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It’s Hard to Learn from the Market

How do we learn? For most things, a pretty simple plan works: do something and evaluate the results. Make some changes to what you do, and see how the results change. If your results get better, do more of the thing. If your results get worse, go the other way.

Of course, I’m oversimplifying, but that is a good, solid plan that works… except in the market and in trading. This is one of the reasons that it’s so hard to learn to trade—results are only loosely connected to actions.

A wicked learning environment

We call this, formally, a “wicked” learning environment. Compare trading to other endeavors; if you want to learn to play golf, you can spend hours working on your swing. An expert can evaluate how you move and make small tweaks that will probably be very effective. Over time, you develop skill.

Imagine you wanted to learn to cook. You could buy books and courses, and then jump in and try to cook. You’ll have some disasters, but you’ll learn a lot from them and, over time, you develop skill.

In these (and most disciplines) results can be tied pretty closely to actions. In some disciplines (playing a musical instrument, for instance) the connection is almost 1:1—you can make tiny changes in what you do and see fairly immediate results. Other disciplines have some complications. For a quarterback, no play is exactly the same, so even if the rudiments are well-learned, stuff happens that might make your outcome on any play better or worse than it should have been, but… still… results are fairly closely tied to actions.

The market is cruel

The market is a cruel teacher. You can do exactly the right thing and have a losing trade. That’s bad enough, but it can happen on the next trade… and the next… and you see where this is going. You can actually lose a fairly substantial amount of money doing exactly the right thing. If you understand what’s happening, it’s just drawdown, but we must be careful to avoid “learning” from these events.

Conversely, you can do something very stupid and make a lot of money. In fact, you can do something very stupid and make a fortune in the market, but eventually there will be a day of reckoning. (Over the years, I’ve had roughly 10 people come to me with the same story: they made a lot of money (think more than $5 million) doing something dumb, and then lost it all, and now they are ready to learn to really trade. Sadly, so much incorrect learning has taken place that it would be easier for the proverbial camel to pass through the eye of a needle…)

This is true for a trader evaluating her performance over any time period, but it’s also true when we do something that seems simple like just learning to understand a pattern or a technical tool.

Say you want to understand a moving average. That should be simple, right? Maybe we read what some expert authors have written in some well-marketed trading books, look at their “backtests”, and then put the line on a handful of charts and just “see how it works.” Maybe do a little backtesting ourselves and just see what would have happened over the past few weeks. What’s wrong with that plan?

Turns out, most everything. Doing a proper backtest is not a simple proposition, even for a simple system. Especially dangerous are tests which look at different parameter sets (for instance, seeking the “best” moving average length for a system) because they create all sorts of statistical errors. There are ways to correct for these, but they are not easy and certainly don’t make for compelling reading.

This is also why backtesting frameworks (e.g., for prop traders) became available a few years ago, and, in general, have been spectacular failures. Having the right tool is not enough.

So what do we do?

What’s a trader to do? Well, there’s no simple solution—in many ways this is the challenge of learning to trade. There are no shortcuts or hacks, but there are a few things you can do to increase your chances of success.

  1. First, understand the nature of the environment. Understand that edges are small and that your results in trading are not very tightly connected to your actions. You might do the right thing and lose. If you understand this, you’ll see how complex the task of trade review actually is.
  2. Second, trade according to principles that have an edge. Finding and verifying this edge is a lot of work. (And a good place to get started is our giant, free course at MarketLife!)
  3. Always evaluate your trades over a large set of trades. There’s no easy answer, but 30 is probably not enough. (If you’re a longer-term trader, you can see there’s another challenge here; it can be difficult to get enough data to make good decisions.)
  4. Prioritize data from actual trading and/or walk forward testing. Backtests are always suspect, even if you did them yourself.
  5. Review point #1!


Adam Grimes has over two decades of experience in the industry as a trader, analyst and system developer. The author of a best-selling trading book, he has traded for his own account, for a top prop firm, and spent several years at the New York Mercantile Exchange. He focuses on the intersection of quantitative analysis and discretionary trading, and has a talent for teaching and helping traders find their own way in the market.