Why Trading Strategies Don't Work - How To Have An Edge

Summary

This 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

00:00

💹 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.

05:00

📊 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.

10:01

🎰 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.

15:03

📉 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.

Keywords

💡Edge

In the context of the video, 'edge' refers to a trader's competitive advantage or the statistical likelihood of making a profit over time. It's the number one reason why people lose money in trading, as emphasized in the script. The video explains that having a positive 'edge' means having a profit expectation, which is crucial for making money in trading. The concept is illustrated by comparing it to a coin toss game where the edge is the expected profit from repeated plays.

💡Profit Expectancy

Profit expectancy is the expected average profit per trade, calculated using the formula: (probability of winning * profit per win) + (probability of losing * loss per loss). It's a key concept in the video, used to demonstrate how traders can make money by ensuring their profit expectancy is positive. The video uses a coin toss game as an analogy, where the profit expectancy is calculated to be 5 cents per coin flip.

💡Law of Large Numbers

The law of large numbers is a statistical principle that states as the number of trials increases, the actual ratio of outcomes will converge on the expected ratio. In the video, this law is crucial for understanding how a trader's edge will play out over time. The video emphasizes that the more trades a trader makes, the more likely they are to see their true profit expectancy realized, as illustrated by the coin toss experiment.

💡Cutting Losses Short

This concept refers to the strategy of minimizing losses by setting stop-loss orders to exit a trade when it reaches a certain level of loss. The video suggests that cutting losses short is one way to achieve an edge in the market. It's part of the broader message that managing risk is essential for long-term profitability in trading.

💡Roulette

Roulette is used as an analogy in the video to explain how casinos maintain a positive profit expectancy. The video calculates the profit expectancy of betting on black at a roulette table, which comes out to a negative value for the player but a positive value for the casino. This example is used to teach viewers about the importance of having a positive edge in trading.

💡Backtesting

Backtesting is the process of testing a trading strategy on historical data to evaluate its performance. The video highlights the importance of backtesting as a way to determine if a trading strategy has an edge before risking real money. It's a method to simulate the strategy's performance under various market conditions to ensure it has a positive profit expectancy.

💡Risk Reward Ratio

The risk reward ratio is the relationship between the potential loss and potential gain on a trade. The video explains that a strategy with a better than 1:1 risk reward ratio can be profitable even if it wins less than half the time. This is a key concept in developing trading strategies, as it influences the overall profitability of the trader's edge.

💡Stop-Loss Order

A stop-loss order is an order placed with a broker to sell a security when it reaches a certain price. The video mentions setting a stop-loss order as part of a trading strategy to manage risk and cut losses short. It's a critical tool for traders to protect their capital and maintain a positive edge in the long run.

💡Profit Target Order

A profit target order is an instruction to sell a security when it reaches a certain price to lock in profits. The video discusses setting profit target orders as part of a trading strategy, particularly in the context of risk reward ratios. It's used to ensure that the potential profit from a winning trade is greater than the potential loss from a losing trade.

💡Consistency

Consistency in the video refers to the importance of sticking to a proven trading strategy and not getting swayed by short-term results. The video emphasizes that maintaining consistency is key to allowing the trader's edge to manifest over time. It's about applying the same strategies repeatedly, similar to how casinos operate, to achieve long-term profitability.

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]