Risk Management With Kathy Lien

Dr. Indre Viskontas:

Howdy, and welcome to Contained in the Thoughts of a Dealer, the present the place we discover how sensible merchants are wired for fulfillment. I am Physician Indre Viskontas, neuroscientist and professor of psychology on the College of San Francisco.

On this episode, I will be speaking to Kathy Lien. Kathy is a world famend skilled in buying and selling currencies and the co-founder and managing director of BK Merchants. However when she’s not buying and selling, she could be seen on CNBC, Bloomberg and her personal well-liked Foreign exchange YouTube channel. Hello Kathy.

Kathy Lien: 

Hello.

Dr. Indre Viskontas:

So I really feel like I already know you as a result of I’ve seen inside your mind.

Kathy Lien:

I hope you discovered some issues which might be attention-grabbing.

Dr. Indre Viskontas:

Oh, a lot, a lot. However I wish to begin with asking you what it was prefer to be a prodigy. At 13, you began school.

Kathy Lien:

Properly, it was undoubtedly one thing that was sudden, however to be trustworthy, Indre, I did not really feel that a lot completely different. I felt prefer it was second nature. I am in an trade the place I’m typically the one feminine, the one minority, and I used to be the one 13-year-old at New York College on the time. And I believe, from very early on, it was simply a part of who I’m. I am not afraid to be the one one within the room doing what I am doing.

Dr. Indre Viskontas:

So once you have been rising up, do you know that your pondering was completely different from, say, the opposite youngsters in your class?

Kathy Lien:

No, I would not describe myself as a prodigy. I might principally say that I be taught issues so much sooner and I choose up issues so much sooner than most individuals, and I believe that helps me perceive ideas. And thank God New York College made you’re taking courses and many alternative subjects, and one among them was macro, microeconomics. And who knew? It simply made good sense to me. And it is from there that I actually felt like this was second nature.

Dr. Indre Viskontas:

After I have a look at your mind, I can actually see among the issues that you simply’re describing. Do you wish to inform me a little bit bit in regards to the sorts of cognitive expertise that you’ve got developed over time that you simply suppose make you a very good dealer?

Kathy Lien:

I react way more on intuition. And as soon as I’ve developed a buying and selling system, I’ve a buying and selling system that I’ve used for over 10 years now, and it is nearly second nature to me. So for me it is nearly creating the behavior and repeating the behavior again and again.

And it is a sophisticated course of as a result of for me, I am a dealer that fuses what we name elementary evaluation and technical evaluation. So I dissect all the incoming information move, I check out what the market sentiment is, whether or not it is a optimistic day, a destructive day, I check out whether or not traders are bullish or bearish, and I mix that with chart evaluation, nevertheless it occurs in a short time for me. This complete course of may occur in 10 minutes most.

So I believe it goes again to my preliminary studying course of. One of many ways in which I used to be in a position to go to school at 13 and graduate at 18 was as a result of I took, throughout summer time applications, accelerated math studying courses the place I discovered other ways to do mathematical equations in a short time. And I believe, taking that kind of pondering into the true life state of affairs and buying and selling, I have been in a position to acknowledge the shortcuts and be capable to course of them shortly in order that I could make quick buying and selling selections.

Dr. Indre Viskontas:

It is actually attention-grabbing. You talked about instinct, and lots of people consider instinct as one thing that you simply simply have a intestine feeling, both as a result of you’ve this literal, bodily response, or that you simply’re not consciously conscious of what it’s that is coming into your decision-making, it simply type of feels proper. And I believe lots of people do not perceive that that intuition, that instinct is constructed up over time by way of studying. And it appears like that is what you are describing, this build up over time of this data base that now you may shortly question versus simply going with a sense which will or will not be primarily based on any precise actuality.

Kathy Lien:

I agree. I imply, that is true of many careers on the market. I simply obtained off the airplane. A pilot, by intuition, is aware of methods to react in sure varieties of turbulence and atmosphere. And also you name it intuition, nevertheless it’s additionally expertise over time.

Dr. Indre Viskontas:

Yeah.

Kathy Lien:

And I believe that is available in every little thing that all of us do. And for me, that is buying and selling.

Dr. Indre Viskontas:

So this can be a statistical map of your mind of what it appears like when it comes to its activations when you have been doing the fluency activity, so the place you have been pondering of both trading-related phrases, so we gave you a immediate like excessive frequency, after which we requested you what have been you excited about or like seashore, like what you consider once you go to the seashore. So in yellow that is how your mind was energetic through the seashore and unrelated questions. After which blue, is trading-related. And what you may see is that there is much more blue than there may be yellow, and particularly in these type of frontal components of the mind and round this complete space within the temporal lobe, which is the place we retailer ideas. So it means that once you’re excited about issues which might be trading-related, you activate much more representations in your mind, you’ve much more ideas to attract from.

However the different factor that we discovered exceptional general throughout your entire mind scans is that your mind had extra, bigger swaths of activation than the common undergraduate. However after we requested you to make selections that have been both primarily based on a pretend buying and selling state of affairs that we made up, versus a pretend different, hopefully, equally advanced state of affairs like, “Who would you vote for in an election? And this is the professionals and cons of a selected stance,” you spent much more time excited about the non-trading associated eventualities, however for the trading-related, you have been like inside three seconds you had your response.

Kathy Lien:

These have been actually attention-grabbing questions as a result of I wasn’t certain whether or not I must be voting primarily based upon what I believe goes to be the profitable outcome or what I believe ought to occur on an ethical foundation. So I spent extra time excited about that, and I believe that in all probability got here by way of by way of the outcomes. As a result of there’s one factor, what the result might be, the almost certainly consequence, what must be the result primarily based upon your personal ethics? And I believe I used to be simply toying with it.

Dr. Indre Viskontas:

Okay, in order that makes a number of sense. After which once more, within the blue trading-related questions, what we see is much more exercise right here within the parietal areas the place it is about shifting consideration. It is about shifting your consideration inward to your ideas. So it looks as if there you type of had extra of a strategic method of accessing the prevailing info you’ve in your mind reasonably than these sorts of islands of exercise within the different selections the place it appears, though you have been type of possibly utilizing completely different networks, probing completely different points of the way you suppose with a purpose to have a look at these. Is that sort of-

Kathy Lien:

I believe a number of the questions that have been trading-related concerned numbers, and so, it was simpler for me to course of. It is one thing I am very comfy with. And as I stated, the extra non-trading associated ones I felt have been simply whether or not I ought to decide about what must be completed versus what I believe personally would be the outcome, what folks vote for.

Dr. Indre Viskontas:

That is actually attention-grabbing due to course, nicely, I assume I say after all as a result of I do know that, however you may not, which is that the arithmetic, the maths areas of the mind are sometimes on this parietal area. And so, it does seem to be you are doing a little type of precise calculations here-

Kathy Lien:

Yeah.

Dr. Indre Viskontas:

… though… Okay, attention-grabbing. So when it comes to simply this fashion of trying throughout all of those slices within the mind, so yeah, what you see right here is that you’ve much more of this exercise in these components of the mind which might be concerned in strategic retrieval, math, these sorts of instruments once you’re speaking about these trading-related selections.

Okay. So are you prepared for the subsequent one?

Kathy Lien:

Okay.

Dr. Indre Viskontas:

So that is the place we requested you to do that activity that includes pairing type of dangerous decision-making versus one thing that could be a management. Okay, so let’s begin with the management activity. We confirmed you a few stamps and we requested you which of them one do you want higher, proper? Completely random.

Kathy Lien:

Sure.

Dr. Indre Viskontas:

That may be a management situation as a result of we wish to management for issues like simply making a choice, we wish to management for a desire and in addition even simply the button presses, like motor actions concerned there. We would like to have the ability to subtract that or take that away from…

The duties that we’re actually keen on is after we pair you with this selection. There is a protected selection, so there’s at all times a 100% probability of, say, getting a greenback. After which, there is a dangerous selection the place it could possibly be an 80% probability of getting $2 or a 20% probability of getting $10.

And we have been keen on plenty of issues. To start with, which decisions do you make? How do you strategize about these sorts of decisions? In order that’s type of the habits, after which, what’s occurring in your mind once you’re making these selections.

So in the case of the stamp situation, we see the areas that we anticipate like right here, which is your visible cortex. Mainly, you are simply these options of the picture after which some motor, possibly a little bit little bit of dorsolateral prefrontal cortex, which is type of such as you’re simply pulling the set off on making that call.

However in the case of this danger situation, right here once more, you may see, there’s much more blue than there may be yellow. So that you’re recruiting many extra networks and areas once you’re doing that, and particularly right here on the entrance a part of the mind the place you have obtained your government functioning expertise, so these are the talents of a CEO of strategic planning and that type of determination making on the idea of your prior information. However you even have this huge swath once more right here again within the parietal lobe the place a number of your conceptual info is saved. So it looks as if you make this determination. Does this sound in any respect what you have been doing?

Kathy Lien:

I’m undoubtedly making a choice after I’m trying on the choices given to me which might be associated to buying and selling. I assume, I am keen on discovering out, nicely, how does this examine to another person who will not be essentially in coaching. And is my mind activated in numerous methods than a school scholar could be, for instance?

Dr. Indre Viskontas:

100%. 100%.

Kathy Lien:

Okay.

Dr. Indre Viskontas:

So it appears very completely different, however I will get to precisely how they differ in a minute. However first, once you took the dangerous choice, you may see right here in blue, there was much more determination making, much more of your mind that was concerned. And after I appeared on the response instances that you simply used with a purpose to make that call, I discovered one thing actually attention-grabbing, which is that the primary 10 or 12 trials that you simply noticed these completely different ranges of danger, you appeared to take longer. After which, when you had seen that degree of danger, the subsequent time you noticed it, it was actual fast. So it appears to me such as you determined, “Okay, when it is a 35% danger, I am at all times going to do X.” Is that what you probably did?

Kathy Lien:

Sure. I believe it actually comes all the way down to my buying and selling type as nicely. I am a powerful believer of buying and selling defensively, which signifies that when I’ve earnings, I shield my earnings as a result of on the finish of the day, we wish to stroll residence with more cash within the financial institution than we left.

And at first, in this system that you simply had, we didn’t essentially see the cash within the financial institution that was given afterward. So it took extra pondering when it comes to do I wish to begin specializing in accumulating gradual, excessive chance earnings or do I wish to take the guess, after which, hopefully, generate that revenue within the financial institution in order that I can hold it afterward? So there’s a number of pondering concerned in that.

Then as soon as I noticed the checking account and I noticed how a lot was within the financial institution, I knew that I may react extra shortly with a purpose to retain that fairness that was within the account. And on the finish of the day, that is what I believe merchants, particularly these of you which might be buying and selling for your self must be excited about, which is that when you have made cash that possibly you wish to take much less danger with a purpose to shield your earnings, otherwise you wish to take into consideration how if I made $100 already, the max loss I wish to take is $50, at the least I can stroll away with some earnings. So relying upon the danger profile, if that danger alternative is $200 for a $50 guess, and it is simply your first commerce, then possibly you do wish to try this. So there’s much more pondering that goes into the choices that I make that I believe are reflective of my private buying and selling habits.

Dr. Indre Viskontas:

And we see that when it comes to the quantity of mind activation, the quantity of pondering that we actually see that you simply’re pondering. And I’ve yet one more actually cool discovering to point out you, however let’s take a fast break and I will be again with Kathy Lien.

James Kostulias:

Loads of what we do and a number of what we speak about at Charles Schwab and with our complete providing of Schwab Buying and selling Powered by Ameritrade is the academic part.

Lorraine Gavican-Kerr:

We actually like to show our purchasers about danger administration, about utilizing a platform. I believe that we actually wish to set folks up for fulfillment for no matter they wish to do. So merchants have completely different goals, completely different objectives, they commerce various kinds of merchandise.

Chesley Spencer:

Enabling them to see what they can do, notably with issues like derivatives or choices the place it isn’t almost a lot a binary of, “Hey, you suppose that is good? Purchase it, it’s going to go up. You suppose that is unhealthy? Promote it, and go down.” All of these have very explicit actions one can take primarily based on them. It is much more nuanced than only a easy purchase or a easy sale.

Lorraine Gavican-Kerr:

The individuals who work behind the product and expertise are merchants, they’re tremendous engaged, they love what we do.

Chesley Spencer:

Recommendation may be very a lot part of the general Schwab enterprise, however within the buying and selling area, it is way more about empowerment.

James Kostulias:

Whether or not you are any person who’s extra basically primarily based or extra technically primarily based, there’s a lot to be taught throughout methods to commerce completely different devices throughout, methods to commerce completely different markets. And so I believe from my perspective, what I might say is proceed to be taught and proceed to teach your self. There is no form of one playbook to buying and selling.

Dr. Indre Viskontas:

Okay. So that is the discovering I used to be most excited to point out you, which is that after we give this activity to undergraduates or principally anyone, what we anticipate to see is that their reward pathways, their form of sense of motivation are activated by the extent of danger, so the extra danger they take or the extra reward they get, the extra activation they get in these reward pathways. We noticed none of that with you.

So I might expect to see right here on this area too, within the striatum, a number of exercise that’s at the least considerably modulated by both the dangerous or certain selection or the extent of danger. And as you may see, that is just like the least activation that we noticed.

And even after we have a look at your complete mind, after we examine the risk-taking trials versus the stamp trials, we do not see any activation in these emotional or reward pathways just like the amygdala and the striatum as if you do not have an emotional response to what it’s that you simply’re doing. And possibly it is this activity, however I think that that is one of many methods too that you’ve got grow to be a very wonderful dealer. So how is it that you simply… What do you consider that?

Kathy Lien:

Properly, I do not suppose that being utterly unemotional is the easiest way to explain my buying and selling course of. I imply, I am solely human, proper? So I’m watching my trades, there may be some emotion hooked up to it, however the activity, most of the duties that have been completed, the questions associated to buying and selling principally offered me with a selection of one thing that had an 80 or a 100% accuracy versus a 20 or 30% probability of occurring.

So for me, it is second nature to choose the upper accuracy whatever the quantity of the reward, as a result of my job as a dealer is to only earn a living, and my job as a dealer is simply to build up earnings and I wish to do it in probably the most methodical, low-risk method attainable. My job will not be to enter the on line casino and gamble and hope that I will make $1,000. So I take it from a really methodical strategy, and I believe that is what’s made me an important dealer as a result of not solely am I it from a chance perspective, but when one thing’s not understanding, Indre, I am reducing my losses and I am simply dropping the commerce.

Most individuals go into buying and selling and their solely objective is to earn a living or to outperform the S&P, for instance. My objective is to make 1% every week, and as soon as I’ve achieved that 1%, then I am targeted on defending my earnings. After which, I try this repeatedly. And I believe it from that perspective, 1% would not appear a lot, nevertheless it’s unlevered. And naturally, leverage comes with danger, nevertheless it accumulates over the course of time as a result of that could possibly be 3 to 4% a month, 30 to 40% a 12 months. Clearly, there’s going to be losses in there, that is why it is 30 to 40%. So taking it from a methodical strategy, I believe minimizes the feelings. And with the ability to get out of the trades after they’re not understanding shortly additionally permits me to examine the feelings on the door and to concentrate on simply making these pips and holding them.

Dr. Indre Viskontas:

However that is one thing that is actually onerous to try this folks need to be taught. We name it loss aversion, that it is actually onerous to type of do away with the factor that you simply have been hoping was going to make you cash, however is not understanding. And that is a number of the realm the place emotion is available in and other people make buying and selling errors.

Kathy Lien:

You are completely proper. The emotional side of buying and selling might be the toughest half as a result of on the finish of the day, I believe each single dealer has had the expertise the place they might be up so much and so they let the commerce utterly reverse after which go into losses, and so they’re pounding the desk and say, “I want I took my earnings.” And with the ability to acknowledge that and to principally take steps to forestall that occuring, I believe is without doubt one of the most vital points of buying and selling as a result of anybody can earn a living, holding the cash is admittedly key, and I believe that is the important thing to longterm buying and selling success.

Dr. Indre Viskontas:

So how did you develop that? Is that this one thing that you simply really feel such as you have been naturally wired at first or is that this one thing that you simply really took the time to develop as a talent?

Kathy Lien:

It got here to be, to be trustworthy. I imply, I traded at first. I began buying and selling in ’99 through the go-go days of the dot-com increase. It was all about huge, triple-digit earnings. And I believe with time and in addition shifting markets to overseas trade and currencies the place the instrument is way more levered, and so, the ups and downs could be extra vital, I believe it is vital to take a methodical strategy. So I assume goal-setting simply got here to me, nevertheless it’s by way of an extended profession of buying and selling that I’ve come to comprehend that having that objective might be one of many pivotal components and transformational components of my buying and selling as a result of only a few folks take into consideration that, they only take into consideration getting cash, and so they simply take into consideration correct commerce choice.

And that is why I additionally at all times inform people who the exit, your targets and your stops must be simply as vital as your entry. Virtually everybody focuses all their efforts on their buying and selling technique, on methods to enter the commerce, when to choose the proper high and backside. They focus little or no effort on methods to exit the commerce. When must you exit? Are you going to double down? Are you going to scale in, scale out? Are you going to take a revenue earlier than the market shut? Only a few folks take into consideration that. They simply take into consideration, “I wish to earn a living.”

Dr. Indre Viskontas:

Mm-hmm.

Kathy Lien:

After which they see, and that is notably harmful when we now have a bull market that turns right into a bear market the place you see everybody floating these vital earnings and so they do not wish to take their earnings for a wide range of completely different causes, then they begin to see the earnings eroded as we get a bear market occurring. And probably the most harmful side of that’s that when you’ve a bear market, the strikes are a lot extra aggressive and a lot extra intensive and a lot sharper towards you that it prevents you from performing since you freeze and also you suppose, what ought to I do? Ought to I take the loss or ought to I hope that it is going to get better once more? After which, they find yourself blowing up their account.

And with buying and selling, I believe that is way more vital than investing as a result of with investing, firms have worth, with buying and selling, particularly once you’re buying and selling a levered instrument, your worth is simply the dimensions of your account. And so, that is why having my goal and getting out and ensuring we simply construct that slowly, has been the true transformational a part of my buying and selling.

Dr. Indre Viskontas:

You utilize the phrase freeze, which is so apt as a result of the amygdala, which is one among these areas of the mind which might be concerned in am ambiguity and uncertainty, when it is activated, it may trigger literal freezing. We see this in rodents that we research, they actually freeze, they do not know what to do. And after I see that once you’re making these selections, that isn’t into play, look, possibly our activity is not the very best illustration of what you do, nevertheless it makes a number of sense to me and it makes me take into consideration how this has been wired up over time for you.

I do have a query as a result of it appears like you’ve these robust government functioning networks, government management networks which might be activated concurrently. So did you play a musical instrument rising up or be taught a second language?

Kathy Lien:

I performed piano, not nicely. I do not keep in mind methods to play piano now, however I do converse Chinese language. I like overseas languages. I converse a little bit little bit of Italian and French, and none of them nicely apart from Chinese language, however I do love overseas languages.

Dr. Indre Viskontas:

As a result of it seems that the bilingual mind additionally has this function, have all these excessive government functioning expertise that get developed by way of the event of a second language. In order that’s actually attention-grabbing.

And I believe in case you go to NYU and also you’re 13, it’s a must to be fairly goal-oriented or it’s a must to have these networks in place to have the ability to hold monitor of all the assignments and all the issues that 13-year-olds typically are fairly unhealthy at.

Kathy Lien:

Actually, I did not even give it some thought. I imply, I used to be simply one other scholar and I had the identical homework, the identical duties, the identical deliverables as each different scholar, and that is the one method that I checked out it. And I really feel prefer it simply got here second nature.

Dr. Indre Viskontas:

Mm-hmm. So getting simply again to this exit technique that you simply talked about how vital it’s to have that technique laid out, one of many issues I believe could be actually painful about loss is once you pull out of the market since you’ve made your 3 or 4% and now you see the inventory or the commerce go up a lot extra, how do you take care of that aspect of FOMO?

Kathy Lien:

That is an excellent query as a result of I imply, that occurs to everybody. I simply transfer on. It occurs to me, really, day by day. It occurred to me at this time the place I had a commerce and I took my revenue, it went a lot additional. However I discover reduction and I discover consolation in that I caught to my objective and I exceeded that objective already this week. And so, I’ll not have made 100% of the earnings, however on the finish of the day, I went residence with more cash than I left. And that’s my solely job, which is to make the earnings, hold them, after which do it once more each single day.

I do not commerce in a method the place it is simply in regards to the huge winners, it is in regards to the constant, regular winners. And they are going to be smaller than the ten, 20, 30% beneficial properties that you’ve got held for a 12 months for, however they’re repeatable. And that, I believe, is an important side of it, since you do not wish to simply get fortunate. That is true of athletics. That is true of just about something somebody is sweet at. You discover one thing that works and also you simply do it again and again.

Dr. Indre Viskontas:

In order you have discovered to control your feelings, is there some place that you simply set free steam? Do you’re taking a sledgehammer to a wall every so often or one thing like that?

Kathy Lien:

No, I do not suppose that might work out very nicely, however I shut down when it comes to buying and selling at very particular durations of the day, and in addition, durations of the week. And I do not have a look at it once more till I’ve to restart.

So a part of my buying and selling course of is I commerce the atmosphere that works finest for my technique, which is principally the market opens. And so, principally, I commerce from 6 A.M. New York time to about 9:30 New York time. After which I commerce the Asia open between 8 P.M. To 11 P.M. after which, that is it. Between there, I do not have a look at the markets in any respect. I will watch some information, now, possibly I will do some evaluation, however I will simply work on different issues. And are available Friday at 9:30 A.M. proper after the New York fairness market open, every little thing’s digested, I am just about completed. I’m doing different issues, catching up on different work. So I solely concentrate on the durations which might be most effective for my technique, and I simply step away from the markets another time.

Dr. Indre Viskontas:

Properly, I can actually see that strategic pondering in your mind activation. And I simply wish to thank Nina Dolfen and Lila Davachi at Columbia for serving to me get these scans, and Yoed Kennett for the Alternate Makes use of and Alternate Questions Activity. And naturally, Kathy Lien, thanks for lending us your mind and telling us how you employ it.

Kathy Lien:

Thanks for having me.

Dr. Indre Viskontas:

Be a part of us subsequent time as we contained in the minds of sensible merchants.