Why Trading Strategies Don't Work - How To Have An Edge
Summary
TLDRThis video script emphasizes the critical role of having an 'edge' in trading to achieve profitability. It uses a coin toss analogy to explain probability and profit expectation, highlighting the importance of a positive profit expectancy for success. The script stresses the significance of the law of large numbers, suggesting that consistent application of a trading edge over many trades is key to long-term profitability. It also draws parallels between trading and casino operations, advocating for a disciplined, rules-based approach similar to how casinos operate. The video concludes by encouraging traders to stick to their strategies and let their edge play out over time, rather than chasing short-term gains or changing strategies impulsively.
Takeaways
- 💡 Understanding the concept of an 'edge' in trading is crucial for profitability; it represents a trader's competitive advantage.
- 📊 Basic probability plays a significant role in trading, and it's essential to grasp how to calculate expected value or profit expectation.
- 💰 A profitable edge is achieved by having a positive profit expectancy, which can be increased by improving win rate, reducing loss rate, increasing profits on winning trades, and decreasing losses on losing trades.
- 🎰 The importance of the law of large numbers in trading is highlighted, emphasizing the need for repeated application of a trading strategy to allow the edge to manifest over time.
- 🚫 Avoiding emotional decision-making is key; sticking to a proven strategy even through short-term losses is what separates successful traders from the rest.
- 📉 The video uses a coin toss game to illustrate the concept of an edge and the impact of playing a game with a proven mathematical edge.
- 🏦 Casinos are used as an analogy for trading, showing how they maintain a slight edge over many games to ensure long-term profitability.
- 📉 The video demonstrates the power of backtesting and the importance of having a strategy with a positive expected value, even if it doesn't win every time.
- 🔢 The concept of risk-reward ratio in trading is explained, showing how strategies with a better than 1:1 ratio can be profitable even with a lower win rate.
- 🌐 The video concludes by emphasizing the importance of consistency and patience, suggesting that profits come from nurturing a strategy and letting the edge play out over time.
Q & A
What is the main message of the video regarding trading?
-The main message is that to be a profitable trader, one must have an edge in trading, which is a positive profit expectancy that allows for consistent money-making over time.
What is meant by 'edge' in the context of trading?
-An 'edge' in trading refers to a trader's advantage or strategy that gives them a higher probability of making a profit over time.
How does the coin toss example relate to developing an edge in trading?
-The coin toss example is used to illustrate the concept of probability and expected value, which are foundational to developing a trading edge by understanding the likelihood of outcomes and the potential profit from each trade.
What is the profit expectation formula mentioned in the video?
-The profit expectation formula is calculated as (Profit Scenario x Probability of Profit) + (Loss Scenario x Probability of Loss).
Why is cutting losses short important in trading?
-Cutting losses short is important because it helps manage risk and maintain a profitable edge in the game by limiting the amount of money lost on each trade.
How does the law of large numbers apply to trading?
-The law of large numbers applies to trading by suggesting that the more trades a trader makes, the more likely the results will approach the expected value or edge, assuming a consistent strategy is followed.
What is the significance of the casino example in the context of the video?
-The casino example is used to demonstrate how a consistent edge, even if small, can lead to significant profits over a large number of trials, similar to how a trader can achieve profitability.
What are the key takeaways from the casino business that can be applied to trading?
-The key takeaways include maintaining a positive profit expectancy, adhering to strict rules, not getting emotional about individual outcomes, and participating in as many trades as possible to let the edge play out.
How does the concept of a '1:1 trading strategy' work?
-A '1:1 trading strategy' involves risking 1% of capital to make 1%, setting stop-loss and profit target orders at equal distances from the entry point, aiming for a 50/50 chance of profit or loss.
What is the importance of filters in developing a trading strategy?
-Filters are crucial in a trading strategy as they help to increase the win rate by applying criteria to entry and exit points, thus refining the strategy to improve the probability of profitable trades.
Why is it advised not to trade a strategy with a reward-to-risk ratio of less than 1:1?
-Trading with a reward-to-risk ratio of less than 1:1 would mean that the potential profit from a winning trade is not enough to cover the potential loss from a losing trade, leading to an unsustainable and unprofitable strategy over time.
Outlines
💹 Understanding the Importance of Edge in Trading
The video emphasizes the critical role of having an 'edge' in trading to achieve profitability. It suggests that without an edge, consistent profits are unattainable. The speaker, drawing from personal experience and interactions with numerous traders, asserts that a lack of edge is the primary reason for financial losses in trading. The video promises to reveal how professional traders generate consistent profits by leveraging a market edge, which is a concept that novice traders often overlook. The importance of basic probability in trading is introduced, using a coin toss as a metaphor to explain how to calculate the likelihood of random events. The speaker illustrates the concept of profit expectation through a simple betting scenario on coin flips, highlighting how this principle translates to trading by managing losses and maximizing gains.
📊 The Law of Large Numbers and Its Impact on Trading
This section delves into the concept of the law of large numbers, explaining its significance in ensuring that a trading edge materializes over time. The speaker argues that repeated application of a proven edge is essential for long-term profitability, akin to how casinos maintain a slight advantage over players. A demonstration is conducted where the speaker flips a coin 1,000 times to simulate the impact of the law of large numbers on a trading strategy. The results, recorded in a spreadsheet, show that despite an initial lack of profit, the expected value eventually emerges as the number of trials increases. The speaker stresses the importance of patience and consistency, warning against the common mistake of abandoning a strategy before the edge has a chance to manifest.
🎰 Learning from Casinos: Applying Edge and Emotional Control in Trading
The speaker compares the strategies used by casinos to those effective in trading, highlighting the importance of a positive profit expectancy and strict adherence to rules. A detailed example of roulette is used to illustrate how casinos maintain their edge despite short-term fluctuations. The speaker advises traders to emulate casinos by focusing on the long-term application of their edge, rather than getting emotionally invested in individual trades. The narrative suggests that emotional control and a long-term perspective are as crucial as the trading strategy itself, urging traders to avoid the common pitfalls of emotional decision-making.
📉 Developing a Trading Strategy with a Focus on Probability and Risk Management
The final paragraph discusses the development of a trading strategy with a focus on probability and risk management. The speaker introduces the concept of a 1:1 and a 2:1 trading strategy, explaining how adjusting the risk-to-reward ratio can impact the probability of success. The importance of backtesting and simplifying trading strategies for ease of calculation is emphasized, along with the use of filters to improve the strategy's effectiveness. The speaker concludes by urging traders to stick to their strategies, allowing their edge to play out over time, and not to be swayed by short-term market movements or the allure of new strategies.
Mindmap
Keywords
💡Edge
💡Profit Expectancy
💡Law of Large Numbers
💡Cutting Losses Short
💡Roulette
💡Backtesting
💡Risk Reward Ratio
💡Stop-Loss Order
💡Profit Target Order
💡Consistency
Highlights
Having an edge in trading is crucial for profitability.
An edge is a positive profit expectancy that allows consistent earning over time.
Basic probability is key to understanding and calculating trading strategies.
The coin toss example illustrates how probability and profit expectations work.
Profit expectation is calculated by weighing potential profits against potential losses.
Cutting losses short is a strategy to gain an edge in trading.
Increasing win rate, decreasing loss rate, and managing profits and losses are ways to enhance an edge.
The law of large numbers ensures that an edge plays out over a large number of trades.
Consistency in applying an edge is vital for long-term profitability in trading.
Casinos use a slight edge and the law of large numbers to amass billions in revenue.
Emotional responses to individual trades can hinder the effectiveness of an edge.
Backtesting strategies on demo accounts helps confirm an edge before risking money.
Simplifying trading strategies allows for easier calculation and management of an edge.
A 1:1 trading strategy involves equal risk and reward, aiming for a 50% win rate.
A 2:1 trading strategy offers a higher reward for the same risk, potentially winning less frequently but with greater profit.
Legendary traders like George Soros and Michael Saylor exemplify the power of a consistent edge.
Profits come from nurturing a strategy and allowing the edge to manifest over time.
Transcripts
what has a coin TOS got to do with
developing an edge in trading well the
answer is everything and this video is
potentially going to be the most
important video that you could ever
watch to become a profitable Trader and
if you don't understand the concepts I'm
going to share with you in this one
video then you can almost certainly
forget about trading profits for good so
you ready to become profitable let's go
[Music]
any professional Trader will tell you
that if you don't have an edge in
trading then you won't make money and it
really is that simple but what is an
edge you've probably heard the term but
after working with so many Traders over
the years and being able to generate
consistent profits myself year on year
on year I now know for certain that this
is the number one reason that people
lose money in this one video I'm going
to tell you how real Traders actually
make money and how they play an edge in
the market that allows them to
continuously make money from the mass
rookies out there if you watch this
video all the way through you'll take
your trading to new levels I guarantee
it if you ignore this video you'll
certainly lose money so are you ready
grab a pen and take some notes let's go
the first thing you need to understand
is basic probability basic probability
is simply the likeliness of a random
event occurring that's it but to
understand this in trading you have to
first understand understand how to
calculate any random event so let me
show you how we're going to use a coin
toss in this example so the probability
of any event is the number of ways that
the event can occur divided by the total
number of possible outcomes so in other
words the probability of flipping heads
equals 1 / 2 and the answer is of course
.5 or 50% now let's throw some money
into the equation let's say that every
time you flip heads I give you a dollar
and every time you flip Sals you give me
$1 how much money do you think you'll
make and you probably already know the
answer but the thing is when a random
event becomes more intricate like in
trading you'll need a repeatable solid
concrete formula to help you calculate
your expected value or your profit
expectation so let's do the maths so
there's two possible outcomes here heads
or tails we've previously calculated the
probability of e outcome to be 50% so if
you flip heads you make $1 if you flip
tails you lose $1 but with that
information we can now use a profit
expectation formula to calculate exactly
how much profit you should expect to
make from playing the game with the
rules we've just set out so the profit
expectation equals profit scenario plus
the loss scenario so in other words $1
multiplied by .5 plusus $1 * .5 and that
equals z so when you do the math this
way now the profit expectation is $1
multiplied by 0. .5
plusus 90 or .9 * .5 so now you've got a
profit expectancy of 5 cents per coin
flip so if you toss the coin 100 times
statistically speaking you'll make $5
and by cutting your losses short you
manage to gain a profitable Edge in the
game in trading one of the best ways
that we can achieve the edge in the
market is by cutting our losses short
but what does all this have to do with a
Trader's Edge well what even is an edge
having an edge in the market is simply
having a positive profit expectancy and
if you have an edge you can make money
over time as long as you give the edge
long enough time to play out and the way
that you increase your Edge is one
increase your win rate two decrease your
loss rate three increase the profits on
the winning trades and four decrease the
losses on your losing trades it's really
really important that you understand
this now let's go and take a look at our
coint TOS game again so you now have a
proven Edge so you're guaranteed to make
money now right wrong what we didn't
discuss is how many games we'll play
Let's just say that we begin by flipping
three taals in a row this is a perfectly
realistic scenario so I've had now three
wins in a row and then I decide to just
take my $270 and walk away we played a
game with a proven mathematical Edge yet
you still lost money you getting it this
is what Traders do all the time they
have a great strategy with a strong
profit expectancy but they quit they
walk away or they change their strategy
before the edge has a chance to play out
you can get lucky and you can fo the
numbers in the short term but over time
and distance your true profit expectancy
will always work through so how can you
ensure that your profitable Edge always
works through well it's by understanding
the law of large numbers here is the
biggest secret and the most important
one for you as a Trader to make profit
over time by developing an edge and that
is by understanding the law of large
numbers the only way that you can ensure
that your Edge plays out over time is to
keep applying that edge over and over
and over again the law of large numbers
is performing the same trial a large
number of times if you have a
mathematical edge and a proven profit
expectancy in trading then it's in your
best interest to play over and over and
over and over again think about the
casino the house holds a slight
mathematical Edge and with each and
every game that they play they maintain
that edge they keep playing day in day
out every day of the year so that they
profitable Edge Works through over a
long period of time this is how they're
able to amass billions of dollars every
year in revenue and build these huge
casinos all over the world where you can
go and play their game so to really
prove this to you and open your eyes and
by the way the test that I'm about to
perform will really blow your mind I'm
going to sit here and I'm going to flip
this coin 1,000 times and I'm going to
record the results into this spreadsheet
here which will add $1 for every head
and lose 90 cents for every tail and
then we're going to look look at the
results so let's get stuck in this is
going to blow your mind and hopefully
give you a massive aha moment and help
you understand how real professional
Traders are able to make money every
year and why most people can't so let's
do the
[Music]
test test is finished I'm going to pull
up the results on the Whiteboard here
here's the results of the test now
notice at the start the results are
completely sporadic but after the sample
space grows the average profit returns
to the expected value 5 cents per roll
and another interesting thing to point
out is that in the graph look at the
average profit after 150 flips even
though you have an absolute proven
mathematical Edge in this game you'll
still Break Even after 150 flips before
you start going into profit so the
million-dollar question is this if you
followed your rules 150 times and didn't
make 1 cent would you still have faith
in your trading strategy this is what
most Traders can't do you you have just
crossed the part in this video that may
have just separated you from 99% of
retail traders who fail and if you're
still here now go to the comments and
type Edge unlocked because what I've
just proven to you should at least give
you lots of confidence this should be
your aha moment this is not tour
anywhere else this is not shared
anywhere online you don't hear Traders
talk about this stuff but you got to
witness this now by staying and sticking
around to this part of the video so well
done and now you understand now I know
always bang on about consistency being
the most important thing but if that
doesn't prove that to you I don't know
what will now how can I prove this
further well let's see how casinos use
this to make money actually use this to
make money casinos are the Undisputed
masters of the world at playing an edge
so let's have a quick look at the casino
business and see if we can learn some
things for our trading cuz I'm a big
believer in finding those at the top of
your field and then just copying what
they do that's what I did at school so
let's take the roulette will for
instance players come to the table they
Place their chips somewhere on the board
and the location of their chips
represents their bet I just recently did
a tournament myself each square has
different odds and payout figures and
for the sake of making things simple for
this video we're only going to focus on
the red and the black diamonds on the
left hand side now after all the players
Place their chips down the table manager
calls final bets and then they spin the
roulette wheel and they set the ball
spinning in the opposite direction and
eventually the ball comes to a halt on
one of the designated cells which will
have a corresponding number and a
corresponding color and a standard
roulette table the wheel is numbered
from 0 to 36 one to 36 is made up of an
even distribution of 18 red cells and 18
black cells the zero is green and that
represents an automatic house win in
other words no matter if you bet red or
black if the ball lands on the green
cell the casino wins Now by including
that green zero cell the casino ever so
slightly tilts the odds in their favor
each and every game so let's use our
knowledge of probability to calculate
what your profit expectancy is with a
$100 bet on black a few things we'll
need to know a win pays one to one which
means that we'll make make a $10000
profit and a loss will cost our initial
bet which is a $100 loss 18 out of the
37 cells are black which will result in
a win the other 19 CES are either red or
green and will result in a loss so let's
check the math The Profit expectation is
a profit scenario plus a loss scenario
so in other words The Profit expectation
is $100 * 18 / 37 plus - $100 * 19 / 37
and you'll see it's negative
$2.70 so there you have it as a roulette
player you have a negative profit
expectancy of
$2.70 per $100 waged but from the
casino's point of view however they've
got a positive profit expectancy of plus
$270 for every $100 waged and this might
not seem like much but consider a
roulette table with 10 players each with
hundreds of dollars worth of chips and
they're willing to gamble away now
remember also the casino has 10 20 30
sometimes more of these tables all
dotted all over the lobby and it's
usually open 24 hours a day and then
that's not to mention all of the
electronic machines where gamblers can
sit down nice comfortable chair and a
big colorful big screen and then play
the virtual roulette this means the
casino requires less staff and they can
run games quicker which means more games
every day and higher profit now I want
you to write this down because here are
the points to learn from the casino in
regards to your trading one the Casino
never knows if they will make money on
any given Spin and they don't need to
know number two they make money from
carrying a positive profit expectancy
and allowing it to play out over a large
number of Trials number three they have
strict rules for each game and they
never ever break them number four if
they lose money on 10 spins in a row
they don't get emotional and start
changing the rules of the game and
number five they take measures to ensure
that they can participate in as many
games as possible now how do I use this
in my own trading well let's start with
a question that I get asked by my
friends and my family and Associates
almost every single week and that is
what do you think the Dollar's going to
do is it a good time to buy the Euros
for my trip to Europe I get asked these
questions all the time like I'm some
kind of exchange rate booth at the
airport and when I first started in this
game I would take the time to explain
this situation in depth and I would
attempt to help whoever it was asking
the question to understand that I don't
don't really predict price movements per
se but after answering literally
hundreds or thousands of these questions
I have one response now and that is I
have no idea and when I say that they
look at me like what do you mean you
have no idea aren't you a currency
Trader and they might you know look a
bit shocked but remember the coin
tossing game what if I was to have you
try and predict the outcome of each and
every flip that I did firstly it would
be impossible to predict with any degree
of accuracy or actionable certainty
secondly it would be very very futile
because I don't care what happens on
every flip I make money from applying a
mathematical Edge over hundreds of flips
and it's the same in my trading the
issue with trying to predict individual
trades is that when you get it right you
can become very euphoric and cocky and
you get this feeling of supreme
intelligence which isn't healthy and
then when you get it wrong you can start
feeling insulted and disheartened so
imagine trying to flip the coin a
thousand times and trying to predict
each and every outcome You' become
emotionally drained by the end of it and
it doesn't matter anyway over time the
profit expectancy will work through and
you will get the same results as someone
who didn't waste their time trying to
predict each flip I mean picture the
casino manager sitting up in his office
watching the roulette tables on the
camera feeds right can you imagine if he
was tearing his hair out every time the
ball landed on red or black right and
every time a gambler puts down a big bet
do you think he sits up there trying to
cheer the ball on or stamping his feet
to try and get the ball to jog on the
red seven of course not he doesn't care
about the results of any individual
games just as Traders ought not care
about the individual result of an
individual trade you must keep a
long-term Vision trying to predict the
outcome of individual trades is a rookie
Trader approach you must be the casino
you must be the house now there is more
to think about and that is the
probability in trading so listen up here
the great thing about calculating the
probability of something like a coin
toss or a roulette game is that the
number of ways that your desired outcome
can occur is fixed there's only one head
on a coin and there's only 18 black
celles on the wheel but in trading the
number of different ways that you can
make profit is kind of infinite the fact
is that you can never calculate any
exact profit expectancy in trading you
can only ever look at past results and
reverse calculate it from your existing
data now that's why back testing so
important but then how do you know if
you have an edge in the market before
you risk your money well the first thing
you do is practice your strategies on a
small account or a demo account and what
that does is it cements your confidence
before you increase your investment and
then the second step is to simplify your
trading strategy so you can make
calculations so let's go back to the
Whiteboard and look at a onetoone
trading strategy a onetoone trading
strategy means we risk 1% to make 1% so
when entering a one: one trade we set a
stop- loss order and a profit Target
order at equal distances from our entry
order and after the orders are on the
market will do one of two things it will
move and Trigger your profit Target
order or it will move and Trigger your
stop- loss order and essentially there
we have a 50/50 chance of either profit
or loss some people argue that there's
actually a 33% chance of success because
the third possibility is that the trade
will just move sideways and in the short
term price may move sideways but
eventually the market will either break
up or break down so by default we have a
50/50 chance of success trading onetoone
strategies so as a rule of fun never
trade a strategy with a reward to risk
ratio of less than 1: one taking a
random punt in the market with a 1:1
trading model will result in about 50%
win rate obviously you won't make any
money trading like that so to increase
your win rate you have to apply filters
filters to your entry and filters to
your exit criteria and that's how a
strategy is developed from the ground up
talk about the six principles of price
action in my trading for beginners video
If you haven't watched that you can go
and check that out and that's what I'm
talking about here but let's go over to
the Whiteboard one more time and mix it
up and take a look at a two to1 trading
strategy two to1 trade means that we
risk 1% to make 2% and this is easily
achieved by placing your profit Target
order twice as far away as your stop
loss order from your entry for example
on a short trade like this if you have a
stop-loss order 50 Pips above the entry
you should place your profit Target
Target 100 Pips below the entry price
and with all things being equal price
now has to move twice as far to reach
your profit as it does to be stopped out
now this reduces the probability of the
trade being a winner however every time
that you do win you make twice as much
as you would had you lost so strategies
with a risk reward ratio better than a
1: one can effectively lose more times
than they win and still be profitable
now lastly I want you to think about
this George Soros was known for winning
around 30% of the time but when he won
he made it big time in 1992 he was known
as the man that broke the bank of
England by dumping the pound and making
over a billion dollar profit in one day
he was right 3.3 times out of 10 and
played the same Edge year in year out
until he netted a billion dollars in one
day Michael sailor is doing the same
thing with Bitcoin do you think Michael
sailor cares about the every daily
movement in bit coin no so when you next
think about swapping out your system or
chasing some other shiny object or
looking at some other strategy and how
well that's currently doing remember
this video and stop profits come from
nurturing your strategy and letting your
Edge play out over time if you don't
you'll not be profitable it's as simple
as that so if you want to go a step
further and you want to get access to my
30-day Trader challenge that's still
open and I'll give you all of my
coaching for 30 days to give you as much
confidence in your trading you can find
the links in the description but
hopefully that's giving you some food
for thought well done for making it to
the end pat yourself on the back and uh
I'll see you in the next video
[Music]
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