TRADING IN THE ZONE
MASTER THE MARKET WITH
CONFIDENCE, DISCIPLINE AND
A WINNING ATTITUDE
MARK DOUGLAS
Foreword by Thorn Hartle
NEW YORK INSTITUTE OF FINANCE
wcw VHDV • Tnnnurn . cvnucv • Tnrvn • cinr.«pnpc
Library of Congress Cataloging-in-Publication Data
Douglas, Mark (Mark J.)
Trading in the zone : master the market with confidence, discipline, and a
winning attitude / by Mark Douglas,
p. cm.
ISBN 0-7352-0144-7 (cloth)
1. Stocks. 2. Speculation. I. Title.
HG6041 .D59 2001
332.64—dc21 00 045251
© 2000 by Prentice Hall
All rights reserved. No part of this book may be reproduced in
any form or by any means, without permission in writing from
the publisher.
Printed in the United States of America
10 9876 5 4321
This publication is designed to provide accurate and authoritative
information in regard to the subject matter covered. It is sold with the understanding
that the publisher is not engaged in rendering legal, accounting, or
other professional service. If legal advice or other expert assistance is required,
the services of a competent professional person should be sought.
. . . From the Declaration of Principles jointly adopted by a
Committee of the American Bar Association and a Committee
of Publishers and Associations.
ISBN D-73SE-DmM-7
ATTENTION: CORPORATIONS AND SCHOOLS
Prentice Hall books are available at quantity discounts with bulk purchase for educational,
business, or sales promotional use. For information, please write to: Prentice Hall,
Special Sales, 240 Frisch Court, Paramus, N] 07652. Please supply: title of book, ISBN,
quantity, how the book will be used, date needed.
NEW YORK INSTITUTE OF FINANCE
An Imprint of Prentice Hall Press
Paramus, NJ 07652
http://www.phdirect.com
NYIF and NEW YORK INSTITUTE OF FINANCE are trademarks of Executive
Tax Reports, Inc. used under license by Prentice Hall Direct, Inc.
DEDICATION
This book is dedicated to all of the traders I have had the pleasure of working with over the last 18
years as a trading coach. Each of you in your own unique way is a part of the insight and guidance this
book will provide to those who choose to trade from a confident, disciplined, and consistent state of
mind.
o
TABLE OF CONTENTS
FOREWORD . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . xi
PREFACE . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . xm
ATTITUDE SURVEY . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . xvii
_________________CHAPTER 1___________
THE ROAD TO SUCCESS:
FUNDAMENTAL, TECHNICAL,
OR MENTAL ANALYSIS?
IN THE BEGINNING: FUNDAMENTAL ANALYSIS . . . . . . . . . . 1
THE SHIFT TO TECHNICAL ANALYSIS . . . . . . . . . . . . . . . . . 3
THE SHIFT TO MENTAL ANALYSIS . . . . . . . . . . . . . . . . . . . 4
_____________________CHAPTER 2_______________
THE LURE (AND THE DANGERS)
OF TRADING
THE ATTRACTION . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17
THE DANGERS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 20
THE SAFEGUARDS. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25
Problem: The Unwillingness to Create Rules. . . . . . . 27
Problem: Failure to Take Responsibility . . . . . . . . . . 28
Problem: Addiction to Random Rewards . . . . . . . . . 30
Problem: External versus Internal Control........ 31
_______________CHAPTER 3______________
TAKING RESPONSIBILITY
SHAPING YOUR MENTAL ENVIRONMENT. . . . . . . . . . . . . . . 34
REACTING TO LOSS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 38
WINNERS, LOSERS, BOOMERS, AND BUSTERS . . . . . . . . . . 50
___________CHAPTER 4_______________
CONSISTENCY: A STATE OF MIND
THINKING ABOUT TRADING . . . . . . . . . . . . . . . . . . . . . . . . 58
REALLY UNDERSTANDING RISK. . . . . . . . . . . . . . . . . . . . . . 61
ALIGNING YOUR MENTAL ENVIRONMENT . . . . . . . . . . . . . . 64
___________CHAPTER 5________________
THE DYNAMICS OF PERCEPTION
DEBUGGING YOUR MENTAL SOFTWARE . . . . . . . . . . . . . . . 70
PERCEPTION AND LEARNING . . . . . . . . . . . . . . . . . . . . . . . 74
PERCEPTION AND RISK . . . . . . . . . . . . . . . . . . . . . . . . . . . . 79
THE POWER OF ASSOCIATION. . . . . . . . . . . . . . . . . . . . . . . 80
___________CHAPTER 6_____________
THE MARKET'S PERSPECTIVE
THE "UNCERTAINTY" PRINCIPLE . . . . . . . . . . . . . . . . . . . . 88
THE MARKET'S MOST FUNDAMENTAL CHARACTERISTIC. .. 93
_____________CHAPTER 7__________
THE TRADER'S EDGE: THINKING IN PROBABILITIES
PROBABILITIES PARADOX: RANDOM OUTCOME, CONSISTENT RESULTS. . . . 102
TRADING IN THE MOMENT. . . . . . . . . . . . . . . . . . . . . . . . . 106
MANAGING EXPECTATIONS . . . . . . . . . . . . . . . . . . . . . . . . . 113
ELIMINATING THE EMOTIONAL RISK . . . . . . . . . . . . . . . . . 120
_______ CHAPTER 8__________
WORKING WITH YOUR BELIEFS
DEFINING THE PROBLEM . . . . . . . . . . . . . . . . . . . . . . . . . . 125
DEFINING THE TERMS . . . . . . . . . . . . . . . . . . . . . . . . . . . . 128
HOW THE FUNDAMENTAL TRUTHS RELATE TO THE SKILLS . . . . . . . . . . . . . . . . . . . 130
MOVING TOWARD "THE ZONE". . . . . . . . . . . . . . . . . . . . . . 135
___________CHAPTER 9_________________
THE NATURE OF BELIEFS
THE ORIGINS OF A BELIEF. . . . . . . . . . . . . . . . . . . . . . . . . 139
BELIEFS AND THEIR IMPACT ON OUR LIVES . . . . . . . . . . . 142
BELIEFS vs. THE TRUTH. . . . . . . . . . . . . . . . . . . . . . . . . . . 147
________CHAPTER 10__________
THE IMPACT OF BELIEFS ON TRADING
THE PRIMARY CHARACTERISTICS OF A BELIEF . . . . . . . . . . 153
SELF-EVALUATION AND TRADING . . . . . . . . . . . . . . . . . . . . 167
__________CHAPTER 11___________
THINKING LIKE A TRADER
THE MECHANICAL STAGE. . . . . . . . . . . . . . . . . . . . . . . . . . 173
THE ROLE OF SELF-DISCIPLINE. . . . . . . . . . . . . . . . . . . . . 179
CREATING A BELIEF IN CONSISTENCY . . . . . . . . . . . . . . . . 184
EXERCISE: LEARNING TO TRADE AND EDGE LIKE A
CASINO . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 189
A FINAL NOTE . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 201
ATTITUDE SURVEY . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 203
INDEX . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 209
FOREWORD
The great bull market in stocks has led to an equally great bull market in the number of books
published on the subject of how to make money trading the markets. Many ideas abound, some good,
some not, some original, some just a repackaging of earlier works. Occasionally, though, a writer
comes forward with something that really sets him or her apart from the pack, something special. One
such writer is Mark Douglas. Mark Douglas, in Trading in the Zone, has written a book that is the
accumulation of years of thought and research—the work of a lifetime—and for those of us who view
trading as a profession, he has produced a gem.
Trading in the Zone is an in-depth look at the challenges that we face when we take up the challenge of
trading. To the novice, the only challenge appears to be to find a way to make money. Once the novice
learns that tips, brokers' advice, and other ways to justify buying or selling do not work consistently, he
discovers that he either needs to develop a reliable trading strategy or purchase one. After that, trading
should be easy, right? All you have to do is follow the rules, and the money will fall into your lap.
At this point, if not before, novices discover that trading can turn into one of the most frustrating
experiences they will ever face.
This experience leads to the oft-started statistic that 95 percent of futures traders lose all of their money
within the first year of trading. Stock traders generally experience the same results, which is why
pundits always point to the fact that most stock traders fail to outperform a simple buy and hold
investment scenario.
So, why do people, the majority of whom are extremely successful in other occupations, fail so
miserably as traders? Are successful traders born and not made? Mark Douglas says no. What's
necessary, he says, is that the individual acquire the trader's mindset. It sounds easy, but the fact is, this
mindset is very foreign when compared with the way our life experiences teach us to think about the
world.
That 95-percent failure rate makes sense when you consider how most of us experience life, using
skills learned as we grow. When it comes to trading, however, it turns out that the skills we learn to
earn high marks in school, advance our careers, and create relationships with other people, the skills we
are taught that should carry us through life, turn out to be inappropriate for trading. Traders, we find
out, must learn to think in terms of probabilities and to surrender all of the skills we have acquired to
achieve in virtually every other aspect of our lives. In Trading in the Zone, Mark Douglas teaches us
how. He has put together a very valuable book. His sources are his own personal experiences as a
trader, a traders coach in Chicago, author, and lecturer in his field of trading psychology.
My recommendation? Enjoy Douglas's Trading in the Zone and, in doing so, develop a trader's
mindset.
PREFACE
The goal of any trader is to turn profits on a regular basis, yet so few people ever really make consistent
money as traders. What accounts for the small percentage of traders who are consistently successful?
To me, the determining factor is psychological—the consistent winners think differently from everyone
else.I started trading in 1978. At the time, I was managing a commercial casualty insurance agency in
the suburbs of Detroit, Michigan. I had a very successful career and thought I could easily transfer that
success into trading. Unfortunately, I found that was not the case.
By 1981, I was thoroughly disgusted with my inability to trade effectively while holding another job,
so I moved to Chicago and got a job as a broker with Merrill Lynch at the Ch
TRADING IN THE ZONE
MASTER THE MARKET WITH
CONFIDENCE, DISCIPLINE AND
A WINNING ATTITUDE
MARK DOUGLAS
Foreword by Thorn Hartle
NEW YORK INSTITUTE OF FINANCE
wcw VHDV • Tnnnurn . cvnucv • Tnrvn • cinr.«pnpc
Library of Congress Cataloging-in-Publication Data
Douglas, Mark (Mark J.)
Trading in the zone : master the market with confidence, discipline, and a
winning attitude / by Mark Douglas,
p. cm.
ISBN 0-7352-0144-7 (cloth)
1. Stocks. 2. Speculation. I. Title.
HG6041 .D59 2001
332.64—dc21 00 045251
© 2000 by Prentice Hall
All rights reserved. No part of this book may be reproduced in
any form or by any means, without permission in writing from
the publisher.
Printed in the United States of America
10 9876 5 4321
This publication is designed to provide accurate and authoritative
information in regard to the subject matter covered. It is sold with the understanding
that the publisher is not engaged in rendering legal, accounting, or
other professional service. If legal advice or other expert assistance is required,
the services of a competent professional person should be sought.
. . . From the Declaration of Principles jointly adopted by a
Committee of the American Bar Association and a Committee
of Publishers and Associations.
ISBN D-73SE-DmM-7
ATTENTION: CORPORATIONS AND SCHOOLS
Prentice Hall books are available at quantity discounts with bulk purchase for educational,
business, or sales promotional use. For information, please write to: Prentice Hall,
Special Sales, 240 Frisch Court, Paramus, N] 07652. Please supply: title of book, ISBN,
quantity, how the book will be used, date needed.
NEW YORK INSTITUTE OF FINANCE
An Imprint of Prentice Hall Press
Paramus, NJ 07652
http://www.phdirect.com
NYIF and NEW YORK INSTITUTE OF FINANCE are trademarks of Executive
Tax Reports, Inc. used under license by Prentice Hall Direct, Inc.
DEDICATION
This book is dedicated to all of the traders I have had the pleasure of working with over the last 18
years as a trading coach. Each of you in your own unique way is a part of the insight and guidance this
book will provide to those who choose to trade from a confident, disciplined, and consistent state of
mind.
o
TABLE OF CONTENTS
FOREWORD . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . xi
PREFACE . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . xm
ATTITUDE SURVEY . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . xvii
_________________CHAPTER 1___________
THE ROAD TO SUCCESS:
FUNDAMENTAL, TECHNICAL,
OR MENTAL ANALYSIS?
IN THE BEGINNING: FUNDAMENTAL ANALYSIS . . . . . . . . . . 1
THE SHIFT TO TECHNICAL ANALYSIS . . . . . . . . . . . . . . . . . 3
THE SHIFT TO MENTAL ANALYSIS . . . . . . . . . . . . . . . . . . . 4
_____________________CHAPTER 2_______________
THE LURE (AND THE DANGERS)
OF TRADING
THE ATTRACTION . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17
THE DANGERS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 20
THE SAFEGUARDS. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25
Problem: The Unwillingness to Create Rules. . . . . . . 27
Problem: Failure to Take Responsibility . . . . . . . . . . 28
Problem: Addiction to Random Rewards . . . . . . . . . 30
Problem: External versus Internal Control........ 31
_______________CHAPTER 3______________
TAKING RESPONSIBILITY
SHAPING YOUR MENTAL ENVIRONMENT. . . . . . . . . . . . . . . 34
REACTING TO LOSS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 38
WINNERS, LOSERS, BOOMERS, AND BUSTERS . . . . . . . . . . 50
___________CHAPTER 4_______________
CONSISTENCY: A STATE OF MIND
THINKING ABOUT TRADING . . . . . . . . . . . . . . . . . . . . . . . . 58
REALLY UNDERSTANDING RISK. . . . . . . . . . . . . . . . . . . . . . 61
ALIGNING YOUR MENTAL ENVIRONMENT . . . . . . . . . . . . . . 64
___________CHAPTER 5________________
THE DYNAMICS OF PERCEPTION
DEBUGGING YOUR MENTAL SOFTWARE . . . . . . . . . . . . . . . 70
PERCEPTION AND LEARNING . . . . . . . . . . . . . . . . . . . . . . . 74
PERCEPTION AND RISK . . . . . . . . . . . . . . . . . . . . . . . . . . . . 79
THE POWER OF ASSOCIATION. . . . . . . . . . . . . . . . . . . . . . . 80
___________CHAPTER 6_____________
THE MARKET'S PERSPECTIVE
THE "UNCERTAINTY" PRINCIPLE . . . . . . . . . . . . . . . . . . . . 88
THE MARKET'S MOST FUNDAMENTAL CHARACTERISTIC. .. 93
_____________CHAPTER 7__________
THE TRADER'S EDGE: THINKING IN PROBABILITIES
PROBABILITIES PARADOX: RANDOM OUTCOME, CONSISTENT RESULTS. . . . 102
TRADING IN THE MOMENT. . . . . . . . . . . . . . . . . . . . . . . . . 106
MANAGING EXPECTATIONS . . . . . . . . . . . . . . . . . . . . . . . . . 113
ELIMINATING THE EMOTIONAL RISK . . . . . . . . . . . . . . . . . 120
_______ CHAPTER 8__________
WORKING WITH YOUR BELIEFS
DEFINING THE PROBLEM . . . . . . . . . . . . . . . . . . . . . . . . . . 125
DEFINING THE TERMS . . . . . . . . . . . . . . . . . . . . . . . . . . . . 128
HOW THE FUNDAMENTAL TRUTHS RELATE TO THE SKILLS . . . . . . . . . . . . . . . . . . . 130
MOVING TOWARD "THE ZONE". . . . . . . . . . . . . . . . . . . . . . 135
___________CHAPTER 9_________________
THE NATURE OF BELIEFS
THE ORIGINS OF A BELIEF. . . . . . . . . . . . . . . . . . . . . . . . . 139
BELIEFS AND THEIR IMPACT ON OUR LIVES . . . . . . . . . . . 142
BELIEFS vs. THE TRUTH. . . . . . . . . . . . . . . . . . . . . . . . . . . 147
________CHAPTER 10__________
THE IMPACT OF BELIEFS ON TRADING
THE PRIMARY CHARACTERISTICS OF A BELIEF . . . . . . . . . . 153
SELF-EVALUATION AND TRADING . . . . . . . . . . . . . . . . . . . . 167
__________CHAPTER 11___________
THINKING LIKE A TRADER
THE MECHANICAL STAGE. . . . . . . . . . . . . . . . . . . . . . . . . . 173
THE ROLE OF SELF-DISCIPLINE. . . . . . . . . . . . . . . . . . . . . 179
CREATING A BELIEF IN CONSISTENCY . . . . . . . . . . . . . . . . 184
EXERCISE: LEARNING TO TRADE AND EDGE LIKE A
CASINO . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 189
A FINAL NOTE . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 201
ATTITUDE SURVEY . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 203
INDEX . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 209
FOREWORD
The great bull market in stocks has led to an equally great bull market in the number of books
published on the subject of how to make money trading the markets. Many ideas abound, some good,
some not, some original, some just a repackaging of earlier works. Occasionally, though, a writer
comes forward with something that really sets him or her apart from the pack, something special. One
such writer is Mark Douglas. Mark Douglas, in Trading in the Zone, has written a book that is the
accumulation of years of thought and research—the work of a lifetime—and for those of us who view
trading as a profession, he has produced a gem.
Trading in the Zone is an in-depth look at the challenges that we face when we take up the challenge of
trading. To the novice, the only challenge appears to be to find a way to make money. Once the novice
learns that tips, brokers' advice, and other ways to justify buying or selling do not work consistently, he
discovers that he either needs to develop a reliable trading strategy or purchase one. After that, trading
should be easy, right? All you have to do is follow the rules, and the money will fall into your lap.
At this point, if not before, novices discover that trading can turn into one of the most frustrating
experiences they will ever face.
This experience leads to the oft-started statistic that 95 percent of futures traders lose all of their money
within the first year of trading. Stock traders generally experience the same results, which is why
pundits always point to the fact that most stock traders fail to outperform a simple buy and hold
investment scenario.
So, why do people, the majority of whom are extremely successful in other occupations, fail so
miserably as traders? Are successful traders born and not made? Mark Douglas says no. What's
necessary, he says, is that the individual acquire the trader's mindset. It sounds easy, but the fact is, this
mindset is very foreign when compared with the way our life experiences teach us to think about the
world.
That 95-percent failure rate makes sense when you consider how most of us experience life, using
skills learned as we grow. When it comes to trading, however, it turns out that the skills we learn to
earn high marks in school, advance our careers, and create relationships with other people, the skills we
are taught that should carry us through life, turn out to be inappropriate for trading. Traders, we find
out, must learn to think in terms of probabilities and to surrender all of the skills we have acquired to
achieve in virtually every other aspect of our lives. In Trading in the Zone, Mark Douglas teaches us
how. He has put together a very valuable book. His sources are his own personal experiences as a
trader, a traders coach in Chicago, author, and lecturer in his field of trading psychology.
My recommendation? Enjoy Douglas's Trading in the Zone and, in doing so, develop a trader's
mindset.
PREFACE
The goal of any trader is to turn profits on a regular basis, yet so few people ever really make consistent
money as traders. What accounts for the small percentage of traders who are consistently successful?
To me, the determining factor is psychological—the consistent winners think differently from everyone
else.I started trading in 1978. At the time, I was managing a commercial casualty insurance agency in
the suburbs of Detroit, Michigan. I had a very successful career and thought I could easily transfer that
success into trading. Unfortunately, I found that was not the case.
By 1981, I was thoroughly disgusted with my inability to trade effectively while holding another job,
so I moved to Chicago and got a job as a broker with Merrill Lynch at the Ch
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