Today, thousands of websites and books are devoted to scalping, day-trading and other short-term speculations. Exchange and brokers actively promote these methods of earnings. However, according to statistics, the vast majority of traders lose money. Their money goes to market intermediaries and more patient and disciplined colleagues.
Trading is a game with a negative sum, where the winner earns less than the loser, and the loser loses more than the winner earns. This happens because market intermediaries take part of the money from both traders.
Let’s consider the main reasons why most traders lose their hard-earned money. Some reasons are technical, which cannot be avoided, but you can reduce their impact. Others – from the category of the human factor, which can be avoided.
Scalping and intraday trading
The most difficult and worst types of trading are scalping and intraday trading. Scalpers can make up to hundreds of transactions per minute, and day traders are required to close all transactions at the end of the trading session. Strange as it may seem, but the majority of losing traders are scalpers and day traders.
By promoting short-term speculation, brokers and the exchange earn commission fees. The more short-term speculator is, the more transactions he makes per unit of time, replenishing the pocket of the broker and the stock exchange faster. Higher frequency trading creates the illusion of rapid enrichment.
However, the speculator is foolish, because at short time intervals the market is difficult and unpredictable. Due to the small potential profit and high actual costs, the “profit/cost” ratio tends to a minimum.
Poor trading strategy
Most traders trade intuitively, or use subjective rules that cannot be formalized and tested on historical data. Both cases are examples of bad trading strategies.
When trading intuitively, the results will depend on the mood of the trader. He can get 10 losses in a row and, against the background of apathy, skip entering into 11 deal, which will more than cover the losses from 10 previous deals. Alternatively, against the background of euphoria, to enter into deals that should not be entered because of the big risk, having received a big loss.
By trading the same unformalized rules, different traders will get different results. Up to the fact that one will have a profit, and the other – a loss. The situation can reach the point of absurdity, when on the same chart one trader sees an opportunity to buy and another to sell.
Poor risk and capital management
Risk and capital management is part of the trading strategy of the trader. Most traders risk too much capital in a single transaction, from which they lose all their capital. Alternatively, in a series of losing trades, they continue to increase the size of the positions, instead of reducing them.
Another reason for poor risk management is the use of large leverage that ruins traders. If you take a trader who lost money, then surely he did it with the help of a leverage.
Commission – a fee for broker and stock exchange intermediary services. The trader is obliged to pay commission fees for each transaction. The more transactions – the more commission costs are given to the broker and the exchange.
For example, the broker’s commission is $1 per 100 shares; the exchange commission is $0.5 per 100 shares. The trader opened a position for 100 shares and closed it by making 2 transactions. Commission on entry and exit amounted to $1.5. Suppose the profit before the commission was $20, but the profit after payment of the requisitions is $17. The broker and the exchange took $3. In this example, in order for a trader to recoup commission costs, he needs to earn an average of $3 per transaction.
Spread – the difference between the ask price and the bid price. For example, a trader buys 100 shares at an ask price of $50.2, and the bid price is $50.1. The spread is 10 cents. If the trader buys 100 shares at the ask price and immediately sells at the bid price, then he will lose $10 on the spread.
The trader is already at a loss as soon as he entered the market by buying shares. Now, in order to recapture the loss, the bid price of shares must grow by the value of a spread of 10 cents.
Slippage – the difference between the desired buy/sell price and the actual execution price. For example, a trader wants to buy 100 shares and sees that the ask price is $20. He sends a market order for the purchase, but these shares are not bought for $20, but more expensive – for $20.02. The slippage was 2 cents per share. Thus, the trader lost $2 per 100 shares.
Slippage is because the trader was ahead of other market participants by buying the remaining shares at the price desired by the trader. His order is executed at the next ask price – the worse one. Slippage can also occur due to misleading, when ask prices are quickly set and removed by high-frequency trading robots.
Trading platform, quotes and other expenses
There are additional costs for the trading platform, the flow of quotes, account maintenance and so on. This type of expense is common, especially with proprietary trading companies offering day trading and scalping services.
For example, for a trading platform and live quotes from a trader can charge from $ 50 to $ 300 per month. Over the year, these costs accumulate at a considerable $600– $3,600. Imagine that a day trader has opened a margin account of $5,000 and is forced to earn 12–72% per annum only to pay for quotes and a trading platform! However, there is still a commission, spreads and slippage!
Traders need to understand that there is no quick and easy money on the market. You should moderate your appetites and greed, focusing on the yield of 20–30% per annum, taking into account inflation. More frequent trading does not lead to quicker profits, but to losses.
To stop losing money, you should minimize or eliminate the above reasons. Commissions, slippage, spreads and other expenses can be minimized by switching to long-term trading, using a discount broker and other methods. You can simply get rid of bad trading strategies and risk management by replacing them with better, more reliable and safer ones.