WHAT IS BIAS IN TRADING AND HOW TO PREVENT IT

In this post, we’ll take a look at:

Bias, generally, means a great tendency toward something. When it comes to financial markets, bias keeps its meaning—a tendency toward a specific market, asset, timeframe, trading platform, trading session, indicator, broker, etc.

 

How Bias Appears in Trading?

There are many reasons for a great tendency being formed toward an asset or a timeframe, etc. But one of the most important reasons might be personal interests. Trading may not be the first job for many traders. It means there are a considerable number of traders who look at financial markets and trading as their passion, hobby, second job, part-time job, or even fun. So, these people may simply follow cryptocurrencies since crypto sounds crazy and profitable, especially for young people.

Neither all traders are professionals, nor they are rich. Every market has its special features. For instance, it is possible to trade micro lot in Forex market (1 lot equals 100,000 dollars). Micro lot means 0.01 of a full lot which is 1000 dollars. However, in other markets like Futures or Commodity, micro lot is undefined, and the minimum lot starts from 1. For a large number of traders, 100,000 dollars or more may not be affordable. Therefore, there will be few options available like Forex.

The initial capital enforces the retail traders to start and stick with a market like Forex. Now “bias” has the chance to appear after some times.

There are other items either. Someone who has just started trading might prefer a market like Forex due to the turnover of this market, leverage capabilities, speculation and scalping chances, being able to sell an asset without physically being the owner, etc.

Therefore, whether like it or not, there are some factors, directly or indirectly, have their impact on a trader and his/her decisions. In other words, the aforesaid reasons impose the bias, and the trader falls into the habit of trading in Forex, for example, after a while. Maybe, it should be called the “hidden bias”.

Besides, there are some false beliefs that makes a trader only focus on one market, asset, etc.

Some traders look for a Holy Grail: a trading strategy that is applicable to all markets and assets, and never fails! They consume their time and energy, and focus on an asset like EURUSD (Euro vs. US Dollar) in Forex, hope to find the best strategy for EURUSD and then generalizing this perfect strategy for other markets.

 

Advantages and Disadvantages of Bias in Trading 

The only positive point is that, as a trader, when you focus on a specific asset, after some times, you’ll have valuable experiences regarding the asset’s behavior, volatility, and prediction of the future (merely prediction, nothing will be exact!). in other words, you know the asset very well.

But when it comes to the disadvantages of bias in trading, there are many items, some of them will be listed below.

  • Losing the profit chances

When traders focus on one market, one asset, and one timeframe (such as Forex, GBPUSD, M30), vividly, profit chances in other markets and assets are lost. A professional trader never ignores any chances.

  • Exploring other markets

The second disadvantage of bias in trading is that, as a trader, you may never learn anything about other markets. A trader who trades in Forex only may never learn about Futures, Stocks, Crypto, Options, and Commodity markets.

Each market, as mentioned, has its unique features. Markets are full of surprises. It is possible to guarantee the initial deposit against different risks in Options; Futures is perfect for investment, for instance.

  • Low earnings, high risks

John is a trader and he always trades on Gold (XAUUSD). What happens to his trading account in case of market crash? Bias in trading certainly ends in call margin or stop out, since markets can be volatile in a most hideous way.

Practically, bias means the acceptance of the asset’s future risks, while the profit may not be significant.

 

Bias in Trading; Scientifically Dangerous

Let’s do an experiment. There are 8 strategies in this test, all of them are randomly generated for EURUSD, M30 timeframe.

 

Correlation

Correlation, briefly speaking, means the behavior and the performance of all the strategies when they are working together. The output will be a number between -1 and 1.

If it is 1, it means the strategies have a similar behavior. Simultaneously, they take profits, and also loses. In other words, when there is a loss situation, all of them are in loss.

If the correlation is -1, it means the strategies are opposite to each other. If the first strategy is taking a profit, the second one is in loss. So, the first one’s profit will be eliminated by the second strategy’s loss. Correlation of 0 to 0.4 is favorable.

The software, StrategyQuant X, is used in this test to calculate the correlation of the 8 EURUSD M30 strategies.

StrategyQuant X calculates the correlation of the strategies.

StrategyQuant X calculates the correlation of the strategies.

StrategyQuant X calculates the correlation of the strategies.

 

It can be concluded from the above picture that the strategies have a similar behavior in the market. The dangerous side is that when there is a loss position in the market, it is likely to have 6 or 7 strategies in loss at the same time.

So, a tendency toward EURUSD M30 trading robots easily [and scientifically] puts a trading account in the danger of margin call or stop out.

 

How to Avoid Bias in Trading 

The answer is simple, but effective: portfolio. Portfolio in the tool to fight against any bias, either in financial markets, or in real life.

It is highly recommended to create a portfolio of different various trading strategies. The portfolio should include at least 10 and maximum 40 strategies of different markets (Forex, Stocks, Futures, Crypto, etc.), different assets, and different timeframes (speculating (M5, M15, M30, H1) and long-term investment-type (Daily, Weekly, Monthly)).

The most important advantage of having a portfolio of different various trading systems is that the risk will be divided into small parts, and whenever a trading system is in loss or its stagnation period, other strategies are working in other markets, covering the loss. Also no trading chances will be ignored.

When there are 10 strategies in a portfolio, then the risk is divided into 10; meaning if two strategies lose whatever they have, at most 20 percent of the trading account is in the danger of call margin or stop out situation.

So, start today and create the portfolio of your own trading strategies.

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