Most forex retail traders lose money. Why is forex so difficult?

[beerntrading]

Hmm (waiting for my friends to show up for dinner so bored stiff). In a frictionless world the expectation would be that half makes money and the other half loses it, with the whole group normally distributed. Once you account for the frictions, the mean should get skewed by the average transaction cost times the square root of time (or multiple of that depending on the trading frequency).

I wouldn't think you'd see a 50/50 split in a distribution of forex traders. And actually, I'm surprised nearly half are doing that well with IB. But I would think a single whale trading against many smaller traders could significantly skew that number--particularly a successful one. There is nothing normal (in the statistical sense) about the distribution of forex traders in that there are selective forces at work--the obvious one being the 'broker' relationship in the mix.

I also wonder what percentage of the accounts are actually inactive and just earn token interest that can be shown as a "profitable" account. I'd like to see the numbers corrected for those who outperformed treasuries--not just showed a penny or more.

 

[sle]

I wouldn't think you'd see a 50/50 split in a distribution of forex traders.

Why not? If nobody has any skill, it becomes a random distribution more or less, with a zero mean. Once you account for the transaction costs, it would make the majority negative, but by a small amount. Not any different than roulette, except with much lower transaction costs.

But I would think a single whale trading against many smaller traders could significantly skew that number--particularly a successful one

It's a population, I don't see how a single good player would change anything statistically.

There is nothing normal (in the statistical sense) about the distribution of forex traders in that there are selective forces at work--the obvious one being the 'broker' relationship in the mix.

Well, it's a random process nonetheless, with people washing out and people entering at random.

 

[Kevin Schmit]

Why not? If nobody has any skill, it becomes a random distribution more or less, with a zero mean.

Without skill or transaction costs, the distribution of terminal one-year wealth (cumulative trading profits) would have a near zero mean but would be heavily right skewed. The median and mode would be to the left of (less than) the mean. So more than 50% would be losers. The math of this was worked out in a Bouchaud paper around six or eight years ago and is also touched on in Piketty's book a few years ago (and expanded on a little more in a recent paper where Piketty was a co-author, the name of which escapes me at the moment). I'll try to find the Bouchaud paper and post it here tomorrow if I find it.

Edit: The argument in Piketty et al is obscured by their focus on generally positive return on capital (postive interest rate, investment return, rent, ect) but it works out even if expected return is zero. Consider two consecutive coin flips, risking 100% of your stake on each flip. Expectation is zero, but 75% of the time you'll end up minus 1 and 25% of the time +3. A bit like the Petersburg game: expectation (mean) is infinity but you'd only pay a few dollars for it.

 

[QuasWexExort]

I believe the stats are contaminated by fund conversions. I don't trade spot FX but need to convert funds to trade USD futures and so am required to participate in FX transactions. A P/L is attributed to this part and probably factored into the stats.

The stats would be different if these are taken out and only pure spot FX speculators are calculated.

 

[tomorton]

I suspect these statistics are wildly over-optimistic and I have to wonder how they defined the respective groups.

I am a UK-based spread-better mostly in forex and indices. The SB companies here have said for years that at any one time they have only 20-22% of clients profitable.

For me the reasons for widespread failure in forex are -
1. high percentage of account risked per trade
2. chasing reversals instead of following price
3. impulsive day-trading

Most traders are working hard to wipe themselves out, they have nobody else to blame.

 

[Visaria]

The SB companies here have said for years that at any one time they have only 20-22% of clients profitable.

do u have a link for this or were you told this?

 

[Xela]

why do you think forex is harder than the other asset classes?

It isn't.

The huge difference responsible for the very different collective outcomes you've observed (and about which you're definitely right) isn't directly because of the differences between the asset classes: it's mostly because the trading participants of those different markets are different groups of people with different approaches and attitudes.

The entire world of retail forex "brokers" (they're not actually brokers at all - just counterparty market-makers pretending to be brokers) is designed and set up specifically to attract an enormous turnover of customers most of whom are destined gradually, inevitably, inexorably to lose: typically they're undercapitalised, over-optimistic, prone to gambling, attracted by "free bonuses" and competitions, they don't really understand what a broker is, they're typically undereducated (at least in the ways directly relevant to what they're trying to do and how to do it), they're overleveraged, and they tend to have unrealistic expectations which lead to more or less deluded perceptions of what they hope to achieve and how quickly. And the "brokers" concerned are highly skilled at targeting and attracting them, because that's how they make most of their own livings.

Most aspiring forex traders significantly overestimate the extent to which they can make profits quickly (while also actually significantly underestimating how well they could potentially do much more slowly, with the requisite patience and discipline, by developing real skills built on a foundation of numeracy and understanding/experience of the generally counterintuitive worlds of probability and statistics).

"Investors" are - by comparison - far more concerned with capital preservation, and are less gambling-oriented, and unsurprisingly they tend overall to do better.

The asset classes with which each "group" is engaged are necessarily different because of the ways their markets are structured, thus giving the misleading appearance that one asset class is "harder" than the others. In short, the facts you've oberserved are indisputable, but the reason you (and many others!) have attributed to this phenomenon really isn't quite right. Tom's post above, however, is exactly right.

 

[tomorton]

do u have a link for this or were you told this?

Its something I've been told personally and online but its always possible its the same Chinese whisper going round and round. I did see some Youtube clips with SB firm bosses saying this though. I'll see if I can post these.

However, assuming 80% are losing at any one time, the total losers must be higher, as presumably some of the 80% will be either wiped out and have to stop trading or will become discouraged and voluntarily stop trading. If 80% are losing in any 3mth period, some of these will depart and be replaced by another asymmetrical batch of losers and winners and pretty soon if you run this for a year or more you get the 90% losers figure that's commonly held up.

So 80% losers as a snapshot, 90% in total, sounds right. 48%, as in the info in this post, definitely sounds wrong.

 

[tomorton]

Is Xela's post above not the most cogent and elegantly composed piece on the forex market for private retail traders ever posted?

I clicked to "Like" it but I didn't think that was enough.

 

[tomorton]

do u have a link for this or were you told this?

This is from Simon Denham at Capital Spreads, now LCG - http://www.financial-spread-betting.com/UK-spread-faqs.html.
He seems happy with the 80% figure as I remember him using it in this Youtube interview clip too -

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