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Professor Tom McCurdy speaks to a student at a simulated trading floor in Rotman School of Management in Toronto on Friday, March 16, 2012. (Michelle Siu for The Globe and Mail)
Professor Tom McCurdy speaks to a student at a simulated trading floor in Rotman School of Management in Toronto on Friday, March 16, 2012. (Michelle Siu for The Globe and Mail)


Mastering the art of rational exuberance Add to ...

In a computer-stuffed classroom in downtown Toronto, a group of professors is engaged in an audacious experiment: to see if they can create great traders in a laboratory.

Hundreds of commerce and MBA students at the University of Toronto’s Rotman School of Management have been learning how to win in the market. Just as novice pilots master the art of flying in a flight simulator, these students learn to trade in an artificial environment that recreates a Bay Street trading floor.

Each student sits at a desk with two screens while wrestling with fictional scenarios that mimic situations a real trader would encounter. Rotman’s proprietary software throws years of real market data at them in the space of a few hours.

The lab experience is designed to expose flaws in students’ behaviour that could cost them and their employers millions of dollars in the real world. Most glaring is the innate tendency for even the brightest pupils to let their emotions overwhelm reason. At a time when the financial crisis is still fresh in memory, Bay Street is eager to hire traders and risk managers who can navigate volatility without losing their heads.

“The mechanics of trading are really quite simple,” Kevin Mak, manager of Rotman’s Financial Research and Training Lab, says. “This is really about students learning about themselves.”

Ordinary investors may want to ponder some of the psychological weaknesses revealed in the lab. Take, for instance, the tendency to get swept up in the excitement of the moment.

In one of the lab cases, students are presented with a stock that trades at $20. The company receives a takeover offer of $40 a share – but there is only a 50-per-cent chance that the deal will go through. How much should the students be willing to pay for the shares?

The mathematically correct answer is $30, which represents the midway point between the $20 original value and the $40 bid that has a 50-50 chance of materializing. Time and time again, however, students pay more than $30. “They do this because of a positive bias towards good events happening,” Mr. McCurdy says.

To truly master the markets, a trader needs 10 years of experience, Mr. Mak estimates. Through computer simulation, “our students can potentially gain years of trading and investment experience in months, which helps accelerate this learning curve.”

The Rotman lab has been operating since 2005, and is becoming a force in global business education as its portfolio of trading-related case studies expands. Its software and case studies are now licensed by 35 schools around the world.

About 150 students, who each spend at least 50 hours in the lab, will head off to Bay Street this spring, many of them to the investment arms of Canada’s big banks.

“More than half of our new graduate hires in equities trading over the last five years have come out of this program. It’s a definite leg up,” says Charles Connor, executive director of equity portfolio trading at CIBC World Markets Inc.

Klara Gotz, now an investment analyst with Mackenzie Financial Corp., says the lab allowed her and other students to experience the emotional swings that can be involved with trading large portfolios even though real money wasn’t involved. They were forced to make choices in uncertain situations, and learned that the best results come from sticking to a core strategy and shutting out market noise.

The case studies are designed to drive home the fact that smart trades sometimes lose money. Likewise, ill-advised trades sometimes turn a profit. Students can’t let a run of good or bad luck push them into deserting a sound, long-term strategy.

They learn about the dangers of overconfidence through scenarios that simulate market bubbles. As prices head into irrational territory, students tend to keep buying, mistakenly believing that they will be able to sell out before the rest of the market.

“They always fall for it,” says Tom McCurdy, a professor of finance and director of the lab. “Trading is not just about making money, it’s about managing risks and returns.”

One core lesson of the lab is that markets are full of unpredictable events. If students are working on a case study involving trading in gas futures, for example, they practice dealing with swings in weather patterns and oil reserves. Just when they’ve mastered that, they get hit with an emergency – a pipeline break, for instance – to learn how to react to crisis without emotional reflexes.

“Markets normally go up over time. It’s the unusual that disturbs people. The training is about gaining exposure to these stressful events,” Mr. Mak says.

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