Trading Psychology

Question 1 (14 marks)

(a) (5)

• Win rate = 20/50 = 40% (1)
• Average win in R = 1800/900 = +2R; average loss = −1R (1)
• Expectancy (₹) = (0.40 × 1800) + (0.60 × −900) = 720 − 540 = +₹180 per trade (2)
• Expectancy (R) = 180/900 = +0.20R per trade (1)

(b) (4)

• Process focus means judging a decision by whether it followed the tested edge, not by its result (1).
• The 4 "gut feel" trades were process failures regardless of outcome — even had they won, they would remain rule violations (2).
• She should evaluate: was the setup valid, was risk sized correctly, was the plan followed? — not the P&L of those trades (1).

(c) (5)

• A positive net P&L can arise from a few outsized lucky wins masking many undisciplined trades (small sample / variance) (2).
• Discipline is measured by rule-adherence rate, a process metric, not by outcome aggregation (2).
• With a genuine edge, undisciplined trades lower long-run expectancy; a currently-positive balance is not evidence the process is sound (1).

Question 2 (14 marks)

(a) (8, 2 each)

• 09:20 → FOMO — the fear of missing the runaway move (1 label +1 justify).
• 09:35 → still FOMO / chasing (entered late purely to not miss out) (2).
• 09:50 → Revenge trading — doubling size specifically to "make it back fast" (2).
• 10:10 → Tilt — angry, rule-abandoning, aimless clicking (loss of emotional control) (2).

(b) (3)

• Trigger = missing the planned opening breakout (1).
• Chain: missed setup → FOMO chase → loss → revenge sizing → loss → tilt/total control loss (2).

(c) (3, 1 each) — must be concrete/pre-committed, e.g.:

• "No entry more than X minutes/ticks after planned trigger price." (blocks chasing)
• "Position size is fixed; no size increase after a loss — ever." (blocks revenge)
• "Two consecutive losses → mandatory 30-min stop / close platform." (blocks tilt)

Question 3 (12 marks)

(a) (4, 2 each) — any two: look-ahead bias, overfitting/curve-fitting, survivorship bias, ignoring slippage/commissions, in-sample-only testing (no out-of-sample), cherry-picked period.

(b) (4)

• Demo removes execution-specific frictions but not psychology and real-money emotion (2).
• Live introduces real fear/greed, hesitation, rule-breaking, and real slippage/fills — the drop mainly reflects behavioural degradation and execution reality, invisible in both prior stages (2).

(c) (4)

• Re-optimising to hit 80% fits the model to historical noise, not signal (2).
• This is overfitting / curve-fitting, producing great backtests that fail forward (2).

Question 4 (12 marks)

(a) (5)

• Equity = 500000 × (0.98)⁶ (2)
• (0.98)⁶ = 0.885842 → ₹4,42,921 (≈₹4,42,921.3) (2)
• Drawdown = 1 − 0.885842 = ≈11.42% (1)

(b) (4)

• Recovery required grows nonlinearly: a drawdown of D needs a gain of D/(1−D) (1).
• At 5%/trade, a 6-loss streak = 1−0.95⁶ = 26.5% drawdown, needing ≈36% gain to recover vs ≈12.9% for the 2% case (2).
• Bigger size deepens drawdown faster, raising risk of ruin exactly when the edge is underperforming (1).

(c) (3)

• Normal streak = losses fall within expected variance of a positive-expectancy system; broken edge = statistical performance departs from the tested baseline (2).
• Signal: journal/review of rule-adherence + rolling expectancy vs. backtested distribution — losses on valid, well-executed setups suggest variance; losses coinciding with regime change / degraded metrics on followed rules suggest a broken edge (1).

Question 5 (8 marks)

(a) (5, 1 each) — steps must map to impulse control, e.g.:

1. Review written trading plan & today's allowed setups (anchors to rules).
2. Mark key levels & pre-define entry/stop/target zones (removes in-the-moment decisions).
3. Set max trades & max daily loss limit (caps impulsive over-trading).
4. Emotional/state check-in (fatigue, tilt readiness) — trade-or-skip gate.
5. Write the "if X then I do nothing" no-trade conditions (pre-commitment).

(b) (3, 1 each) — process-quality fields, e.g.:

• "Did the trade match a pre-defined setup? (Y/N)"
• "Was risk sized per plan? (Y/N)"
• "Rule-adherence / process rating (1–5) independent of P&L."

[
  {"claim":"Expectancy per trade is +180 rupees","code":"e = 0.40*1800 + 0.60*(-900); result = (e == 180)"},
  {"claim":"Expectancy in R is +0.2R","code":"e = (0.40*1800 + 0.60*(-900))/900; result = (Rational(e).limit_denominator() == Rational(1,5))"},
  {"claim":"Equity after 6 losses of 2% from 500000 is about 442921","code":"eq = 500000*Rational(98,100)**6; result = (abs(eq - 442921) < 1)"},
  {"claim":"2% x6 drawdown ~11.42 percent","code":"dd = 1 - Rational(98,100)**6; result = (abs(float(dd)-0.1142) < 0.001)"},
  {"claim":"5% x6 drawdown ~26.49 percent","code":"dd = 1 - Rational(95,100)**6; result = (abs(float(dd)-0.2649) < 0.001)"}
]