This keeps you opposite hedgers as much as possible. As counterintuitive as it seems, if you buy higher highs and sell short lower lows, and you use solid money management to manage and exit trades, you can find a mathematical edge in the long run. Of course, other speculators with bad strategy can provide winners with their gains too. The reason for this is that hedgers use the markets for risk insurance, and insurance premiums always cost money. The players in markets who lose over the long run are generally commercial hedgers. Thus, every time there is a buyer betting that prices shall rise in the future, there is an equal seller taking the very opposite bet, betting that prices will fall.” Money is neither made, nor lost, in futures it is simply moved from one pocket to the next as margins are swapped at the close of trading each day. That is, unlike the world of equity trading where there needn’t be equal numbers of longs versus shorts, in the world of futures dealing there is. “In the world of futures speculation, for every long there is an equal and opposite short. Market voice Dennis Gartman adds to the perspective:
In futures markets, one trader’s gain is another’s loss.” In the stock market, all investors (buyers and sellers) can profit in a rising market, and all can lose in a falling market. “For every trader betting on higher prices, another is betting on lower prices. Nobel Prize winner and co-founder of famed trend following incubator Commodities Corporation Paul Samuelson adds:
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Recognizing your edge is a prerequisite to predicting whether trading will be pro table.” If you know you have no edge, but you must trade for other reasons, you should organize your trading to minimize your losses to those who do have an edge. If you have no edge, you should not trade for profit. In the long run, however, winners profit from trading because they have some persistent advantages that allow them to win slightly more often or occasionally much bigger than losers win…To trade profitably in the long run, you must know your edge, you must know when it exists, and you must focus your trading to exploit it when you can. “On any given transaction, the chances of winning or losing may be near even. Harris is clear on what separates winners from losers: This is a poorly thought out yet all too common view of the losing trader’s mindset. Although they want to win, many do not want to live with the guilt by their winning, someone else has to lose.
They cannot live with the fact everyone can’t be a winner. There are those who absolutely do not accept that there must be a loser for them to be a winner. Their trading losses fund the winning traders who make prices efficient and provide liquidity.” Markets would not exist without utilitarian traders.
Hedging and gambling provide other external benefits. The most important external benefits are expected returns from holding risky securities that represent deferred consumption. Traders are willing to lose when they obtain external benefits from trading. “Winning traders can only profit to the extent that other traders are willing to lose. He does this by categorizing traders by type and then evaluating speculative trading styles to determine whether the styles lead to profits or losses: Harris examines the factors that determine who wins and who loses in market transactions. Harris told me he was amazed at how many people came from my websites to download his white paper on zero-sum trading–the topic left out of most strategy discussions. In a zero-sum game, someone can win only if somebody else loses.” “Trading is a zero-sum game when gains and losses are measured relative to the market average. The zero-sum nature of many markets is arguably the most important concept in markets. He obliged and connected me even though my book at that moment was conceptual. Without skipping a beat I said sure to a review of his book, but asked for an introduction to his publisher, since I was writing a book, too. He wanted me to review his new book because I was driving more interest in his whitepaper, The Winners and Losers of the Zero-Sum Game ( PDF), than anyone else. Larry Harris, the finance chair at the University of Southern California, randomly e-mailed me. Six years into this website I decided it was time for a book or maybe the book decided it was time for me. Tulipmania: Human Behavior Stays the Same.
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