Most Traders Have Poor Odds. Here's How to Avoid Their No. 1 Mistake
Short-term traders often approach stocks like bets. That's the wrong approach.
You're reading 0 of 1 free page.
Register to read more or Unlock Pro — 50% Off Ends Soon
The S&P 500 has averaged a return of about 10.5% over the last 100 years. Despite that favorable tendency, only about 5% of very short-term traders consistently make money over many years. The market offers excellent odds of long-term success, so why can’t most traders consistently make money in the short term?
This lack of success is because these traders think like gamblers, rather than speculators. The odds of long-term success for gamblers are also only about 5%, so it isn’t surprising that you are unlikely to succeed if you approach active trading with the same mindset.
One of the main problems with the gambling mentality is that the desire for an adrenal rush drives it. It is fun to put some money on the line and then root for a positive outcome. Many stock market trading apps are designed to encourage this behavior. It is a fun game. People don’t buy lottery tickets because they think the odds are good. They buy them because it is fun to fantasize about the potential of winning. If you approach trading stocks like you are betting on football or buying a lottery ticket, you will not make money consistently because the odds of winning are poor.
There are three primary differences between gambling and short-term speculation. The first is that the gambling mindset encourages asymmetrical risk-taking. Gamblers like long shots. They like taking bigger risks and trying to hit home runs. With most betting, the outcome is a big win or a complete loss. Gamblers don’t think about producing small wins with limited risk. That isn’t as much fun. Traders with a gambling mindset tend to take positions that are too big, and that wipes them out very fast when they are wrong a few times.
Trading stocks is very conducive to producing smaller, faster gains and controlling losses. The best traders grind it out day after day. They don’t try to hit home runs. They are focused on lots of small wins with limited risk. This protects precious capital and allows them to find more opportunities and make more bets.
The second big difference between gambling and speculation is time frames. Gambling has very rigid time frames. Once the event you are betting on is over, you win or lose and are finished. You don’t have the luxury of waiting for conditions to change or for some catalyst to hit.
If you use rigid, short-term time frames in trading, you are much more likely to fail because there is no way to consistently predict short-term volatility. You may choose the best stock, but you can’t predict when the market will start to appreciate your astute stock picking. In the short term, valuation and technical patterns don’t matter, so if you set a very short-term time frame, your odds of losing are much higher. Traders with flexible time frames are much more likely to have success.
A third difference between gambling and speculation is that most gamblers don’t do adequate research. They tend to trade stocks with the highest volatility levels and hope they can catch a move. The stock itself doesn’t matter much. The goal is to capture a chunk of the volatility.
Speculators, on the other hand, are very concerned about their trading vehicles. They know what will move the stock and understand how the market will likely view it. Their knowledge about the stock gives them an advantage. Much short-term trading is simply waiting for a positive catalyst to hit.
The primary difference between gambling and speculation is an appreciation of risk and how to control it. Gambling is not conducive to risk management, which is why 95% of people ultimately fail.
At the time of publication, DePorre had no position in any security mentioned.
