A Personal Finance and Investment Arm of The Business Times


Advice to The Newbie Trader/Investor

Truth be told, I was at a loss about what to write for this article. Luckily, in a phone call to a fellow trader, she suggested: "what would you tell someone who's thinking about becoming a trader?"

There are three things I would tell him:

  1. Trading is the hardest profession in the world. Recent studies show that 89% and 92% of newbie traders lose money. Even more disheartening, within 6 months of opening their account, over a third so decimate it that they have to stop trading or top-up.
  2. The trading industry has its fair share of educators who, shall we say, are less than truthful.

    For a start, many educators have never traded successfully or have never   traded at all.
    Secondly, much of what they peddle is useless. And, because the industry is unregulated, it really is a question of 'buyers beware'.

    So, whilst it is true that you have to put up the money to secure an   education, you also need to exercise some common sense when deciding      to invest in a course.

    The single most important barrier to trading success is unrealistic    expectations. Too many newbies want to make a large fortune from a small         starting capital.
  3. In this respect, they are aided and abetted by the hype found in our industry.

    For example, recently I received a flyer promising a 48% per annum return. And, this return was available to anyone who bought his system.

    Unfortunately, if I bought the system, I'd probably find it all fluff and no substance.

    Let me explain why I say this.

    The average successful fund manager makes around 15% to 22% p.a. Do any make over 40%? Only one I know of.....

    The top hedge fund manager, David Tepper, has managed to post a 42% return over the past five years. But, in that time, he was the best of the best. The fact that he did it, doesn't mean that everyone can.

    Let me put it this way. Hicham El Guerrou ran the 1500 m world record in 3:43:13 minutes. The fact he did it, doesn't mean that you can do it. In fact, you probably can't.

    By the same token, the fact that Tepper can make over 40% per annum from 2008 to 2013 doesn't mean that you can do it.

If I could persuade the newbie to have realistic expectations, what else would I tell him?

I would tell him to have some way of distinguishing when prices are trading randomly, and when they are not. Knowing the difference makes a huge difference to your profitability.

In Figure 1, we see the Straits Times Index in the period May 2003 to October 2007.

For the most part, the market is moving directionally i.e. not in a random fashion. In this environment, the newbie's probability of making money is high. It is merely a question of 'buying the dips'.

FIGURE 1 Straits Times Index

Figure 2 shows the structure that requires patience to trade because it exhibits random price movement. In this environment, we seek first to identify, and then trade the edges.

FIGURE 2 Straits Times Index

There are two zones I would consider as 'edges' (and therefore two zones where I would be willing to consider buying).

The first is the zone bounded by 2980 and 2934, and the second, the zone bounded by 2607 and 2521. Both of these zones provide a high probability for a successful trade.

So, if a newbie is to succeed in this game, they need:

  • firstly to have realistic expectations of what is achievable; and then
  • they need to distinguish between the structures that offer a high probability for successful traders and those that don't.

Ray Barros