables in the daily newspaper (this was 1985), call a broker, and place an order. I was set free with my limited knowledge and zero experience with the goal of growing the balance.
To select investments, I first turned to the local newspaper. I reviewed the micro-text of the stock tables. The numbers didn't make sense to me-my first dead-end. For Plan B I visited the library, and the librarian referred me to dusty books from the 1960s that extolled the virtues of 'tronics stocks and Dow Theory. "Nothing for me here," I thought. I wanted to know what to buy right now , not to learn ancient theory.
Next I went to a bookstore. A young attendant directed me to the magazine section, and the first magazine I picked up listed the Top 10 Growth Stocks of 1985. "Perfect!" I thought. I went home, called up the broker, and dictated the top 10 names to him, buying shares in each.
Over the next few months, I didn't pay attention to the stocks' performance. About a year later I figured it would be a good time to check in. I expected to hear that I had made big gains. In fact, I fantasized that the broker would soon be calling me for investment advice. When I opened an account statement I saw-to my disbelief-that the account was down 20 percent.
Confused, I went back to the bookstore. I related my tale to another attendant, and he condescendingly informed me, "Clearly you bought the wrong magazine.""He's right!" I realized. This new, wiser guide helped me find a magazine extolling the Top 10 Most Innovative stocks of 1986. I went home, invested in a few of the top 10, and waited. I paid more attention this time, and I noticed that the first three monthly account statements were positive. I felt good, back on track, and I imagined I would be redeemed as a genius stock investor.
A year later, after a nine-month hiatus, I opened the latest account statement. The damage was worse-my account was now down nearly 50 percent from where it had started. "This can't be right," I thought. I sheepishly called the broker. He confirmed the loss.
I wanted to understand what the experts knew that I did not, so I started reading books by investing by gurus such as Benjamin Graham and Peter Lynch. I noticed that these books were teaching me not only about fundamentals, but also about psychology. It seemed that many of history's most successful investors used an understanding of investor behavior. Baron Nathan von Rothschild, an early scion of the Rothschild banking dynasty, in 1812 guided investors to, "Buy to the sound of cannons, sell to the sound of trumpets." Benjamin Graham wrote, "We buy from pessimists, and we sell to optimists." Warren Buffett modernized the saying as, "Be fearful when others are greedy and greedy when others are fearful." This advice seemed like useful guidance, but it wasn't specific or easily actionable.
Psychology-based investing advice seemed too vague . I wanted more concrete guidance, and as I embarked on engineering coursework in college, I found what I believed was a true advantage in investing-a deeper understanding of mathematics and models.
While the markets had beaten me as a 12-year-old investor, in college I vowed to learn their tricks and recover my losses. Working through a university degree in electrical engineering, the solidity of mathematics-of software development and machine learning algorithms-seemed like the best path to resurrecting the now-dormant brokerage account. I obtained long price and volume data histories, reserved CPU time on the engineering department's fast RISC machines, and wrote code to identify patterns in the