As George Soros said: "the first step to make money, is not to lose money"
So, if you don't want to lose money...
A. Your strategy has to be effective more than 50% of the times.
B. If your trading is lossing, close the transaction ASAP, since you have much less money than the market, even if you are a billionaire.
Why? Because of the gambler's fallacy/gambler's ruin:
Consider a coin-flipping game with two players where each player has a 50% chance of winning each flip. After a flip the loser transfers one penny to the winner. The game ends when one player has all the pennies. If there is no other limit on the number of flips, the probability that the game will eventually end this way is 100%. If player one has n1 pennies and player two n2 pennies, the chances P1 and P2 that players one and two, respectively, will end penniless are:
P1= n2 / (n1+n2)
P2= n1 / (n1+n2)
It follows that the player that starts with fewer pennies is most likely to fail. Even with equal odds, the longer one gambles, the greater the chance that the player starting out with the most pennies wins. However, this does not imply positive expected value for the richer player since, for each complete game (many flips) that the richer player loses, he will forfeit more pennies than his poorer playmate.
Consider players with 90 and 10 pennies respectively, repeating the game 100 times. The player with 90 pennies is expected to win 90 out of 100 complete games, winning 10 pennies each game. However, he is also expected to lose 10 games, each time forfeiting all 90 of his pennies. So after the series of 100 games, the richer player is expected to win 90*10=900 pennies, and lose 10*90=900 pennies. Despite the fact that after any single game, one player ends up with all the pennies, the expected result over many games is for both players to break even. Note that the law of large numbers implies that the ratio of wins converges to 9:1, meaning that each player's winnings or losses, as a percentage of total amount wagered, goes to 0.
A casino generally has:
* many more pennies than any player thus ensuring that the player is much more likely than the casino to experience gambler's ruin;
* odds that favor the casino resulting in negative expected return for the player; and
* various risk management techniques that limits their maximum loss.
The combination of above ensures that the casino will in the vast majority of cases come out ahead in the long run. For an illustration, see this Gambler's Ruin simulation:
http://math.ucsd.edu/~anistat/gamblers_ruin.html
So, if you don't want to lose money...
A. Your strategy has to be effective more than 50% of the times.
B. If your trading is lossing, close the transaction ASAP, since you have much less money than the market, even if you are a billionaire.
Why? Because of the gambler's fallacy/gambler's ruin:
Consider a coin-flipping game with two players where each player has a 50% chance of winning each flip. After a flip the loser transfers one penny to the winner. The game ends when one player has all the pennies. If there is no other limit on the number of flips, the probability that the game will eventually end this way is 100%. If player one has n1 pennies and player two n2 pennies, the chances P1 and P2 that players one and two, respectively, will end penniless are:
P1= n2 / (n1+n2)
P2= n1 / (n1+n2)
It follows that the player that starts with fewer pennies is most likely to fail. Even with equal odds, the longer one gambles, the greater the chance that the player starting out with the most pennies wins. However, this does not imply positive expected value for the richer player since, for each complete game (many flips) that the richer player loses, he will forfeit more pennies than his poorer playmate.
Consider players with 90 and 10 pennies respectively, repeating the game 100 times. The player with 90 pennies is expected to win 90 out of 100 complete games, winning 10 pennies each game. However, he is also expected to lose 10 games, each time forfeiting all 90 of his pennies. So after the series of 100 games, the richer player is expected to win 90*10=900 pennies, and lose 10*90=900 pennies. Despite the fact that after any single game, one player ends up with all the pennies, the expected result over many games is for both players to break even. Note that the law of large numbers implies that the ratio of wins converges to 9:1, meaning that each player's winnings or losses, as a percentage of total amount wagered, goes to 0.
A casino generally has:
* many more pennies than any player thus ensuring that the player is much more likely than the casino to experience gambler's ruin;
* odds that favor the casino resulting in negative expected return for the player; and
* various risk management techniques that limits their maximum loss.
The combination of above ensures that the casino will in the vast majority of cases come out ahead in the long run. For an illustration, see this Gambler's Ruin simulation:
http://math.ucsd.edu/~anistat/gamblers_ruin.html