This article is a follow on to Jon’s previous article on hot states and cold states.
In a cold state, we can think very rationally. We will have a well thought plan as well as contingency plans to be activated. For example, traders would have a trading plan to follow, and if things go wrong, cut loss.
Let’s imagine the market really went against the trader’s position. He entered into a hot state position, stressing over his paper losses. He was unable to think with a clear mind, lest sticking to his contingency plans. He froze and blew up his account as his losses mounts beyond his margin requirements.
That’s the truth. We overestimate our ability to stay rational in a hot state (I am speaking from experience).
Dan Ariely, in his book The Upside of Irrationality, recounted his experiments that too much money at stake lowers performance. In fact, ......