Thanks to everyone for their insight on this thread. I joined a monthly meetup group about trading, and I am always a little curious about what strategies are out there. In general my findings are similar to my experience in the energy sector. I have looked at 100 “new” alternative energy schemes, and 100 didn’t work.
At the same time you will find thousands of people telling you how much money they make in trading, and that their software really works, bla bla… But the only pattern I found is that when you ask for their track record, then they all of a sudden get offended.
Most of the time it’s clear mathematics. First, let’s say I am a happy investor ala Buffet, and got to a 20% annual return on my investments. Since I hardly trade, I pay about 25% tax on my capital gains and dividends (15% federal + 10% state tax). It’s actually not applied every year, since I can defer tax payment until I sell. On day trading (stocks) I will be taxed 45% (35% federal and 10% state tax). So that alone shows that I would have to make at least 30% annual return to be even with my investment return. But wait there is more. Now I also have to pay some serious money for software, tools, data feeds, and of course the time that I am tying up. Depending on one’s wealth, let’s just call that another 10% extra that I have to make, meaning 40% annual return. Now that’s unleveraged for an apple-to-apple comparison to my investments. Well, I haven’t found the strategy yet that makes me 40%, but I will report when I find it…
Next is risk. That’s a difficult one. Some trading schemes could be safer than a tied up investment, since you could get out quickly, have stops in place, etc. But others could be riskier, if you have a few losses in a row, or something happens to the position you are concentrated in.
Now add leverage, the magic word of the trader. In general, I would say that this just increases your return at the expense of higher risk. Yes, you can leverage different amounts in different assets, but even in some investments you can leverage quite a lot (think real estate). So let’s keep talking in terms of the unleveraged return.
A lot of strategies are skewed to the nature of the market. There are some shallow and wide strategies that attempt to make an average of say 0.2% per day which would give you your >40% annual return. But then you notice that they are mostly long strategies, and in an up year most days might be indeed up a little. But this might not work in a down year (what I am more interested in).
Last, higher inflation is slightly in favor of the investor. If we enter a time like the 70s, or even worse, where the value of the dollar drops every year, trading in and out of cash will have you more exposed to the losses in the dollar. Right now prices have probably doubled in ten years, despite the productivity gains. If that gets worse, trading back and forth might make you a return just to keep even with the price of eggs or milk, while every investment might perform equally.
I met a few people that do trading as a full-time job, so they must do something right. But maybe they made their money on their house or just inherited a few million and are really just treading along. I will report if I meet someone really trading himself from the bottom up (like Chris J?).
For myself I would consider putting 10% of my capital into a trading strategy if I think it gets close to the above criteria (return/leverage/risk), and if it makes sort of fundamental sense with some statistical evidence. At least it diversifies me a little which could be great in a down year.
