In our continuing attempt to highlight investment topics with non-financial analogies we bring you the issue of menu length. The fine folks at web application developer 37signals examine the topic of “excess choice” in the context of restaurant menus. (The point was driven home to use because we have actually dined in one of the establishments mentioned!) Although the lesson they draw is in the context of application development it is just as useful for traders as well.
The problem with the Leona’s approach is choice has a cost. It’s one of the reasons why we always talk about less here: Endless options can actually produce genuine suffering. “The Paradox of Choice” (good summary at the New Yorker) talks about how options can actually be “de-motivating.” Offering shoppers samples of six items yields more sales than offering samples of 24, students who are offered six extra credit topics are more likely to write a paper than students who are offered 30, etc. In some cases, just one additional choice can produce outright analysis paralysis. People wind up frozen by indecision.
In a world where technical analysis applications have dozens (if not hundreds) of indicators, and a nearly infinite combination of parameters, this lesson should ring true. It should not be surprising that traders can become indecisive in the face of this information overload. This “analysis paralysis” is most likely to strike at times of high market stress. Traders need to remember that models are there to serve your trading, not the other way around.
Model building, which can take many forms, should only be as complicated as it needs to be – no more, no less. While additional indicators or variables may make a back-test look better in theory, in practice this additional complexity will only make the actual application of the model more problematic. Trading is never easy, but it can be a bit more manageable with well-designed, streamlined models.