You’ve probably heard Ed Seykota’s now-famous quote: “Win or lose, everybody gets what they want out of the market. Some people seem to like to lose, so they win by losing money.” (In Jack Schwager’s Market Wizards.) While some people have trouble accepting this, there is a good lesson here. At the very least, it raises some fundamental questions that are worth thinking about. So… what do you really want from the market?
First, I’m going to take a step away from some of the literature on trader performance and psychology and state that obvious–we trade to make money. This is a difficult business with a lot of ups and downs; it’s hard for me to imagine someone trading without significant monetary rewards. Money is how we keep score, and, at the end of the day, that pile of money needs to be growing or you’re doing something wrong. However, many people have pointed out that financial gain is not rewarding enough to motivate someone for an entire trading career. Most of us have other motivations and reasons for trading. If you are near the beginning of a career or struggling to learn to trade, I’d suggest spending some significant time thinking about what you really want out of the market. Nothing is worse than pursuing the wrong goal and achieving it.
One of the common goals of retail traders is to trade professionally or to trade for a living. While this is, of course, achievable there are a couple of points to consider. First, as I said above, I absolutely support the idea that trading must have monetary rewards, but this is not really an appropriate goal for most beginning traders. Being a professional means different things to different people (to me it mostly means you go to work today no matter what happened yesterday), but many beginning traders have unrealistic expectations. You are not going to trade for a living with the $50,000 you have saved. You can learn to trade on that grubstake, but top-notch professional trading usually means you can expect to average 20% – 25% a year on your capital. Too many beginning traders expect to make $250,000 a year off of their $50,000 (from which they are also drawing living expenses, by the way)–this is not a formula for success.
Digging a bit deeper into the idea of monetary rewards, spend some time thinking about whether you are pursuing outsized returns or are more interested in protecting your capital. The answer, for nearly all traders, lies somewhere in the middle, and it’s a continuum that will shift as the trader’s career matures. Want to protect your capital? Fine, buy T-bills and earn risk-free rate. Want outsized returns? Great, trade an aggressive system with Kelly-sizing. Neither option is particularly attractive, so spend some time thinking about where you fall.
Another legitimate reason to trade is to learn how markets work and to learn to trade. This is where most beginning traders should focus their attention. Now, think about this carefully: if you define your goal for the first 2-3 years as learning to trade, you don’t expect to make money. (I firmly believe that no trader should give up without putting at least two years into the process. It’s impossible to evaluate your chances of success in less time than that.) If you are trading to learn, you are trading so small that your wins are insignificant, but you are also protecting your trading capital so that you do not suffer large losses. To many beginning traders essentially put it all on black and spin the wheel. It’s seductive–hit it big a few times and your $5,000 can be $50,000 and then you can settle down and really learn how to trade, right? Of course, the odds strongly favor you blowing out your account and, if by some quirk of fate, you do get lucky with your first trades, you’ve imprinted so many bad habits that you’re screwed. (Pardon my bluntness!)
There are other, more esoteric, reasons for trading. Some professional traders and funds focus on achieving uncorrelated returns. For instance, a short equity fund that has very low (or even negative returns) can be attractive to institutional managers if the correlation to the broad market is correct. These funds can sometimes attract large pools of capital and collect significant management fees. No, it’s not some racket or scam, it’s a legitimate piece of diversified exposure that portfolio managers need, and they will pay for it. Some traders trade to manage exposures to certain asset classes. For instance, there are funds that do nothing more than roll futures contracts to maintain some kind of consistent forward exposure. This borders closely on the subject of hedging which can make sense if the firm or the trader has a large natural exposure to some asset or risk factor, but all of this probably gets a little far afield for most individual traders.
It is also worth considering that some traders have hidden reasons for trading that guarantee their failure. Some traders are afraid and essentially trade to not lose, for instance focusing on very short-term trading with tight stops. While these traders may never take large losses and so think they are being prudent, they are often playing a negative expectancy game and guaranteeing their eventual failure. Lastly, many beginning traders are drawn to the ego reinforcement that comes from being right. Trading to be right, or to show someone else how smart you are always ends in tears. There’s no other way.
If you are not satisfied with your trading results, start thinking about these issues. Spend some time writing about them or doing whatever works for you to aid in self-reflection. Perhaps it makes sense to talk to some else about them; sometimes verbalizing issues can resolve a lot of tension and confusion. Above all, face them. If you don’t know why you’re trading, you’re not likely to be successful.