The AlphaMind Blog: What do Marshmallows have to do with Success at Trading and Investing?

Marshmallows: A a light, soft, spongy sweet which typically comes in various pastel colours and shades.
Trading: The act of buying, selling and exchanging commodities and financial instruments, hopefully for a profit.
Not much in common there then!
However, when it comes to success in the latter, there is a rather tenuous link with the former, which might be useful to remember.

Let me explain!

In the late 1960s, an experiment was held at a Nursery School on the campus of Stanford University. The experiment was to become one of the most well known in the field of Psychology, and was to spawn many more experiments of a similar nature.

Marshmallows, Self-Control and Delayed Gratification.

In the experiment children aged from four to six years were led into a small room, where a treat of their choice, usually a marshmallow, was placed on a table. A researcher then told them that they were going to leave the room and that they had two choices with regard to the marshmallow:

They could either eat the marshmallow in front of them right away.
Or
They could wait for the researcher to return (typically some 15 minutes later) before eating the marshmallow. However if they could do that, they would then be rewarded with a second marshmallow.

The researchers observed the children as they somehow tried to avoid eating the marshmallow. Some

would cover their eyes with their hands or turn around so that they could not see the marshmallow, others started kicking the desk, or playing with their hair, whilst others tried stroking the marshmallow as if it were a small animal. However most could not wait, they simply ate the marshmallow as soon as the researcher left.

[A YouTube video showing highlights of a reproduction of the original experiment can be seen at the end of this article.]

Of the 653 children who went through the original experiment, around seventy percent were unable to resist temptation and never received a second marshmallow. However, the other 30% were able to find a way to resist. What is really interesting however is that the benefits to those who resisted proved to be far more significant and long-lasting than just a second marshmallow!!

Around a decade later, the lead researcher in the experiment, Walter Mischel, decided to follow up on the progress of the 653 children. What he found stunned the world, of the children who were unable to wait for the second marshmallow, or more to the point were unable to delay gratification, most had suffered behavioural problems of some sort. This included poor ability to focus, they struggled emotionally, they had trouble dealing with stressful situations, and they also had problems maintaining relationships. However, the children who had been able to delay gratification were far more settled on all these issues. And when it came to academic performance, the only truly objective data, their average S.A.T scores were around 210 points higher than the children who could not delay gratification. (That’s significant considering average S.A.T scores are 1500).

But Mischel did not stop there, a further 15 years later he again checked up on the progress of the original participants, now in their thirties. Again, those who hadn't been able to wait for the second marshmallow, reported being unhappy with their lives. Some had problems holding down a job or regularly changed jobs, many had significant financial stress, often they reported trouble dealing with their emotions and many struggled to achieve their goals. Also a high proportion had challenges maintaining relationships, many had problems with obesity, and some reported issues with drug addiction. Once again, the children who been able to exercise the self-control to then earn a second marshmallow, were in a far better place. By comparison, they reported more fulfilling lives, their finances were either strong or under control, and they had satisfying careers and great long-lasting relationships. Furthermore, on average, they earned higher incomes, and had a far lower likelihood of having committed crime or suffering addiction problems.

Trading, Self-Control and Success.

Now back to trading, I had a career of nearly 25 years me as a trader, before becoming a coach who works with traders and fund managers helping to improve performance. I have also been running an active group on LinkedIn for a few years which discusses issues around trading and risk*. One of the biggest problems, I see, and one of the most common topics which come up in our group for discussion, is the matter of discipline and the inability of people to exercise self-control in their trading. The link between marshmallows and success in trading is now hopefully apparent: Learning to delay gratification, to resist temptation and to not give into to impulses are key factors contributing to people’s success in their work as traders and investors. If you can learn to exercise self-control and to become familiar with the idea and concept of working towards delayed gratification, you should start to see improvements in your performance and the start of a journey to stronger returns. However, simple as it sounds, we know it’s not that easy.

Baltazar Gracian: “Let the first impulse pass. Wait for the second.”

I admit, that as a trader myself, it felt good to sometimes 'go with the flow' and ‘to live for the moment’, to 'jump on an idea' or 'be swept away with the crowd'. Sometimes it would work, but all too often those trades were the rotten ones. Yet, one must ask the question there, why I did do them? These were trades which just liberated me from my money and handed it over to someone else. The answer, 'they just felt good', rather like the young children who ate the Marshmallow, they were moments of weakness. A lack of plan, structure or self-control are not healthy philosophies for life, nor a good recipe for success in trading or investment. They leave you vulnerable, exposed and lacking direction. It is at these times that you are most likely to fall victim to unconscious biases, to give into emotionally driven decisions, or to let your ego trample all over your trading.

Of the many successful traders I have worked with or coached, I could not say that any of them based their philosophy on leaving things to chance, they had plans and structure, and were rigid in how they enforced them. This does not mean they can not trade ‘from the seat of their pants’, far from it, in fact the planning and structure which is part of how they work, aid them in being able to to trade in this way. Within what may appear to be a random process, for many of these traders there is a method; an approach and a consistent attitude which result from a plan and which add up to a structure.

Behavioural Change

Learning to change or adopt a new behaviour is not easy, there is no simple switch nor a magic potion. Certainly some people can wake up one day and say from now on I’m going to be different, and for a few weeks maybe they’ll adhere to that new way. But the likelihood is, that within weeks if not months, like the failed dieter, they’ll be back to their old ways. The reason is that old behaviours and ways are firmly lodged, coded and hard-wired into one’s brain and neural paths. True behavioural change takes effort, hard work, commitment and time: It involves physical changes in the brain, and when it comes to making that new behaviour into an ingrained habit, there is no simple answer to how long it can take. The problem is that behavioural change isn’t something that a person just suddenly chooses to adopt, you have to slowly learn a new habit, you have to ‘overwrite’ a new habit over the ingrained existing habit, with constant repetition over time. These steps are something I will cover in a future article, for now however, if you recognize yourself as a potential one marshmallow trader, try and follow the advice of 17th century Spanish philosopher Baltazar Gracian, “Let the first impulse pass. Wait for the second.”

*The LinkedIn Group is called ‘Trader, Trading & Risk Psychology’.

This videoclip shows highlights of a reproduction of the original Stamford experiment.

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