System 1 vs System 2 Thinking for Traders

System 1 vs System 2 Thinking for Traders

System 1 System 2 Thinking

Nobel laureate Danial Kahneman is one the worlds eminent experts when it comes to decision making. In his book “Thinking Fast and Slow” he describes how the brain is divided into two agents which he calls System 1 and System 2. System 1 and System 2 produce fast and slow thinking respectively.

  • System 1 thinking refers to our intuitive thinking system, which is fast, automatic and effortless. We make most of our decisions in life through system 1 thinking.
  • By contrast, System 2 refers to thinking that is slower, conscious, effortful and dominated by reason.

As traders our decisions need to be quick and effortless (system 1) because the best opportunities in the markets are often short lived. Being able to think and react quickly is one of the hallmarks of a great trader, capitalise quickly when the market offers up an opportunity.

In order to achieve this intuitive system 1 type thinking, you need to spend a significant amount of time thinking about and planning your trades (system 2). This process is slow and effortful. Your planning occurs way before you take the trade void of emotion and ground in reason.

Modern science has once again highlighted the importance of the old trading tenet – “Plan your trade, trade your plan”.

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