In 2015 a major trading firm listed on the NYSE did a study of their clients’ trading habits over the prior semester. They collected data on how often trades were successful and how much money the traders ultimately made.
While the conclusions were very interesting, they reported some good news and some bad news.
Let’s get over the bad first: The disappointing fact they discovered is that the average trader lost money over the trading period. Which might sound a bit depressing if we don’t consider why…
Losses are more important than gains to overall success.
The data showed that the average trader had more trades ending in the green than in the red. So, they were using the right strategy to get in the market. The problem was, they were using the wrong strategy to exit.
The average trader was right 61% of the time. But lost 80 pips for every 44 gained. This meant that over time, the trader’s balance would consistently diminish.
But that was the average trader. What about the professional trader?
Being right doesn’t make you a winner
The data also tracked the successful or professional trader – defined by traders who ultimately made more pips than lost. (The study excluded relative money values of the accounts, because the focus was on how profitable the trades were, not who had the most money).
The shocking revelation of the study was that a professional trader is not necessarily all that more adept at predicting the market move: they averaged 63% accuracy on their trades. Which is just slightly above the average trader.
There were even some (albeit outliers) who actually got more trades wrong than right, but still ended up making money. How did they pull this off?
Money management
… is boring. Let’s face it, calculating risk profiles and dividing up how much money you have to match is not as exciting as putting money on the line with the chance of making more. But, that’s how professional traders get the “professional” added to their name.
Essentially, what separates a “winning” trader from a, well, average trader is that the former puts in a lot more effort to minimize losses. That is, they focused on their exit strategy more than their entry strategy.
What does that mean for you (and me)?
Every job has a part that isn’t fun
If you’re frustrated about your results of trading – whether that’s because you aren’t making money, or not as much as you’d like – the good news is that there probably isn’t anything wrong with your strategy. The one where you pick how to get into the market.
The bad news is that you’re probably going to have to delve a little more into how to handle your market exposure. There are a lot of psychological factors that play into why people tend to ignore this aspect, as we’ve discussed previously.
But hopefully this has made you aware of why delving into risk management is a good idea, and will make your wallet (and trading account) a lot happier.
