The Similarities Between Day Trading and Gambling
On the surface, many stock market traders have a strong distaste to being compared to the freewheeling gamblers of Las Vegas or Macau. However, the similarities are nevertheless striking, and understanding these can help you get to the core of trading success. Trading—as opposed to investing for the longer term—can be viewed as a vehicle to generate cash flows just like a business, but understanding the business of gambling can help you understand the business of trading.
Trading Can Be Like Gambling
When it comes down to day trading in any market, you're dealing with odds. We've looked at situations like the Canadian dollar or emerging markets that had a favorable economic picture with which you could buy a stronger currency like the British pound or euro. By taking that simple example of weak commodity currencies or emerging markets in early 2014, the odds were tilted, but not guaranteed, for a trade that took advantage of that imbalance in the market.
As you may know if you've gambled yourself, many people who visit casinos step up to a table to play a game with money on the line and try and earn back their costs for the hotel or flight. However, the massive casino that they've stepped into was built with the money lost by people who didn't understand that the casino that hosts the game makes sure the odds are tilted in their favor. Therefore, to transform from a trader who loses money into one who wins, you must look at how to tilt the odds in your favor like the casino does.
One important difference between day trading and going to the casino is that when you go out to gamble, you have a negative expected return. In other words, the house is always expected to win over the long run, on average. Trading, however, if done skillfully and artfully, can put you in the position of the house.
Improving Your Odds of Trading Just Like a Casino Does
If you walked up to two people and asked if gambling is a profitable business, you'd likely get two different answers. The person who doubted that gambling was a valuable and long-term method to build wealth in this example is someone with dollar signs in their eyes.
They may have figured if they could find a good system with which to place bets, they could take some money from the casino. However, after a few visits to a couple of gambling houses, they wound up down a few more thousand than expected due to costs for the flight and hotel.
Now, what if the other person that you asked if gambling was a profitable business owned one of the largest casinos in Las Vegas? Their answer would be an emphatic "Yes!" Same question, but two different systems. So how can you put the odds in your favor just like a casino owner?
Stacking the Odds in Your Favor Like a Casino Boss
So what does a Casino boss understand that newer traders do not? Here's a starter list of their trading equivalent:
- Casino: They only play games that give them an edge
- You: For optimal trading results, focus on less trades with higher probabilities
- Casino: They have the unwavering discipline to their risk tolerance through table limits
- You: Maintain a focus on protecting your capital so that you can take advantage of your edge
- Casino: Focus on the overall profitability of the casino by keeping the casino open 24 hours a day
- You: Know that each trade is one of a thousand insignificant trades to build your career
Trading and gambling are very similar. However, to benefit from the similarities you must increase your odds and think like a casino boss. The best way to trade like a casino operates is to focus on fewer trades that align with your edge and having a lower volatility of performance by keeping a disciplined approach to money management so that you don't take a significant drop in your trading progress.
Lastly, you should continue to take the long view of your trading career so that you do not put too much weight on any one trade which often results in over-trading or trading too large of a position for your account equity.
The Balance does not provide tax, investment, or financial services and advice. The information is being presented without consideration of the investment objectives, risk tolerance or financial circumstances of any specific investor and might not be suitable for all investors. Past performance is not indicative of future results. Investing involves risk including the possible loss of principal.