Thought Bubbles from the Deep

[Knobby22]

This is great info and follows closely the results reported from people I know in the industry and studies that have been done.
I note around 50% have + or - $100 ---I figure a large majority of these would not be trading at all.
Infact I believe most accounts are dormant with many brokers.

This is an interesting read.
http://www.uts.edu.au/sites/default/files/PaperGallagherDavid.pdf

As is this.

http://www.travismorien.com/FAQ/trading/futradersuccess.htm

I like this quote from the second document you quoted.

Conclusions of this study: the great majority of traders surveyed had a risk of ruin so high as to make eventual bankruptcy virtually inevitable. The traders with the shortest time frames (day traders) lost the most money and had the highest risk of ruin.

I know a few very serious successful investors and none of them are day traders. I have learnt from my own history that I do best if I undertake trades with a long term focus. Day trading on high margin - a sure way to lose your capital.

 

[DeepState]

Perhaps cheap advice is more expensive than it might seem.

The evidence suggests, however, that the most over-confident amongst the less experienced/knowledgeable are blown away. These are often the same who eschew external advice, pronounce professionals as charlatans, have very strong opinions and are not data rational, let alone internally consistent in argument. Might ring some bells. Might not.

 

[tech/a]

Suggests to me they just don't know how to trade.

 

[DeepState]

Suggests to me they just don't know how to trade.

One step more, perhaps. Don't know they don't know.
Even worse...go on to tell everyone one else what they think they should know.

But, then, I have to catch myself...how do I know I know???

 

[luutzu]

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Perhaps cheap advice is more expensive than it might seem.

The evidence suggests, however, that the most over-confident amongst the less experienced/knowledgeable are blown away. These are often the same who eschew external advice, pronounce professionals as charlatans, have very strong opinions and are not data rational, let alone internally consistent in argument. Might ring some bells. Might not.

Is it just me or are you actually talking about me there

Why the bad blood DS? I kinda like you.

Serious, you're alright. Just you think everyone ought to agree with you for some reason.

 

[craft]

One step more, perhaps. Don't know they don't know.
Even worse...go on to tell everyone one else what they think they should know.

But, then, I have to catch myself...how do I know I know???

I don't know.


Good post - subtle and deep.

 

[get better]

DS, very interesting articles you've posted there. I'm particularly interested in the article by Fong et al.

What journal is that from? Has it been peer reviewed?

When I get a chance I'll have a more detailed look at where they got the data from and what assumptions they've made. They make a few scathing statements about traders in their abstract - am very interested in the basis of their research.

 

[DeepState]

DS, very interesting articles you've posted there. I'm particularly interested in the article by Fong et al.

What journal is that from? Has it been peer reviewed?

When I get a chance I'll have a more detailed look at where they got the data from and what assumptions they've made. They make a few scathing statements about traders in their abstract - am very interested in the basis of their research.

Fong et al was not published in a journal. The article was sourced from Tech/A. Here is an SSRN link:
http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1364978

The authors are quality guys with senior positions at our top finance schools (Snr Lecturer, Assoc Prof, Prof). I have met Gallagher in arm's length business interactions. He analysed trading data from my firm as part of a wider study and we managed money for a common client. As a group of three amigos, they published quite a bit that made it into journals.

Interested in your thoughts.

The earliest similar piece of research I know of was Shiller several decades ago who examined the trading records of a brokerage firm in a way that seems to have inspired these guys. He found that those who traded more frequently lost a lot more money. They had a certain demographic....

 

[So_Cynical]

Perhaps cheap advice is more expensive than it might seem.

The evidence suggests, however, that the most over-confident amongst the less experienced/knowledgeable are blown away. These are often the same who eschew external advice, pronounce professionals as charlatans, have very strong opinions and are not data rational, let alone internally consistent in argument. Might ring some bells. Might not.

Having a week off work so have some time to kill, spent a few hours reading through 4 of the new listed LICs, they espouse thier professionalism, have uni degrees out the ying yang, flashy web sites, have top down and 5 stage stock evaluation strategys, pay themselfs millions in fees etc etc etc. Couldnt help but notice that there doing pretty much what i do, stock picking and getting a slightly better than average return.

5 hours of reading to come to the inescapable conclusion that these guys are rorters, system rorters, finance professionals that set themselves up to play with other peoples money so they can get a 20% out perform fee for beating the benchmark (RBA cash rate plus 250 bps) - its a rort.

 

[systematic]

There's been a few papers on individual investor's trading. I can't for the life of me think of the one that I want to remember - it was recent and showed individual investors underperforming the average fund (which in turn, underperforms the index). So - no more bagging out the funds for underperforming the index.
I think it might have been the same paper that suggested individual investors typically grossly overstate their performance. I'll have to go through my files to see if I can dig it up.

Anyway. There's been a few on this topic. Terence Odean has written a lot on individual investors. He co-authored a look into day trading on the Taiwan futures exchange (there was another group who looked again several years later) - basic conclusion is that the day traders pretty much sucked (surprise).

Wei Chen looked at the Chinese market and showed that individuals went backwards (losing money) whilst institutions made a few percent per annum.

Terence Odean also did an overview of research on individual investors, you can read on ssrn which showed that individuals pretty much do everything wrong: over-trading leading to large costs and tax burdens, selling winners and holding losers, not diversifying enough and being influenced by media.

A later look at the Taiwanese day traders showed that less than 1 percent of them earned post-cost abnormal returns. So, it is doable (for anyone who says it isn't)...but you need to be the 1, and not the 99.

 

[tech/a]

I personally look at it this way--its how I approach my trading and where I sit in the 100% of those who are in some way involved in the Stock Market (Embracing all forms from Options to Futures to Currencies to Stocks).

Around 90% fail in business.
Of the 10% that succeed 90% are self employed---as in they generate their own wage and not a lot more.
10% of the 10% (1%) Excel---they build big businesses---some really big---they become experts in their field.

I realised a long time ago I wasn't going to be George Soros--didn't--dont want to be.

I also realised I could be in the 10% so that was my target---here I don't have to spend the hrs required to be in the 1%. I don't need to.

I can and do regularly make a good wage from my trading---sometimes many days in a row!
Its stress free
Its fun
Its worth the effort
Its comforting
Its challenging

I don't have to worry about valuations/reports/expert opinion/ability---I know what I know.
I'm where I want to be.

Sure it took me many years of education but now its only an hr or so a day---when I want to---when I have time--when I see clear opportunity.
The return on net worth is minor---it doesn't have to be----even 10% on net worth! ---but on funds employed more than satisfactory.

Id rather play the zero sum game with the 90% losers and the 10% winners than the 1% experts.
Sure they are there but they work for me.

 

[pixel]

Couldn't have said it better myself, tech/a
As long as you're alive, doing what you enjoy and enjoy whet you're doing - who cares about anything else!

 

[So_Cynical]

There's been a few papers on individual investor's trading. I can't for the life of me think of the one that I want to remember - it was recent and showed individual investors underperforming the average fund (which in turn, underperforms the index). So - no more bagging out the funds for underperforming the index.

The super review of a couple of years ago showed that SMSF's (individuals) outperformed managed funds (professionals) by quite a margin.

 

[tech/a]

The super review of a couple of years ago showed that SMSF's (individuals) outperformed managed funds (professionals) by quite a margin.

They could have probably done that doing nothing!---well not quite.

http://www.superguide.com.au/comparing-super-funds/smsfs-outperform-large-super-funds

 

[craft]

The super review of a couple of years ago showed that SMSF's (individuals) outperformed managed funds (professionals) by quite a margin.

The statistics show that size matters with SMSF's



https://www.ato.gov.au/Super/Self-managed-super-funds/In-detail/Statistics/Annual-reports/Self-managed-superannuation-funds--A-statistical-overview-2012-2013/?anchor=Appendix1#Appendix1

 

[systematic]

The super review of a couple of years ago showed that SMSF's (individuals) outperformed managed funds (professionals) by quite a margin.

I won't argue with that - who knows, maybe Australians running SMSF's are the 1 percent.

Couple things though...
I thought the emphasis here was on short term trading? Regardless, investors overall (at least in US studies) seem to under-perform the funds (which under-perform the index).

Again - maybe Australian SMSF investors are better than the funds. But a couple things to note are:
the period tested is short (like, 7 years), and interestingly - covered the GFC period. That's interesting, because SMSF's tend to be quite cash heavy - which of course ended up being a good thing over that period, but doubtful that it's a good thing longer term.

Finally - 4.3% vs 3.7% - is that, 'quite a margin?'

 

[DeepState]

I won't argue with that - who knows, maybe Australians running SMSF's are the 1 percent.

Couple things though...
I thought the emphasis here was on short term trading? Regardless, investors overall (at least in US studies) seem to under-perform the funds (which under-perform the index).

Again - maybe Australian SMSF investors are better than the funds. But a couple things to note are:
the period tested is short (like, 7 years), and interestingly - covered the GFC period. That's interesting, because SMSF's tend to be quite cash heavy - which of course ended up being a good thing over that period, but doubtful that it's a good thing longer term.

Finally - 4.3% vs 3.7% - is that, 'quite a margin?'

The difference in performance arises from some combination of differences in exposure to broad assets, how well they each do within these assets and timing effects.

The Shiller mention I made before was in error. Your mention of Odean corrected my recall. This detailed work was published in 2000. This is the abstract from the Journal of Finance:




This is the key chart:



You will have lots of other data saying pretty much that the average underperforms the index and the more you trade, the worse the result is on average. There are other interesting correlations we could explore given your penchant for data (thankfully).

There will be data around about the performance of fund managers against the benchmarks. In aggregate, it is a given they will underperform the index after expenses. Before expenses, but after brokerage, the evidence isn't quite so stark. Thus, from a straight investment skill perspective, I'll make the statement that, on average, professional fund managers are not as bad as retail investors who trade a lot. Controversial, I know.

We can then move to market timing. The below is from Morningstar. Right across the board, money weighted returns from retail flows show a devastatingly poor outcome. You would be very hard pressed to find institutional losses from market timing of this magnitude. They exist, but amongst the insto long-only medium/long time horizon stuff, it is very uncommon and not central case - particularly over the long periods as analysed here.



The key other element is differences in bulk asset exposures. SMSFs are overweight (rel to 'Large Funds') direct property of various kinds (possibly? boosted my inflated rents they pay to their own assets as part of tax optimisation arrangements). They are underweight overseas shares (surprise!) and overseas assets in general.

---

My 2 cents:

To the extent that bulk asset exposure led to outperformance, part of it is tax driven property exposure as opposed to outright investment skill. Part of it is natural home country bias of a fairly extreme kind. Exposure to credit style investments (which below up over the GFC) is pretty much remote (just ask FIIG). How much of the contribution to the difference in performance that arises from this could be regarded as skill?

Then, as shown, market timing is really bad in aggregate. It is an absolute shocker. Check out ASF post volume relative to market move...sell low, buy high. Retail flow is one of the most reliable counter signals going. Sector performance is awful for the high frequency guys (almost inevitably). Also, the ATO shows that costs for the larger sized SMSFs (>~$1m) are actually cheaper than most industry funds.

If you actually know what you are doing and calibrate this with how you invest and keep an eye to costs and taxation, you can reasonably expect do better on your own than investing via professionals on average. Even then, you may wish to delegate some aspects out. It's your choice to index or go active if you farm it out. No one forces you to buy anything.

If you have limited experience/knowledge, think things are simpler than what they are, are a young to mid-aged male, trade a lot, enter the markets as a trader to get into the kind of circumstance where you might hit some kind of a lottery win....on average and in great likelihood, you are totally cactus. Anecdotal evidence suggests that quoting Buffett a lot on ASF is no defence. Naturally, this segment learns best from direct experience and pays no regard for the data. It is partly for this kind of reason that there are so many service providers democratising access to markets. It is liberating...money from these guys into the pockets of others.

The authors in the ASF ecology could do worse than to collate the advice and prognostications made on these threads into a book to highlight what this archetype looks like and what happens for the most part. This book, if written, should sell well and deserve broad readership. It obviously won't get that.

 

[get better]

Fong et al was not published in a journal. The article was sourced from Tech/A. Here is an SSRN link:
http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1364978

The authors are quality guys with senior positions at our top finance schools (Snr Lecturer, Assoc Prof, Prof). I have met Gallagher in arm's length business interactions. He analysed trading data from my firm as part of a wider study and we managed money for a common client. As a group of three amigos, they published quite a bit that made it into journals.

Interested in your thoughts.

The earliest similar piece of research I know of was Shiller several decades ago who examined the trading records of a brokerage firm in a way that seems to have inspired these guys. He found that those who traded more frequently lost a lot more money. They had a certain demographic....

I had a chance to have a more detailed look at the paper tonight.

Major observations:
- Intraday profit is calculated by netting all buy and sell trades for each stock on the ASX based on time period - see Table 4 of the paper (would be good if someone could confirm - it's been a long day!). This is an extremely major assumption. I believe this does not conclusively state that trading is unprofitable. There is no clear correlation between net intraday buy and sells and profits from intraday traders. The main reason I say this is that this data set also includes investors that may be buying or selling at that point in time. To counter this argument, you could say that traders would account for the majority of the buying/selling but to counter this counter argument you could also say that day traders are a minority compared to investors. Overall, the assertion that individual investors incur significant losses to institutional investors from intraday trading appears to be inconclusive.

- 84% of turnover is by institutional investors. This is a huge data set that is being ignored in terms of determining whether trading is profitable or not. However, in the context of the paper, we are only looking at the individual investor.

- Credibility of the research appears questionable. The credentials of the authors appear to be good. However, any academic paper should be peer reviewed (unfortunately it's not a journal so I can't check). Not only this but we do need to be careful about taking the abstract as gospel, we need to be objective and take it within context - this is something the media do terribly, always taking 'research' out of context and making outlandish statements (one of my pet peeves).

- More of a subjective opinion of mine but the paper looks like it was something I would write for a university assignment... the overall quality does not excite me.

Conclusion
I feel that the findings of the paper are inconclusive due to the assumptions made in determining intraday profit. However, I would be interested in knowing if there is research based on actual sampling of real day traders or investors analysing their profitability over time. In addition to this, it would be interesting to see what demographic/behaviour/characteristics these people exhibit . My personal anecdotal evidence suggests that the most significant influence on profitability is the behaviour exhibited by the trader/investor than whether they day trade or invest.

Oh, and just FYI, I don't take a pro technical/pro fundamental view (kinda sounds like I'm bashing fundamentals/investing), I feel that both trading and investing have their strengths and weaknesses, both of which I'm endeavouring to learn and incorporate into my overall investment strategy.

Also, here are a few notes I made while reading the paper if you're interested.

Pros
- Data is sourced from the ASX SEATS trading data (actual data source is from SIRCA)
- FY end book-value data also sourced from Aspect Financial
- Brokers are classified as retail or institutional and is obtained from a variety of sources (newspapers archives, trade magazine articles, and consult senior practitioners) - the basis of this appears to be sound however no citation has been provided
- The assumption is made that individual investors tend to be predominantly serviced by retail brokers - a sound assumption
- Data remediation appears to have been performed, unable to determine whether it was appropriate (Four broker IDs removed - unknown magnitude, 3529 ticker day pairings also removed - 61% of which occurred in 1990), lack of documentation or citation is a concern
- Intuition of their model suggests that certain aspects of the market tend to attract uninformed investors which exacerbates losses of the individual investors group - a very interesting statement worthy of a research paper on in its own right

Cons
- Individual investor is used throughout the paper - it does not specifically mention any delineation between investors/traders
- No charts or visuals to summarise or simplify findings
- SIRCA data was missing 6.7% of ticker/days or .69% of total turnover for the sample period, this could potentially be a massive oversight - it really is dependent on the magnitude of the ticker data
- Data sourced ranges from Feb 1990 to Dec 2007, technology has advanced significantly since then, I would be interested to see the profile of the data over the period to see if technology has benefited these traders
- A few citations date from 1988 to 1995 I would question the validity of past research given the significant advances in technology over the last decade

 

[get better]

Oops, forgot to also mention this:

This research was funded through an ARC Linkage Grant (LP0561160) involving Vanguard Investments Australia and SIRCA.

I'd be careful with any papers funded by Vanguard - they may have an ulterior motive in dissuading trading.

 

[DeepState]

I had a chance to have a more detailed look at the paper tonight.

Seriously great stuff!

Major observations:
- Intraday profit is calculated by netting all buy and sell trades for each stock on the ASX based on time period - see Table 4 of the paper (would be good if someone could confirm - it's been a long day!). This is an extremely major assumption. I believe this does not conclusively state that trading is unprofitable. There is no clear correlation between net intraday buy and sells and profits from intraday traders.

This is correct. All this says is that the buy/sell-hold performance of individual investors is negative on the day of execution. It does not represent the full round trip. Hence, they are losing money on intra-day trades...on the day of execution.

Over the slightly longer term, if these positions were held unchanged, individuals actually beat institutions in aggregate (not stat significant). However, retail full service broker trades did a lot better and retail discount brokers trades did a lot worse. That was very statistically significant. What they are implying, and I tend to favour this, is that informed sub-institutional sized investors/traders can do well. There are simply less market frictions and this makes up for a lot of any further advantage institutions have relative to full-service brokers on price sensitive information (if any).

Then there was this: "Purely cost conscious individuals, eg. those who are self-reliant, over-confident or liquidity motivated, are likely to choose discount brokers to satisfy their trading needs."

I don't see referenced data to support the above, but private client advisers at Morgan Stanley don't tend to day trade on behalf of their clients.

---

This is from IG Markets. It related to CFD account activity in 2014. A very recent piece of data (as was the FX stuff posted previously) to highlight outcomes. CFD is not exactly a market place for buy and hold investors.

So, if CFD accounts are predominantly retail by number and these are predominantly short term traders...talk to an account manager or turn up to their info nights and check for yourself...check the demographic...then listen to their trade rationale and trade type for the most part. A swing trader is positively passive.

AND...I assume that if you are profitable, that you tend to keep trading....

THEN...check this out.



Out of 42k CFD accounts, 8k re-merged from slumber lasting more than 12 months, 10k were fresh meat (me included) and 17k went dormant. Are these the kinds of stats that indicate broad based profitability or mass extinction followed by a new wave of fresh meat each year? CFD penetration is still minuscule relative to population so there is a ready supply of fresh hopefuls.

17k of around 40k who traded in 2013 were dormant in 2014. Would you go dormant after turning in a 30% profit on capital? No wonder the new account guys at IG are so stressed. Prior year data was not available from IG..who run this survey.

Add this to the stuff from the Forex group previously posted and you have real live data which reflects current conditions. These fall short of actual performance numbers in the case of CFD accounts, but I'm fairly confident the account behavior is correlated with profits. This aligns with Fong et. al on the lack of profitability from discount brokerages. It aligns with Barber and Odean. It aligns with BIS on retail FX in in 2013. It aligns with Morningstar. You/Systematic have other stuff. You have the makings of a meta-study. I am looking for counter evidence that high frequency leads to high profit (outside of HFT algo by insto) in aggregate. I do not know of something material (anything).

Given your arguments that a change in market structure over recent times obviates historical study, I suspect you'll only be convinced when you talk to/become a broker/adviser at a CFD place whereupon any alternative thesis to high frequency, short term, trading as a reliable means to monetary loss for retail clients will be firmly shuttered.

---

This is a very recent article on high frequency technical trading...in a peer reviewed journal. Shefrin is a behavioural finance legend. Compare the comments with thread contents in ASF...consider the implied trading activity of fundamentally oriented posts...they don't day trade as fundamentals don't operate on that time scale.



[Anyone reading this from the Diversification threads?]

You can make seriously big money trading on short term movements. However, the nature of the people who do this are seriously uncommon and they tend to sit closer to the hub of trading flow...rather that at the other end of some CFD/discount on-line terminal.

---

Overall, this is a newbie alert. The path from young, hopeful, high frequency, short-horizon, trader to dormant account is fairly well worn. I think you'll find that those who emerge from dormancy after a period of savings to replenish accounts tend to become dormant again too. A quick chat to the CFD account managers can clarify that.

This game is seriously hard. However, it is seriously easy to get on the field.

Enter at own risk.