Traders Who Take Sex Hormones and the Impact of Investor Anger on Prices

"If taking female hormones actually helped you do your job, they would simply hire women here...But they don't. They don't think women are aggressive enough."

~ New York Post, citing an SAC employee and reprinted here.

A couple years ago I began coaching a trader with a hormonal problem.

On first meeting him I wouldn’t have noticed that anything was amiss.  As he described his history of trading – his glory days over the past decade -- his voice rose to a boom and he paced the room animatedly.  When I tried to cut in, he wouldn’t have it.  He was dominating the conversation…until he began to describe the present day, and then he deflated back into his chair.

He told me, “When I trade at my best I’m aggressive and decisive.  Ready for whatever the market throws at me.”

“And how have you been trading lately?” I asked.

“I’m none of those.  I’m indecisive and cautious.  I’m just sort of limp when I need to be strong and fast.  And I just keep losing money. You know, it’s as if I’ve lost my mojo.”

Trader Mojo

Mojo.  Immortalized for a generation by Austin Powers, mojo is manliness.  Without mojo there is no vigor, no sex drive, no aggressiveness.  Losing mojo is like losing the animating man-force.  When Austin Powers lost his mojo, he spent most of a movie trying to get it back.

The trader I was working with had symptoms of low mojo, and they mirror the symptoms of low testosterone – less aggressiveness, indecisiveness, cautiousness.  And there were a number of recent events in his life that are known to lower testosterone: a new baby with sleep disruption, co-sleeping with his baby at night, no longer exercising, and even becoming a vegetarian.

Was low testosterone turning this former shark into a wet noodle?

This week’s letter will discuss the role of testosterone in financial decision making, particularly in short-term trading.  Along with the testosterone theme, we examine Anger as a (inverse) predictive signal for future market prices.  In next week’s letter we’ll examine the role of gender and gender-specific hormones in financial decision making and national economic policy (yes, it appears the fiscal cliff is the fault of men, but more on that next week).

‘Roid Rage

From sensational stories of “roid rage” among body-builders in the 1980s to this fascinating podcast produced by This American Life, which discusses the role of testosterone in changing everyday feelings and behavior, testosterone has been long part of public discourse.

Testosterone level are fixed over the lives of men.  In fact, they rise and fall in response to life events, altering our moods and behavior in the process.  Testosterone levels decline an average of 1% per year in men after the age of 30.  But even more dramatic, baseline testosterone falls a median of 30% after men have young children.  It falls further when men sleep on the same surface/bed as their children (co-sleeping) and when they spend more time parenting.  According to a study described here, sleep loss also reduces men’s testosterone levels.  As a result, new fathers over the age of 30 are likely to experience plummeting testosterone levels, just when they need extra assertiveness and vigor to advance their careers.

Body-builders have long had a sub-culture oriented around testosterone and androgenic (virilizing) hormone use.  For all competitive athletes, an extra 1% performance boost from testosterone can be the difference between first place and mediocrity -- just ask Lance Armstrong, Floyd Landis, or the East German Olympic team.  Here is an image outlining the effects of testosterone on the body.   Yet testosterone cannot be easily replaced with supplements or “boosts” without significant side effects when taken over physiological norms, as described in this Mayo Clinic article.  Men who take testosterone supplements may not feel the mental and physical benefits are a worthy trade-off for enlarged breasts and shrunken testicles.

Beyond athletics, testosterone does significantly influence financial decision making as well.  John Coates, Ph.D. has collected evidence that testosterone level is not only correlated with, but is also predictive of, improved financial decision making among ultra-short term traders.

Investor Anger and Market Returns

Before we jump into examining the effects of testosterone on trader behavior, let’s look at an emotion that is often correlated with testosterone usage:  self-righteous anger. 

You’ve probably noticed that a high proportion of comments posted on social media sites are, well, impolite.  In fact, we’ve found enough naked hostility and open contempt in financial social media commentary to begin quantifying both Anger and Insults.  Our goal was to see if such combative comments were correlated with future stock returns in the equities about which such contempt was expressed. 

There are a few compelling examples of anger, like this graph of Netflix (NFLX) which broadly shows rising anger correlated with the share price decline, where Anger is the green line and the candlesticks represent NFLX stock price. 

But the question remains, is rising anger also predictive of a falling stock price?

To answer that question, we performed an unscientific study in which we looked at 40 ETFs tracking the largest indexes, sectors, and industries in North America with high Buzz (lots of chatter) in financial social media over the past 14 years (1998-2012).  We then sorted those ETFs by the percentage of that chatter that was Angry in the Thomson Reuters MarketPsych Indices.  The past 24 hours of Anger aggregated to 30 minutes before the close today (t) was matched to the percent return from today’s Close to tomorrow’s Close (t+1).  For each Quintile of Angry days - Angriest 20% of days is on top and least Angry 20% is on the bottom – we averaged the one-day return of that ETF over the following day. The sample included data from 1998-2012 but largely centered on 2008-2012 due to a higher number of ETFs being available for analysis over that period.

One Day Forward ETF Return	Quintiles
-0.01%	Highest Anger
-0.02%
0.03%	Middle Quintile
0.06%
0.10%	Lowest Anger

Assuming that you are short the ETFs with high anger and long the ones with low anger, then you may have an interesting strategy.  0.10% (10 bps) per day doesn’t sounds like much, but over a year that’s a 25% return (excluding transaction costs).

Now keep in mind that there are a number of problems with this 5 minute study:  no transaction costs were included, no portfolio construction was done, it included ETF’s depending on the overall Buzz level (a minimum of 2,000), it is not cross-sectional, there are it is not controlled for price momentum or other condition, etc...

Despite those caveats, it makes one wonder.  Does Anger predictably affect investors’ risk tolerance such that they will not take risk (invest) going forward, and thus prices are more likely to drop until their anger is worked out?  It’s worth investigating…

Anger isn’t directly related to testosterone, except in that the tendency to take revenge is in fact modulated by testosterone level.  And it’s not just revenge that increases with testosterone level – many other behaviors are also impacted by testosterone.

Effects of Testosterone On Behavior

John Coates’ testosterone research on traders is summarized in this terrific 2010 academic review and in this fascinating 2012 book: “The Hour Between Dog and Wolf.”  Coates holds a PhD in economics and a PhD in neuroscience. But more importantly, he also worked as a Wall Street trader for many years.  Coates began learning about the endocrine system while still on Wall Street, and in his book he lays out an argument that the boom-bust cycle in financial markets may be magnified by hormones and their effect on behavior.

Endocrinologists have found that many environmental influences alter human hormone levels and behavior.  For example, before any competition testosterone levels rise.  Then after the event the testosterone level of the winner rises further and that of the loser drops.  The winner moves on to the next competition with a now-higher baseline testosterone level, is likely to act more aggressively, and is more likely to win.  Interestingly, Coates and his colleagues report that, “one trader, who enjoyed a 5-day winning streak during which he made over twice his daily average P&L, experienced a 75 per cent increase in mean daily testosterone.”

High testosterone levels have been found by researchers to increase cognitive skills such as vigilance, scanning, speed of reactions, and search persistence.  And high testosterone improves focus of visual attention while decreasing distractability.  Further, studies some studies have found that testosterone level is correlated with risky behavior, sensation seeking, and vengeful behavior.  In some other studies, administered testosterone increases confidence and fearlessness in the face of novelty.

Based on the evidence, it would make sense that testosterone levels predict performance in rapid-fire trading.

Researcher’s Corner:  John Coates

In one study Coates sampled testosterone from 17 young male traders twice a day over a period of eight business days.  The results were impressive:  “[O]n days of high morning testosterone, the traders returned an afternoon profit … that was almost a full standard deviation higher than on ‘low-testosterone’ days. Interestingly, this relationship was even stronger among experienced traders …, i.e. those who had traded for longer than 2 years, suggesting that testosterone, at moderate levels, was not having its effect by encouraging overly risky behaviour but was instead optimizing performance, at least with respect to high-frequency trading.”  See this visualization of the difference between high and low testosterone trader performance.

In another study Coates examined the 2D:4D ratios in 44 traders.  The 2D:4D ratio is the length of the second digit (index finger) divided by the length of the fourth digit (ring finger).  See how it is measured below:

Prenatal exposure to testosterone influences both ring finger length and also brain structures related to risk-taking and behavior.  Coates and his colleagues found that the 2D:4D ratio “predicted both the traders’ P&Ls over a 20-month period and the number of years they had survived in the business. It also predicted, in line with the organizational/activational model, the sensitivity of the trading performance of the original 14 traders [who participated in the first study cited] to increases in circulating testosterone: the lower the trader's 2D:4D, the more money he made when his testosterone levels rose.”

Having high testosterone levels or a high D2:D4 ratio comes with some baggage, as the ratio is also correlated with infidelity.  Case in point:

OK, OK, that picture is doctored (from here).  But still....

Coates summarizes his research findings as, “[O]ur results suggest that higher levels of circulating testosterone predict short-term profitability and higher levels of pre-natal testosterone predict long-term profitability, at least in the segment of the market inhabited by high-frequency traders.”  As Coates notes, these results are valid for short term traders, but not necessarily for longer-term analysts or investors. 

It’s not clear that long-lasting elevations in testosterone, such as during a winning streak are good for traders.  It’s likely that traders, like dominant animals in the wild, will become overextended as they win.  Male animals who defeat rivals and thus control more territory experience a downside to their success.  Ultimately these alpha males suffer more injuries and have a shorter overall life-span.  Live by the sword, die by the sword.

It is quite possible that traders who are successful serially and who have higher testosterone levels will begin to feel fearless and become sloppy with their risk management.  Testosterone facilitates sensitivity to dopamine secretion in the brain’s reward system – specifically in the nucleus accumbens.  As a result, higher testosterone levels are likely to lead to increased risk taking – pushing the envelope.  That is good until it goes too far and a major loss ensues.  This is the contribution of testosterone to the boom-bust cycle that John Coates hypothesizes.

DHEA and HGH

Because testosterone itself provokes a range of adverse effects when taken above physiologic norms, researchers have studied sex hormone precursors such as DHEA to see if supplementation with this substance will increase testosterone availability more naturally.  DHEA is a precursor of testosterone that was long thought to improve cognitive functioning and stress resistance.  Unfortunately for those seeking a testosterone-boosting short-cut, in fact studies have not borne out that there are any psychological benefits of DHEA (see this review and this study of military trainees).

The following image of the body’s manufacturing pathway from cholesterol to testosterone is from medicalinsider.com (here).  As you can see in the image, increasing testosterone by augmenting its precursors may also leads to higher levels of associated hormones such as Estrogen.

Most traders are probably not looking for increased estrogen.

Other hormones such as Human Growth Hormone (HGH), famously taken by many of Hollywood’s over-50 elite, do not increase testosterone levels.  And while HGH appears to have a number of beneficial effects on physique, mood, and well-being, the long-term effects of use are not yet clear.

As of yet there is no wonder-pill to increase trading or investment prowess.  Which brings us to natural remedies for keeping our bodies and hormonal systems healthy.

Boosting Your Mojo

When Dr. Evil drank a vial of Austin Powers’ mojo, he … (well, I won’t recommend you watch the entire clip, but you’ll get the idea in a few seconds). 

Like Dr. Evil and Austin Powers’ mojo, traders who take testosterone aren’t necessarily going to see benefits from the hormone.  There are significant side effects, and traders should speak with a physician is they suspect something is wrong.

In my work as a coach, I find that the best approaches for boosting testosterone in traders are natural means:
1.  Get a good night’s sleep (7-8.5 hours),
2.  Get regular and vigorous exercise,
3.  Eat foods that raise testosterone,
4.  Don’t nap/sleep near your infant children,
5.  Exercise vigorously.  Exercise is even better for boosting testosterone when it is competitive and you win.  But beware when a favorite sports team loses, that loss will literally drop your testosterone levels further.

Here are tips for increasing testosterone naturally on the LiveStrong website.

Boosting Your Mojo

In our personality research, we see that women and men have similar performance as short-term traders, but in longer term investing, women have far better performance than men.  So while testosterone may benefit men in short-term trading, where decisions must be made rapidly and aggressively, for longer term strategic decision making it is unclear that testosterone offers an advantage.  In fact, in our personality data, we see that men are much more likely to make testosterone-fueled errors characteristic of “seeking pride” (selling winners too soon) and revenge investing to “get back” what the market took away.  These biases are unique to men and significantly erode their long-term investment performance.

Next week’s newsletter will look at gender differences between men and women in financial decision making, how the differences manifest, and how to improve our own gender-biased behavior.  The research may surprise you…

Hosuekeeping and Closing

We recently launched the Thomson Reuters MarketPsych Indices for monitoring market psychology for 30 currencies, 50 commodities, 120 countries, and 40 equity sectors and industries in social and news media.  In subsequent weeks we’re going to have interesting charts related to global macro sentiment trends as our new data is plugged into our internal visualization software.

In the next month we will be speaking in New York at Quant Invest and our Chief Data Scientist, Aleksander Fafula Ph.D., is speaking at Predictive Analytics World  in London.

We love to chat with our readers about their experience with psychology in the markets - we look forward to hearing from you!  We especially love interesting stories or your or others experiences.

We have speaking and training availability.  Please contact Derek Sweeney at the Sweeney Agency to book us: [email protected], +1-866-727-7555

Happy Investing!

Richard L. Peterson, M.D. and The MarketPsych Team