Trading doesn’t have to be hard…
I was definitely guilty of overcomplicating the whole process.
Hopefully this little spiel will help simplify the way alot of new traders look at the markets…
Let’s start with a story about a coin toss…
You bet your mate that if you flip heads he gives you $10, and if you flip tails you give him $10.
What is your profit expectancy of this coin toss game;
Profit expectancy = (Profit x Probability of profit) + (Loss x Probability of Loss)
= (10 x 0.5) + (-10 x 0.5)
= 0
Yes, as you would expect, mathematically you would expect to make $0 from this game over the long run as there is an equal chance of it landing on heads or tails.
Ok now let’s say you negotiate with your mate that if you flip a heads you win $10 but if you flip a tails you only lose $9 - This is the definition of a ‘slight edge’ in the market.
That looks like this - Profit Expectancy = (10 x 0.5) + (-9 x 0.5) = $0.5
So now you have a 50 cent profit expectancy meaning that every flip you would mathematically expect a 50 cent return. While not much, it put the odds drastically in your favour and over a long period of time you would expect to be in profit by quite a few dollars…
So where do traders go wrong, even if they have a profitable edge in the market?
Let’s say after 3 flips, you get 3 tails and you are down $27.
Mathematically you have a profitable edge but you have so far lost money…
This is when traders who haven’t backtested their strategy begin to loose faith in it, they change what they are doing or decide it is ‘broken’ and jump onto the next ‘guru’ or strategy.
BUT if they had stuck with it for say 100 flips - they would without a doubt be in profit!
Key takeaway for new traders - backtest your strategy, have faith in it and let the law of large numbers play out!
So now you are probably thinking but how do I get a profitable edge in the market?
SIMPLE
If you just placed a simple 1:1 trade - that is, your stop and profit targets are set the same number of pips apart…
Realistically you have a 50% chance of this trade hitting your TP and over the long term you would expect to be a breakeven trader.
Now what if you just slightly tilted things in your favour by using simple entry techniques such as divergence, certain candlesticks, EMA’s, trading with the trend or patterns.
Then all of a sudden you now have a 55-60% chance of a successful 1:1 trade playing out in your favour…
In the short term you may doubt this, due to random distribution it may take 50 trades before you even break even.
Have you done the work to be confident in your strategy and actually stick with it long enough to see the benefits of it?
For most the answer is NO.
Trading doesn’t have to be hard…
Simplify and think longer term.
Happy Trading,
Nathan