There is, of course, a bit of a puzzle in finance. To wit: how can markets be so efficient that even very smart people with PhDs in finance cannot (on average) outperform a diversified index, when so many of the people buying and selling the stocks are so stupid that they think they can beat the market?
For the same reason that you can't beat the football spreads. Even if people are stupid, as long as their error is random, the errors will, on average, cancel out.
Of course, the argument of those who think that they can beat the market is that the error isn't random, and that they can therefore make money.
There are several problems with this. The first is, of course, that a lot of people have thought they discovered non-random error in the market's thinking, only to find that they were the ones who had made a big mistake.
The second is that when there are errors or information asymmetries, they tend to attract a lot of people trying to make money off of them. They rapidly bid down the arbitrage opportunity to zero.
The third is that even if you have identified a price anomaly, you may not be able to act on that information. I am acquainted with someone who shorted the stock market in 2000 and made a killing. Unfortunately, he also shorted it in 1997, 1998, and 1999, and was very close to being totally bankrupt before the market went south. As traders like to put it, "the market can stay irrational longer than you can stay solvent".
It is a common fallacy among quasi-financially-literate laymen to believe that "efficient markets theory" means that there is some platonic ideal of a price, which markets inevitably find. That is indeed a silly theory, and one easily refutable by any of dozens of kinds of evidence. But that is not EMH. EMH only says that, whatever that platonic ideal of a price is, trading on your estimate of that ideal price is unlikely to make you more money than you would by purchasing a broad market index.
Sheesh...don't tell people this stuff!
Index investing wouldn't really work if it weren't for all the active investors paying for the research and establishing the market prices.
Megan_McArdle: I mostly agree with you here, but you have to keep in mind that, to the extent you *cannot* profit from a superior estimate, mispricing can remain, and this accounts for the persistence of bubbles. That is, if I believe that equities are overvalued (e.g. 1997), profiting requires me to *also* know when all the *other* people will realize it, ultimately punishing me for others' persistent irrationality.
What would be nice, is if there were ways to "express a vote against a stock" that were less able to wipe you out merely from others' continuing bad estimates. For example, what if it were possible to sell a "phantom" stock of company X that obligates you to pay a dividend (or buyout price) whenever X does so? You would cancel out the obligation whenever you buy a real share of X to replace it. This would allow you to take a short position that is more resilient against surges in the stock's price.
2 comments:
1. Greatest blog post title ever.
2. You say that “when there are errors or information asymmetries, they tend to attract a lot of people trying to make money off of them. They rapidly bid down the arbitrage opportunity to zero.”, and in the prior post that “they develop systems that let them trade on information faster than everyone else, so that they can make money in the fraction of a second before the price changes”. With the caveat that some trading cycles are longer than a “fraction of a second”, I’m sure you see that you have to believe (assuming you’re not buying for dividends) that the market will have to catch up to your valuation, so that you can sell at a profit. All predictive trades are about getting in front of the market, not permanently outsmarting it – otherwise you wouldn’t make any money.
My take on this is that while any one trading strategy will always get discovered and bid away, smart hedge funds can succeed by combining two capabilities: (1) the ability to develop and validate an ongoing series of temporarily profitable trading strategies, (2) a meta set of measurement and strategy termination rules to eliminate strategies as they are empirically bid away. As other posters have noted, this becomes hard (and maybe impossible) at large fund sizes.
My capsule summary of EMH: Even if it isn't strictly or always true, it is close enough to being true that most investors will be better off acting as if it is true. (No business or economics degree was involved in the making that statement.)
I have no trouble believing that there may be (a) some people out there that are truly able to beat the market a la Warren Buffet or Peter Lynch, and/or (b) some strategies that identify and exploit real inefficiencies in the market for varying lengths of time. The problems are: (a) distinguishing those rare individuals and strategies from the mere statistics in probability formulae (e.g., the famous example of the 1-in-256 who will flip a coin heads 8 times in a row); and (b) getting access to those people and strategies.
I note that regulation may play a role here. To the extent that those rare inefficiency-exploitative strategies are based on leverage and short selling, current law and regulation that restricts mutual funds' use of such strategies may have the effect of removing several trillion $$ worth of arbitrage from the market. (I am curious to see how the current crop of "130/30" funds performs in the current volatile market; if they succeed, those strategies may trickle down to more conventional funds and make the market more efficient.)
Efficient market hypothesis is a statement about returns to investments, not their prices. Prices can be predictable (on average) even if returns are not.
Wasn't there a study about how the individual stock holdings of the US Congress consistently outperformed the market by double-digits? Obviously, our legislators belong to special breed of financial savants, to whom we should be grateful that they chose public service instead of putting their genius to work in the private sector.
Megan
Some people can beat the markets
Everyone cannot beat the market
You often hear people say something like "the average professional money manager can't even beat the market" but the AVERAGE money manager is the market
The efficient market hyoithesis has really been transformed into a reducto ad absurdum arguement - Thanks Burton Malkiel
And another thing, why shouldn't Congree as a group not consitently beat the market. They certainly are a small sample, smart people by and large, and probably find or select that portion of financial advisors that outperform the market
I'm sure some wiseass will write in and say that if Congress beats the market it must be because of chicanery _ that there are no financial advisors better than other. That is the beauty and appeal of the in-extremis form of the efficients markets hypothesis: it helps confirm left liberals views that nobody is really better at anything than anyone one, so if someone earns more or invests at higher returns, it must be random and we should just confiscate those returns.
Congress can persistently beat the market by being allocated shares in hot IPOs not available to the public (viz. Sen Alfonse D'Amato).
This says nothing abut market efficiency however.
For an 'Economics' weblog, I'm always amazed at MM's, near-singular, focus on Finance.
Seeing as we're in 'Election Season', it may behoove us to consider that it's Always Election Season.
Our 'dollars' are mere Ballots. Each day we elect, through our decisions on how to spend and/or invest, the 'morrow we trod.
Our votes, always and everywhere, have a Financial value and an Economic impact.
It is hardly unknown that two classes of shares, one with and one without voting rights, trade at different prices. Shares without such rights, trading at discounts.
What MutFund and Index Fund buyers should ask themselves is: "Where's my proxy dividend?"
EMH is yet another smoke-screen to tell People that their too stoopid to figure out what's right for themselves.
Buffet, and Lynch, are telling you the truth when they acclaim that 'one doesn't need to be a rocket scientist', just observant.
As Henry Manne has observed:
I discuss the question of behavioral finance in my post Manne on Behavioral Economics and Insider Trading.
Yosef nails it. It's also worth noting that the argument for buying a representative selection of index funds in no way requires any version of the EMH for support. Your index funds will outperform the majority of mutual funds, they require little time or effort to select, and the fees are low. That's pretty compelling without also trying to claim that it's impossible to consistently beat the market.
It's really worth noting that the weak version of the EMH only says that you can't beat the market using technical analysis, meaning price data or the chart. Under the weak version, it's perfectly possible to outperform the benchmarks using fundamental data, meaning information about companies and the macroeconomic picture. I think the weak version is entirely plausible.
The semi-strong version says you can't consistently outperform using fundamental analysis, and I think that's garbage.
The strong version says you can't win even with inside information, which I don't think anyone believes.
So believers in the weak version would not agree with Megan here.
1. EMH still leaves money on the table. The only question is whether frictional costs outweigh the value of the arb.
2. Persistent social appetites are a "non-market" inefficiency generally worth harvesting. Witness the persistent appeal of so-call guaranteed structured products. These cater, or rather pander, to retail risk-aversion by selling overpriced hedges bundled with traditional investments.
3. Buffett and Lynch merely perpetuate the survivor fallacy. We'd need to know what others in Buffett's graduating class did, longitudinally.
Same concept behind my favorite swindle--send out 40,960 letters, half predicting a rise, half a fall. Half will be right. Next send out 20,408 more letters, again half predicting a rise, half a fall. Soon you will have been right a dozen times, a real guru. Now ask those readers to fund your new operation and retire overseas.
It's been pretty well known in forecasting, at least since I was in grad school, that a group of PhD experts in a field will consistently underperform random outsiders who have been briefed on the broad outlines of an issue. See Armstrong, if I remember correctly.
MEH said: "...to tell People that their too stoopid to figure out..."
MEH, people who make 3 obvious spelling and grammar errors in one English sentence should avoid reference to the word "stupid".
Warren Buffett specifically addresses the EMT, the analogy of the coin-flipping contest, and even the investing results of his fellow Graham and Dodd students at Columbia here:
http://www.valueinvesting.de/en/superinvestors.htm
I've long been a weak-form EMT guy myself, and a Vanguard indexer almost exclusively (except for Berkshire and a couple of funds available within a 401 plan that didn't offer index funds).
One easy technique that combines the active and passive approaches: Buy equal amounts of a value index and a growth index fund that represent the S&P 500 (or another suitable index), and rebalance between them every couple of years. Not for the tax sensitive, though.
If the "experts" are suprised by everything that happens, i.e., "Job growth did not meet expectations; Job losses suprised anaylsts; XYZ's profits missed analysts predictions, ect., how can the poor dopes in their livingroom hope to make any money?
Well there is EMH when it is between a sole buyer and a sole seller for a piece of goods. I would also offer that anyone buying an index fund will never MATCH the index fund let alone beat it. They will always get less than the index with all the fees, and charges associated.
Financial theory does not state "the market is efficient".
It states "the market tends toward efficiency".
Part of the way it does this is to quickly separate the fools from their money.
A fancier way of saying this is that only someone with superior knowledge/information than the marginal investor can sustain above market returns.
It's time to repeat an old joke, of which there are many variations:
Two economists are walking down the street. One sees a dollar lying on the sidewalk, and says so.
"Obviously not," says the other. "If there were, someone would have picked it up!"
(Copied from http://www.chass.utoronto.ca/~xyang/samp/joke.html)
Paul A' Barge
you're obviously humourless
I recommend that you look up Barberis/Thaler, "A Survey of Behavioral Finance" (2002) on SSRN. They give a compelling explanation for why the actual markets we have are often incompletely arbitraged, and how people make certain classes of consistent investing mistakes that impact market prices.
Also, note Kosowski et al in Journal of Finance Vol. 51 No. 6 (Dec 2006). They show that while the median mutual fund cannot outperform the market enough to recoup costs, there is a core of about the top 10% of funds that consistently produce alpha (i.e. outperformance) for their investors.
It's not going to work to accept as your premise that "people are such morons." That is hyperbole, not fact.
The market is as rational as the people who make it up. Neither more nor less. The market works because it provides people what they want. What they want is not necessarily what they need. To the degree that the former does not interfere with the latter, the market continues to function.
Index funds are not magic. They are the result of prices that are set by the actors on the market floor. The reason MOST fund managers can't beat the S&P 500 is that the S&P 500 is created out of the trades that fund managers and stock brokers make on a day to day basis. It's like trying to build a wall faster than the wall you're building.
There is no such thing as "beating the market" or "not beating the market." There is only "making money from the market."
For example, what if it were possible to sell a "phantom" stock of company X that obligates you to pay a dividend (or buyout price) whenever X does so? You would cancel out the obligation whenever you buy a real share of X to replace it. This would allow you to take a short position that is more resilient against surges in the stock's price.
Your "more resilient" short position is simply someone else's greater credit exposure, since the ultimate vindication of the short position may never occur.
The world if full of people much smarter than me. I accept the fact that many people are going to make more than I will in the market. I own a number of Fidelity funds that have not outperformed the market. They have, however, outperformed the money that I have put in CD's. I am happy with my returns. Doesn't an EMH posit the idea that many just want to win, and not win it all.
And another thing, why shouldn't Congree as a group not consitently beat the market. They certainly are a small sample, smart people by and large, and probably find or select that portion of financial advisors that outperform the market
Uh, let me say: Duh. Of course Congressional holdings outperforms the market -- they generally pass laws that benefit their holdings and refrain from passing laws that hurt them.
Some people can beat the markets ... Everyone cannot beat the market
Yes, statistics say that some people will, totally at random, beat the market.
There's an old scam in selling football picks -- you send out conatrdictory picks to 10000 people, then the next week you send out another pick to the 5000 who got the right pick the week before, and so on. Eventually you have a few hundred people who think you're a football-picking god.
Nothing but sex seems to induce as much fantasy into rationalization as stocks do.
The "efficient market theory" is hilarious from its initial assumption: that the market price reflects all available information regarding a single stock and its relationships to other stocks, industry-specific factors, on up to macroeconomic prospects. There is a difference between "information" and opinion. Much of what we call data is in fact either biased in obvious or hidden ways, or, in fact, purports to reflect something that is actually unknowable.
All a stock price actually reflects is the midpoint of opinions of buyers and sellers. Period. (First said to me by T. J. Kozloff, former partner of Skadden Arps and holder of an MA in economics. A very practical man.)
All of this does not mean that equities are poor investments. But trading equities, without some form of defined edge, is simply zero-sum gambling.
The "defined edge," by the way, can take many forms, few of them legal.
Mechanical trading systems can appear to work, and many do, right up until they don't.
A very few mechanical trading systems seem to have successfully incorporated and quantified sets of rules that as yet have not been arbed out of their advantage by copycat systems.
Many, many more "successful" traders -- chip-driven or not -- are similar to the football analogy above. You have a universe of 1,000,000 traders, and over a ten year period, statistics demand that a few of them create very impressive long-term track records, with highly attractive risk/reward characteristics. Most of these people are lottery winners. And that's the trick -- trying to distinguish the trader with the legitimate edge from the random success.
Nick Taleb has a lot to say on this topic in his book "Black Swan." He says all this better than I do. Take a look.
Nice stopping by.
I would definitely agree with you that markets are inefficient. Investors are NOT rational, even professionals and especially PhD's. Academics typically make the worst traders of them all as they add in much unneeded complexity when planning their trades. Trading is very simple, yet it is not easy.
However, it is very possible to beat the returns that come from simply investing in the SnP or Dow or whatever index that floats your boat.
If you can learn to look at the charts and see the cycles that markets go through from negative feedback to positive feedback and the resulting changes in volatility, you're on the way to taking money out of the market. If you can learn how support and resistance levels actually work in a bid ask context, if you can learn that it doesn't matter WHY the market is moving, only that it IS moving, if you can stomach admitting you were wrong and taking small losses and letting winners ride, if you can turn off CNBC, if you can ignore 'hot tips' etc.... You can trade.
"I am acquainted with someone who shorted the stock market in 2000 and made a killing. Unfortunately, he also shorted it in 1997, 1998, and 1999, and was very close to being totally bankrupt before the market went south."
That's a perfect example of what Taleb writes about in "Fooled by Randomness" - failing to note the distinction between talent and luck. (Thanks for the "Black Swan reference, Nick. These are two pretty informative (if opinionated) books.)
On the other hand, it's not so important to "beat the market". Since the market is always up (in the long term), all we need to do is keep up with it - which is what index funds are there for.
I would have to disagree with you ZZMike, it's all about beating the indices. I'm just not comfortable with returns that are sub 10% unless they are in a risk free instrument.
It takes zero ability to keep up with the market. Here's a a strategy, on Jan 2nd, buy $XXX of the Dow. No stop loss, sell Jan 2nd + 25 years. Do the same every Jan 2nd until you're 50. You'll have a nice amount of cash.
Did the above strategy take any education? No. Did it take any trading knowledge? No. If you can manage to not sell for 25 years. You have kept up if not beat the market due to dividends.
However, you have not compounded your interest at all. The hardest part in trading is getting out of the first phase of an exponential curve. Assuming your initial risk capital is small i.e. sub $50,000, you're going to have a hard time getting out of the slow portion of the curve. Commissions, and lack of the depth for proper position sizing will be difficult to overcome trading equities and even more so trading futures.
Now, think about a more active trader who glances at the 1 hour and 4 hour charts for 10 minutes 5 or 6 times a day. He's learned how the market he trades moves, he's learned what news events create short term price shocks to avoid, and he's has a plan that gives him a statistical edge. This trader takes about 5 trades a week, never risking more than 1% of his total equity a trade. He closes 2 out for 1% losses, but a week later, closes the other 3 out for 3-4% gain a piece. In one week you've made 9-12% of your equity risking 5%. Now, the risk on your next round of trades is based off of 1% of your new, higher equity. Is this possible? Absolutely :-) Can everyone do it? I think I'd have to agree that anyone can be taught to trade. Will everyone succeed? No. Could most of the failures out there have been prevented with a little simple knowledge and discipline? Absolutely.
Which trader would you rather be? The market maker who makes 20% of his equity a day 320 days out of the year, and 10 days out of the year loses 50%? Or the trader who makes 10% a year but never loses because he's a buy and hold only investor?
I would have to disagree with you ZZMike, it's all about beating the indices. I'm just not comfortable with returns that are sub 10% unless they are in a risk free instrument.
It takes zero ability to keep up with the market. Here's a a strategy, on Jan 2nd, buy $XXX of the Dow. No stop loss, sell Jan 2nd + 25 years. Do the same every Jan 2nd until you're 50. You'll have a nice amount of cash.
Did the above strategy take any education? No. Did it take any trading knowledge? No. If you can manage to not sell for 25 years. You have kept up if not beat the market due to dividends.
However, you have not compounded your interest at all. The hardest part in trading is getting out of the first phase of an exponential curve. Assuming your initial risk capital is small i.e. sub $50,000, you're going to have a hard time getting out of the slow portion of the curve. Commissions, and lack of the depth for proper position sizing will be difficult to overcome trading equities and even more so trading futures.
Now, think about a more active trader who glances at the 1 hour and 4 hour charts for 10 minutes 5 or 6 times a day. He's learned how the market he trades moves, he's learned what news events create short term price shocks to avoid, and he's has a plan that gives him a statistical edge. This trader takes about 5 trades a week, never risking more than 1% of his total equity a trade. He closes 2 out for 1% losses, but a week later, closes the other 3 out for 3-4% gain a piece. In one week you've made 9-12% of your equity risking 5%. Now, the risk on your next round of trades is based off of 1% of your new, higher equity. Is this possible? Absolutely :-) Can everyone do it? I think I'd have to agree that anyone can be taught to trade. Will everyone succeed? No. Could most of the failures out there have been prevented with a little simple knowledge and discipline? Absolutely.
Which trader would you rather be? The market maker who makes 20% of his equity a day 320 days out of the year, and 10 days out of the year loses 50%? Or the trader who makes 10% a year but never loses because he's a buy and hold only investor?
If human beings cannot consistently beat the market ... would Warren Buffet be a space alien?
Maybe his remarks on taxes or the environment are intended to soften us up for the invasion...
James, I have been listening to stuff like this for 40 years now. It's as funny as listening to someone tell me about their roulette system. Your "ifs" are right in there with "if pigs could fly."
Joseph, human beings can and do outperform the market. Most are lucky. Few are traders. Buffett is a long-term buy-and-hold value investor. Very few people have his discipline, patience and insight. And very few will in the future.
Hi Nemo,
Regardless of whether you've heard it for 40 years or 1 day, it is completely possible (through hard work) to come up with a plan that will let you earn significantly more than the indices each and every year. Don't lump me in there with the roulette guys... I'm not trying to sell you anything; just trying to merely convince you that it does exist and you don't have to be a trading 'god'.
I'd have to side with Richard Dennis and believe that anyone can learn to trade. The main reason that people choose to shorten their time frame and swim with the position, swing, and day traders, is that it allows them to generate more trades in a given time period. If your idea has a positive expectancy, then the only way to increase your return is to increase the amount of trades taken. Is it so hard to believe that someone could come up with even a slight edge in a shorter timeframe?
I'm very much aware that if you're a big institutional player, the liquidity doesn't exist to play alot of these shorter moves. But for the small to large individual trader, small manager, etc. it's quite possible to slip in and out of markets without moving them and make some money.
In closing, why bother to trade at all if you're not trying to beat the indices? Why waste the time, energy and risk if you're not shooting for at least 20-30% if not more? If you only want to earn the market, just buy the market :-)
James:
I worked with Rich Dennis for five years, from 1996 through 2001. He's changed his mind. The times when "anyone can learn to trade" are long gone.
Dennis's idea -- or bet with Eckhardt -- was that by adhering to a set of fairly simple rules, and maintaining the discipline not to flex those rules, a trader could earn profits in futures markets from other market participants who were undisciplined or whose rules were flawed. (By the way, he firmly believed that this could not apply to stocks, for a number of reasons, the most important of which was that stocks tended to gap rather than trend, and that there was an insufficient amount of new fundamental information for individual equities for signals to distinguish themselves from noise -- that is, most equity trading prices are the result of random action.)
Indeed, why bother to trade at all? You shouldn't. Leave that to the professional desks, who get to deal off their own books. By the way, market makers aren't pure traders. They see the inside market bid/ask, and their edge is that they often can buy for x and sell for x plus simultaneously --or vice versa.
Your last paragraph is pure insanity. Go ahead. Shoot for 30% returns trading stocks. The only thing you'll hit is your own foot.
Finally:
"He's learned how the market he trades moves, he's learned what news events create short term price shocks to avoid, and he's has a plan that gives him a statistical edge. This trader takes about 5 trades a week, never risking more than 1% of his total equity a trade. He closes 2 out for 1% losses, but a week later, closes the other 3 out for 3-4% gain a piece. In one week you've made 9-12% of your equity risking 5%. Now, the risk on your next round of trades is based off of 1% of your new, higher equity. Is this possible? Absolutely :-)"
There so many errors and fallacies in this statement that I would like your permission to use in when I am called on to speak at conferences on these topics. It is the Platonic ideal of assumptive error, data mining and wishful thinking.
I do not wish to be cruel or snarky, but you really need to stop huffing glue. This kind of nonsense demands flattening, the sooner the better.
Nemo,
I haven't meant to offend you. Even after you accused me of touting a roulette system with a negative edge. I'm quite jealous that you got to work with Dennis.
I still don't understand how a professional trader can't admit that it's possible to find an edge in a shorter timeframe?
I'm sorry about the market maker analogy, I was only trying to illustrate that a slight edge you can put into play repeatedly can yield much greater returns than a larger edge only put into play once in awhile. I don't know the odds off of the top of my head, but wasn't Vegas built on edges of 50.5% to 49.5% ?
Let's rephrase the 5 trades a week example into, If on average I win 60% of my trades, and my winning trades are 3 times greater than my losing trades, I'm making money. Hell, I'm making money even if my winning trades are equal to my losing trades. If I have an edge like that, it is in my best interest to trade every stinking opportunity that comes around. The more trades I take the more I make. In other words, I've become the casino owner.
I don't understand what you mean by 'platonic idea of assumptive error', as I lack any traditional business education save for economics and intro to accounting. As far as data mining, I'm not optimizing historical data if that's what you mean. Wishful thinking? I guess you could call it wishful, but if I routinely go on 20-30% runs with less than 10% drawdowns between them, I'd call it optimistic thinking.
Sure you can use whatever I write in here, although the copyright probably belongs to MM, since it's her website.
If you disagree with what I've said, please tell me 'why' instead of telling me I'm touting a roulette system, or that I'm 'huffing glue'.
every fund manager dreams of beating the index,
that is, every fund manager is stupid.
if it's stupid people that in the end set the market, how can one say that the market is efficient ?
is it efficient because of stupidity ?
or is it a mere semantic problem ?
if people with Phd in finance don't outperform the market - and this is widely known and stated by EMH - why didn't they bought an index fund
instead of paying big bucks for that high education ?
is a matter of opportunity cost. isn't it ?
James:
Forgive my short temper. I've just heard too much of this in my life.
I have spent 30 years now working with Commodity Trading Advisors and hedge fund managers on precisely these types of strategies. Telling you why yours won't work would be as painful to me as rereading a bus schedule 1000 times. I just don't have the patience for this kind of discussion.
A few things:
First of all, your math is off. Please don't ask me for specifics. Check your numbers.
Second, you make assumptions that are unsupportable in any way. Chiefly, you:
a. assume markets are always liquid, and do not gap in limit moves.
b. assume that you can maintain absolute control over the size of your losses.
c. assume that you can accurately assess the impact of information on market action. (No one can).
d. a host of other assumptions and assertions too numerous to deal with are invalid and/or unachievable.
Every year, literally thousands of people introduce new quantitative and qualitative strategies into the markets. Virtually all of them fail. A very few survive their first year. The survivors may not survive the next year. The few that persist have discovered an inefficiency that they can mine with a new methodology.
Sooner or later, that inefficiency is mined out.
The true survivors -- Renaissance, et. al. -- are continually developing new systems and strategies to retain their robustness. If they fail to do so, they fail as well.
That's the best I can do.
James, making arithmetic mistakes that I could have spotted even when I was a fifth grader isn't going to convince us you're a super-trader. I'm not clear what those percentages are supposed to be percentages of, but
1) In no way can I get them to add up to what you claim
2) A claim to consistently gain 9 to 12% of the amount invested a week - or even two weeks, if that's what you meant but didn't say - doesn't pass a laugh test. At least not for legal investments.
@ Nemo and Markm
I'm not trying to convince anyone that I'm a super trader. My performance is sufficient for my needs.
I also don't see what is wrong with my math. If my average win is equal to my average loss and my win percentage is greater than 50% + commissions and slippage, I make money. There is nothing arithmetically wrong with that situation. Yes, on occasion I'll lose more than the initial risk I define and on occasion I'll hit a trade which runs for 10x my initial risk. That's trading. I think a 5th grader could understand that if your win size is the same as your loss size, and you win more trades than you lose + your expenses, you are making money.
Again, I'm well aware that markets are not always liquid. My trading size is such that I hardly move markets when entering and exiting. I'm more concerned with the volatility of the potential issue.
I make no claim to predict the direction of the market. That's an exercise in futility. It's much more useful to watch the issue cycle from negative feedback to positive feedback.
I still don't understand why you find the possibility of a shorter term edge a fallacious assumption. I find it hard to believe that in 30 years, you have never once come across a tradable idea on a timeframe shorter than the dailies. I'd be much more sympathetic to you saying you found many edges, but your large size made them impossible to implement.
Expectancy = (Probability of Win * Average Win) - (Probability of Loss * Average Loss)
Trader 1 = 60% win 40% loss, average win = 10 and average loss = 10
(.6 * 10) - (.4 * 10) = $2 expected average profit / trade
Trader 1 takes 20 trades a year = $40
Lets say trader 1 has the same positive expectancy but a much higher frequency of opportunities to trade
Trader 2 takes 500 trades a year = $1000
I realize the math is quite simple and does not account for commissions and slippage. But why is this basic concept of expectancy flawed? I'm sure that expectancy has to play a factor into your trading methodologies albeit in a more complex model.
Sorry. Been making waves in the kiddie pool. Excuse me. I'll be strolling over to where the grown-ups swim now.
I really don't understand why we can't have a civilized discussion.
You have repeatedly dismissed my arguments in a childish, insulting manner without saying 'why'. You have repeatedly demonstrated your closed mind with regards to trading.
The way you refuse to accept basic trading principles and refuse to acknowledge the existence of edges in shorter timeframes lead me to believe either (1) you don't have the experience you claim, or (2) your experience from the investment industry and finance academics has left you brainwashed into thinking that the only way to trade is 'your way'. Either way, regardless of what you think, I can and do beat the indices year in and year out on the accounts I trade for myself, and the accounts I pay someone else to trade routinely beat the indices otherwise they would lose the opportunity to trade my dollars.
I'm very glad that you're not managing a penny of my money.
I joined the thread to agree that all markets, not just equities, are inefficient. I joined the thread to say it is possible to beat the returns of the indices. I joined the thread hoping to hear from intelligent people in this field.
I feel like I'm saying the world is spheroid and you're saying it's flat. Maybe flat works for you, pays your bills, and makes you feel warm and bubbly inside, but it doesn't change the fact that the world is actually spheroid.
Actually, I have told you why what you claim will work doesn't work in several ways, and your response is to demand a six-week detailed tutorial.
You then confuse general concepts (beating indices, inefficient markets) with specific assumptions you make that are just flat wrong. Examine your own posts. You will find that what you deny you say you have said quite plainly.
But it's okay. Have it your way. Trade away. Best of luck to you.
No Nemo, in reality, you've called my a child repeatedly and told me that the way I trade is an anomaly destined to fail. I have repeatedly argued back that if you have an edge in a shorter timeframe, it's quite possible to beat the indices by virtue of increasing your number of trades. I talked about the most basic of basics in trading (key word trading, not investing): expectancy.
And again, you attack me instead of attacking my arguments.
You are a troll. :-) Who apparently has trouble, after 30 years of experience, of generating returns that beat the indices. And that's sad. :-)
Perhaps I have not made myself clear:
1. I have taken great delight in forwarding this site's URL to various professional traders I know, who follow this exchange with more hilarity than you would care to know. We have all heard this kind of arrant nonsense from so many people for so long, it's a kind of sick pleasure to watch someone humiliate themselves in public with such enthusiam. You sound that like sorry bastard who runs Turtle Trader, trying to be a kind of poor man's Rich Dennis.
2. You do indeed talk about the most basic of basics, which is another way of saying that your thinking is so simple-minded as to be moronic.
3. The "edge in a shorter timeframe" to which you allude is so elusive as to be chimerical. It exists, but is useful to no one other than a professional trading desk armed with resources and a flexibility of response that surpass yours as much as the intellect of an eggplant exceeds your own.
4. I do not know how you conclude that I have difficulty beating indices -- I do not imply that I can't; I merely assure you that you can't. This is an excellent example of the embedded flaw in all your logic -- what you say is unsupported by anything but your own bluster, a bunch of rotten assumptions, and obvious mathematical -- arithmetical, really -- errors that have people hooting in delight.
Stick around. We need you. Profits have to come from somewhere, and it is usually from the greater fool. Perhaps you have the distinction of being the greatest.