Speculative trading, to some extent, is a kind of probability game. No trader can be 100% sure of the future direction of prices. Traders judge the future trend of the market based on fundamentals, technical analysis, or various other means, and then establish positions and take risks according to the reliability of their expectations. Mature traders must establish a complete set of trading systems of their own, which should include the selection of trading varieties, the generation of trading signals, the limitation of position size, the setting of stop loss and trailing stop loss, and the setting of signals for increasing positions and closing positions , feedback summary and other links.
What is the probability of bankruptcy
It is worth noting that the research object of a trader is not a transaction, but all transactions within a long period of time as the research object. For professional traders, it is the gains and losses of many years or even a lifetime of trading. In the futures and foreign exchange markets, many traders have been bankrupt or on the verge of bankruptcy. Here comes the probability of bankruptcy.
So, what is the probability of bankruptcy? Simply put, the bankruptcy probability of futures speculation refers to the probability of losing most of the principal after conducting multiple transactions under the guidance of a relatively mature and fixed trading system, making subsequent transactions impossible. To accurately calculate the bankruptcy probability of a certain trading system requires advanced mathematical knowledge, which is difficult for ordinary traders. However, this concept is very important. Traders must have an understanding of the bankruptcy probability of their own trading system, and try to avoid tragedies. This article tries to explain this problem in simple language and under a simplified model.
Heavy position trading is the root of bankruptcy
Assuming that a trader already has a trading system, the theoretical rate of return for each transaction is 1.05, that is, the principal invested in each transaction can obtain a return of 5%. This, then, is a good system that should be profitable in the long run. And since this is a trading system with a positive rate of return, does it mean that the bigger the transaction, the more you earn?
We can turn this problem into a probability game: toss a coin with the same quality on both sides and the same probability of up and down, and guess which side is up, you can get a reward of 1.05 times the bet principal. Obviously, this is a probability game with a positive rate of return. Assuming that the principal is 100,000 yuan, which strategy should be adopted to play this game? If the strategy adopted is to play with all the principal and only play once, then it is very simple, the bankruptcy probability is 0.5; if you play and only play twice, then the bankruptcy probability is 0.75; if you play and only play three times, the bankruptcy probability is 0.875 . By analogy, it is not difficult to find that if the principal is all-in each time, the more times you play, no matter how many times you have made a profit, you will inevitably lose everything, and the probability of final bankruptcy is close to 1.
From this, we can draw a qualitative conclusion: For futures speculation, no matter how accurate your judgment and forecast are, as long as you are often full and heavy, there will always be a transaction that will bankrupt you, waiting for you at the end of your trading career you. It is difficult for traders who are greedy for short-term profits and often hold heavy positions to die well. They are meteors in the futures world, shining but short-lived. The well-known American speculator Jesse Livermore once acquired an incomparable wealth in his life, but committed suicide after the fourth bankruptcy. Therefore, traders who want to speculate in futures for a long time should not only consider obtaining profits, but also how to obtain profits stably for a long time, and whether they have paid too much psychological cost in the process of obtaining profits.
Light trading is good for mental health
The purpose of trading is not just for money. If you're risking bankruptcy or even suicide for money, consider whether it's worth it. If you always take huge financial risks, you will inevitably bear huge psychological pressure for a long time. If things go on like this, it will definitely induce various mental diseases to varying degrees, such as depression or mania. Even if you wash your hands in the golden basin in the end and return with a full load, but your life is not happy, what is the use of money? What's more, the high probability result of this transaction method is bankruptcy.
Still in the above example, if you only take out 10,000 yuan to bet each time, you will only go bankrupt if you make 10 consecutive mistakes, and the probability of bankruptcy is less than 0.001. This number is small enough to allow a person to sleep peacefully. Even so, it is not impossible to lose 10 times in a row and lose 100,000 yuan. However, because you can make a profit of 500 yuan every time you guess correctly, you may have won several 100,000 yuan before making 10 consecutive mistakes. In actual combat, a mature trading system only bears the risk of 0.5%-1% of the total funds per transaction, which can reduce the probability of bankruptcy to close to zero.
The above example is just a simplified model, but it is not difficult to draw a conclusion: first establish a trading system with a positive rate of return, and then operate with a light position. Don't do futures and foreign exchange with the mentality of getting rich in the short term and making a fortune. That's like a small boat bumping on the stormy sea, with your destiny out of your control, and you will be doomed in the end. Only by having a peaceful mind, diversifying risks, and controlling the position of each transaction within a reasonable range, can you freely go boating in the picturesque Peach Blossom Spring.
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