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Trading is Unfair
If you’ve ever been beaten by some crazy, pull out your a- card combination like a back door straight or a flush then you’ll appreciate what have to say. I never play poker, in fact I am not even sure what a back door straight is, but I do engage in probabilistic behavior every day. So I feel your pain. Games of chance and other probabilistic pursuits are inherently different from anything else we do in life.
You could make a fallacious argument that all of life is chance and we are all just playing a perpetual probability game but that would be patently false. Sure you can claim that when my friend at the diner who makes me coffee in the morning may not get paid by me, just the same I may not get paid by the market, but if you were actually to track his transactions he probably gets stiffed once out of 10,000 maybe even 100000 times. In short, almost never.
Contrast that with poker where the most outlandish hand has chance of becoming real not 1 out of 100,000 times but 2,000 out of 100,000 times and you can begin to see our predicament as traders. In poker even the craziest possibility has a very real chance of becoming true. And poker is a fixed odds system. Imagine an open ended system like the market where the odds are constantly shifting turning what looked like absolute impossibility yesterday into a virtual certainty today.
What makes probabilistic systems so difficult is that the odds are never fully known but capital is finite. How many times have we heard stories of great poker players/traders beaten by some crazy combination of cards/market action? You have a great hand/perfect setup you go all in because you are as sure as you can be that it will pay out, and then the final cards drops/ some unexpected bit of news hits the wire and your world is blown.
You’ve done nothing wrong. You played the odds. You analyzed the game. You tried to be as smart as possible. And yet they carry you on stretcher. To add insult to injury, the moment you are out of the game the action develops just as you planned, but alas you can’t take advantage of it. Trading is inherently unfair. You can do almost everything right and still lose it all.
That’s why the only protection against lady luck is tactics not strategy. It does not matter how good your algo is. It doesn’t matter what the equity curve looks like. The one and only rule that you must follow is -- size your bets. The moment you go “heavy”. The moment you press the trade without an ironclad plan to bail, is the moment that you will lose. On the other hand, in order to win you very often have to do nothing more than just survive. Studies have shown over and over that investors chances of making money in the markets rise exponentially the longer they can stay in them.
For us as traders that means we must let the Law of Large Numbers defeat the whims and vagaries of probabilistic fortune. Don’t bet more that 1% on any single trade and you may survive long enough to beat the market. Probably.