Each individual trader has the opportunity not to follow the crowd and show performance above (or below) the average. To break away from the crowd, you need to know yourself well, as well as general human inclinations and how the combination of both determines the behavior of society.
Most of us know that, according to statistics, 95% of traders lose money, and only five percent manage to make a living trading. Sometimes you even hear that only 1% make really good money. But regardless of the exact numbers that past research has revealed, the undeniable fact is that most traders are actually losing money – there’s no getting around it. Let’s go through the main reasons why traders lose money.
Only an individual trader defeat the market, not a crowd
Imagine for a moment what it would be like if each trader followed the rule of limiting the risk in one trade to 1% of their trading capital and used strategies similar to those used by professional traders. In the market, stop orders would be triggered everywhere, and prices would move up and down. The same is happening now that people are adopting a variety of strategies of their own design. In other words, when everyone tries to do the same “right” thing, it leads to the same movements in the market as in the case when everyone acts on their own, “wrong” strategy.
Fortunately, just as it is impossible to convince a bullish trader to become a bear, it is equally, or even more so, to convince all traders to trade in the same way. It can be concluded that regardless of whether everyone trades differently or everyone trades the same way, most will still lose money. The attempt by the broad masses of traders to avoid this (i.e. to make a profit) creates the very trap into which they ultimately fall.
Improper Use of Strategies
Traders assume that once they read information about particular strategies that’s the whole story – they can incorporate these strategies in trading and immediately earn money. However, that’s not how things work in trading. A lot of experience and knowledge is necessary to make the most of trading. A very primitive example is the case of stop loss and take profit in FX trading. It is impossible to use them simultaneously even though rookies think it is pretty much possible.
There are also cases of spreading false information of win-win strategies, that does not make sense. It is impossible to be a winner all the time but newbies do not pay attention to this topic and go for strategies inadvertently.
Simple Game of Numbers
You can often hear phrases from financial commentators like, “Most professional fund managers can’t beat the S&P 500 …” and so on. This is true. But this doesn’t happen because professional fund managers are so illiterate. On the contrary, these very critics themselves do not understand anything about the market.
Most of the movements in the market are created precisely by professional fund managers who manage billions of dollars in various assets, as well as other professionals and companies seeking to perform some kind of operation or hedge their risks in order to be able to continue doing their business. Therefore, if the market grew by 10% in a year, it is only because these professional fund managers made this market rise by 10% with their purchases. Therefore, it is impossible for most professional fund managers to earn more than 10% this year, as it is like asking a tennis player to beat himself.
Most investors and traders will not be able to outperform the market indicators because they create and are part of those indicators themselves!
Since most traders trade on shorter time frames than investors, let’s consider the following example: On the first day, the market rallied 1%, and on the second, it fell 1%. At the same time, the profit on the positions of most traders will be close to zero, and taking into account the commission, even a loss will appear. But some traders will have good profits, while others will have significant losses. Different traders will earn/lose on each day, and so on for the next several months, while the market moves up and down. Those who are consistently at a loss will leave the game, joining the ranks of those who are losing money in the market. Traders who manage to make a profit sometimes, but not often, will also slowly move towards being eliminated from the game.
From all of the above, we can conclude that traders should stick to their clearly outlined plan and trade according to this plan, even when it seems inconvenient to them. The overwhelming majority of the population, and therefore traders, cannot stand the discomfort. In everyday life, this leads to the fact that instead of carrots, their hand reaches for the chocolate. Since the majority of the population happily joins the crowd, with a certain amount of discipline combined with a decent strategy, you can become one of the few successful traders who can really get away from the crowd before it crashes itself.