There Are Two Types Of Traders

(c) Dean Whittingham 2008 

Some traders will go through system after system, teacher after teacher, wasting thousands of dollars not only in useless systems but in lost trades before they realize they’ve been approaching the markets from the wrong standpoint because they’ve been trying to trade the wrong type of system.

The two types of traders are the mechanical type trader and the discretionary type trader. Therefore, there are two types of trading systems, a mechanical system and a discretionary system. The difference between the two is quite large not only in the way the market and possible trades are analyzed but in the psychological make-up of the trader themselves.

Looking at the analysis side of things first, a mechanical system is a complete set of rules that are set in stone and should never be broken. These aren’t the sorts of rules a trader might place on their wall and call the golden rules because they are personal, such as never trade when tired, always eat before trading etc. Mechanical trading system rules are the sorts of rules that would allow you to employ someone to trade your system on your behalf; because they are clear cut and involve absolutely no decision making.

A discretionary system on the other hand involves a decision making process that can range from a check list to economic and fundamental viewpoints. The point is that the trader or investor has a bias or view based on any evidence presented to them and depending on the level at which the trader feels comfortable will gather as much evidence as possible to support this view.

The psychological difference between the two types is the trader themselves, an area that the trader should uncover first before ever attempting to trade. I’m going to use an example of the business franchise model employed by McDonalds to give you an idea of the difference between the two.

Let’s say you had a lazy million dollars spare and thought that buying a McDonalds restaurant sounded like a good idea. The most important question you need to ask your self is, once I purchase the restaurant, am I going to be able to allow it to run according to McDonalds strict rules, or am I the sort of person who will want to make changes; am I going to want to do things my way?

In a franchise model, you can’t be the sort of person who is entrepreneurial because an entrepreneur by their very nature likes to create, invent, trial things and learn their own way, and the franchiser does not want you changing the system. The perfect franchisee on the other hand has no entrepreneurial skills but makes up for it by being a hard worker willing to follow rules.

And there lies a key difference between a mechanical type trader and a discretionary one. The mechanical trader (if disciplined enough), will make a mechanical trading system work (as long as their resources allow the system to operate efficiently) because there are no decisions to make, and by their very nature they like to avoid decisions.

The discretionary trader on the other hand likes to make decisions; it is part of their psychological make-up. They enjoy the challenge and the process involved very much like an entrepreneur does and so needs a trading system that challenges them to make decisions.

If you are having difficulty in deciding which type you are, some simple questions you can ask yourself is how you feel when you have to make decisions, especially multiple choice questions. If you don’t like it you are probably more likely the mechanical type. Another question is how you feel when analyzing, because if it intimidates you then you are definitely more suited to a mechanical approach.