9/10 – Do Retail Traders stand a chance against professional traders?

I recently raised a thread on the Trade2Win forum asking what edges retail traders could have over professional traders.  This should also be read in conjunction with my strong opinion on the challenge posed by relatively high transaction costs for retail traders.   See a post on that topic here.  And also a discussion on some related practical points here.

Anyways, shortly after raising the above question, I happened to revisit one of the books on the shelf in our trading office: “Quantitative Trading” by Ernest P Chan.  This book includes a chapter entitled “Can Independent Traders Succeed?” with the gist of the question being whether they are able to compete with large professional traders.  I thought this would be useful to share here.  (I had already posted the material on T2W, but thought I re-post it here)

His answer is a solid yes, with his reasons being, in summary (bearing in mind that the author focuses strongly on Quantitative Trading):

1. “Capacity” – there are often situations that can be exploited with a smaller level of capital but not with a large amount of capital. Thus the independent trader should have a lot more opportunities. Another way to look at it is to say it’s easier to make 20% on $100k, then it is to make 20% on $100m. IMHO, an example would be trading strategies revolving around exploiting round numbers in FX.

2. Intense competition among hedge funds trying to exploit the same edge, regularly leads traders to over-leverage, and potentially cause a market meltdown if everyone then tries to exit at the same time. Retailers don’t have this pressure to compete or over-leverage.

3. Retailers do not have constraints imposed by management as to what instruments they should trade and/or how they should trade them. Retailers have more freedom in other words. They are generally free to trade their view, which professional sometimes are not. (my own 2p here would be to say that the increased regulation since 2007/2008 has created further additional restraints on professional traders [which has reduced the amount of prop trading done by banks] – again something not applicable to retailers)

4. Influence from management in wanting to allocate loads of capital to a strategy as soon as a strategy shows promise, and wanting to cut funds as soon as there is a drawdown, instead of simply rigidly sticking to original money management parameters (I guess in this context the trader has to battle with the emotions experienced by his non-trading managers)

5. High risk appetite for professional traders because they are not trading their own money. Unlimited upside in terms of share of trading profits, limited downside (because they are not sharing in the losses) – this has a negative impact on their trading activity in that most likely they are adopting more risk than the retailer who is trading his/her own funds.

Btw, I thought it was a good practical book on how to go about building a full-time or part-time trading business. Written in 2009.

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2 Responses to 9/10 – Do Retail Traders stand a chance against professional traders?

  1. FXTraderPaul says:

    George I’ve often said that one of the biggest edges that retail traders have over institutional traders is that they don’t have to trade. When markets (or trading performance) are challenging they can sit on the sidelines and wait for better times. They are not forced to trade. Its one of the biggest edges they have….and yet they give it up time and again. Why? Probably because most of them are under-capitalised for their objectives and so are chasing the money. Or alternatively they have been conditioned from 15,20 or 30 years+ of having to work every day. They feel a need to do something. To feel like a trader they feel they have to be pulling the trigger, even when its probably counter-productive.

    Liked by 1 person

  2. Pingback: 21/12 – Retail Traders & Automated Strategies | George's FX trading blog

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