Why trading is very different to investing.
When we manage our wealth, we need to look beyond our current needs and to the next generations. The first objective is not to lose the money we have earned, and the second objective is compound growth. Historically, the best way to do that is to buy equities, possibly a few bonds to give us income and it all works very well. Trading is entirely different. That is because we have to expect that on average 50% of our investments will end up losing money. The aim is to make more on the ones that work and lose less on the ones that go against us.
As you can probably imagine, no one likes to take a fifty-fifty bet. What we want is to skew the odds in our favour and by doing things repeatedly, even the tiniest of margins can produce spectacular returns. Think about doing 100 trades a day, whereby we either double our money if we get it right, or lose it all if we are wrong. All we need is a winning percentage of 51%, and we can make money every day.
Sounds simple enough, and how difficult can it really be to just do better than average? Particularly, with all the tools at our disposal, from fundamental or technical analysis to macroeconomic research and quantitative modelling. We even have artificial intelligence, machine learning and all the computing power money can buy in a world where trillions of Dollars, Euros and Yens are invested in nanoseconds into all types of different trading strategies.
Problem is, for every trade that wins, you need someone else to lose. In other words, the success of trading is predicated entirely on taking away money from other traders. Imagine a pond full of fish and two sharks. In the beginning, the sharks can eat as many fish as they like, but as the stocks dwindle, it is just the two of them that are left scouring the waters for food. In the infamous words of the Kurgan in the classic movie Highlander (1986): there can be only one. Trying to pick a winner amongst two equally skilled predators seems fairly random, and there is a reason why most trading models have stopped working as technology, knowledge and capabilities became more widely dispersed. So, if you still think you can skew the odds in your favour and want to give trading a go, remember that most important rule of all: don’t be the fish that feeds the other sharks.