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.

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.  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.

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.  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, although the effect of DHEA on the body is similar to that of testosterone and anabolic steroids.

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.

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/co-sleep near your infant children,
5.  Exercise vigorously.  Exercise is even better for boosting testosterone when it is competitive and you win.  But even competition by proxy affects testosterone.  When a favorite sports team loses, that loss drops fans' testosterone.

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...

Trading recap from last newsletter:  Short on Netflix was incorrect, as NFLX gained 2% from the week's delayed open.  Short on Excelon (EXC) was correct, as EXC dropped 4% from the week's delayed open as energy stocks sold off.  Mild long on S&P 500 was incorrect, with a 2% decline from the week's open, as there was definitely not an election relief rally - the fiscal cliff swung into view much faster than expected.

Week ahead:  We're seeing a one-week buy on DryShips (DRYS) - high levels of investor disgust and a steep stock fall often precede a bounce.  We're also seeing a one-week short on InterOil Corp (IOC) - despite a decline in the stock, sentiment remains quite positive.  Such positivity usually precedes a continued decline.  (See Disclaimer below).

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!