Day Trading... pure luck?

Is there any ‘skill’ in day trading or is it all a game of pot luck? Also… have people made lots of money from day trading?

Any one got the low down?


I’d have to look it up but there seems to be a large element of luck in stock trading.

The Wall Street Journal and a few other publications have done things like have people throw darts to pick stocks, have the trader’s secretaries pick stocks and a few others and in every case the ‘random’ or ‘less knowledgable’ stock picks did as well as the trader’s picks.

My favorite one of these was a competition between a Wall Street broker, a 7th grade class and a monkey (the monkey had stock names written on cards and scattered about…whichever the monkey grabbed became the monkey’s choice).

For the first few weeks the 7th grade class led, then the monkey and then the trader. After 3 months, when it ended, the 7th grade class did the best, then the trader and finally the monkey.

This is not to say being knowledgable isn’t worthwhile. At the very least anyone who actively trades should have a firm grasp of economics and the various vehicles for trading (i.e. the differences between common and preffered stock, bonds, futures, etc.).

In the end, however, ‘educated’ guesses seem to consistently fare little better than outright guesses in the long run.

It’s really quite simple. Here’s how it works…

  1. If someone you know gets involved in day trading, and makes money, it’s a game of luck. (If rule 3, or 4 is in effect, then rule 3, or 4 takes precedence.)

  2. If someone you know gets involved in day trading and looses money, it’s a game of skill, but the guy’s just a chump. (If rule 5 is in effect, then rule 5 takes precedence.)

  3. If you are interested in day trading, it’s a game of skill. (This rule applies regardless of rules 1 and 2, but if rule 5 is in effect, then rule 5 takes precedence.)

  4. If you get involved in day trading, and make money, it’s a game of skill. (This rule applies regardless of rule 1. Day trading being a game of skill is further evidenced if rule 2 is also in effect. If both rule 4 and rule 2 are in effect, you are entitled to gloat childishly, and flaunt your money when around said person in rule 2.)

  5. If you get involved in day trading and loose money, it’s a game of luck. (This is the most important rule, and will trump all other rules.)

Seriously, yes, people can make money that way. They can also lose their shirts. Particularly because of the amount of flat-out nonsense that abounds about formulaic “trading systems” and so on. To really make money at it consistently requires that you spend all day glued to your screen, researching, scanning news services, reacting to moves, using your intuition, etc. At which point, it becomes a job. And, no matter how good you are at it, you will guess wrong sometimes - you have to learn to cut your losses quickly, and move on.

For those of us not prepared to do that, it is better to be investors interested in longer time frames, and not worry about the day-to-day fluctuations of our holdings.

A good analogy might be a horse race - you have bettors that study the form, consider the track conditions, etc, and compare their judgements to what’s going up on the tote board. They may do better in the long run than the bettor that likes a particular horse’s name, but there is a large degree of uncertainty involved. All you can do is get the odds to be slightly in your favor, and you have to WORK at it.

Read A Random Walk Down Wall Street. If Burton Malkiel’s right (and a lot of people think he is), then yes, the ups and downs of day trading are primarily based on chance. Most “casual” day traders are focusing on short-term gain, which, Malkiel asserts, is impossible to predict.

Well like everything else with money, the people trying to talk you into doing it can play games with the math involved. I saw one add where they truthfully claimed that within one certain month the average daytrader made great profit. For example,(from this point on all numbers made up) 100% gain. The problem with claims like that is that average of percents is really misleading. The worst you can do with stocks is lose all the money you put in, or -100%. But the best you can do is theoretically limitless. So if 9 guys invested $10000 dollars, and ended up with $5000(), and one guy got lucky and turned his into $155000, then the average was $20000(100% profit) when in reality 90% of day traders lost money.
But the important thing to them is, they get a commission on every trade whether you made or lost money, so they will make more if you trade every day, rather than sit and wait.

In general, any finance book will tell you that the trend is for a stock price to go up if:

  1. it is IPO or an equity carve out (spun off subsidiary)
  2. the company declares a first time dividend
  3. the company has higher than expected EPS (earnings per share)
  4. the stock splits
  5. the company repurchases stock to build treasury holdings (i.e. decreases supply)
  6. the company has a voluntary divestiture
  7. leveraged buy out (company going private)

(from Financial Management - Concepts and Applications by Rao, et al.)

Note the KEY word there being ‘trend.’ Any given circumstance may yield completely opposite results.

In my own little perverted world of pharmaceuticals, you see slight jumps in stock price with each progressive step of a drug moving through the regulatory approval process. Upon the sucessful completion of a Phase III trial and granting of an NDA (New Drug Application) that’s when you see the stock explode in value. Also, heavy purchases of the drug by major HMOs who put it on their formularies will do wonders for your pharma stock.

Or there is the illegal way:

  1. Find the name of a random guy in the Microsoft Finance department who doesn’t answer his phone or is on vacation (should be easy) and has a voice-mail voice similar to your own
  2. Find the name of a reasonably priced, small public software company and buy their stock.
  3. Start calling analysts who follow the stock of the small company you just bought and tell them you are (guy on vacation) from Microsoft and are interested in their reports on the company because of Microsoft’s “interest” in entering that industry.
  4. Sell your stock the next day at double the value because the analysts will assume Microsoft will be acquiring that smaller company and leak the information to all their broker buddies and will only get voice mail at Microsoft when they call to confirm who you are which will be good enough in their minds to validate their assumptions.
    And no, I have never, nor would ever do this and don’t really recommend it. Unless you want a full blown rectal exam from the SEC and/or IRS

I wouldn’t advise someone to become a day-trader, if that’s your question. Most of the time, though, the risk is not worth the reward, especially if you are using an online broker. With Capital Gains (Unearned Income) taxes at around 40%, and online execution being delayed, it becomes more difficult, and stressful. But, If you’ve got the dough, software, and technical expertise, you can make money (although I wouldn’t recommend embarking on a day-trading career in this market).

Well, there is a lot of money to be made in the short term, especially if you know what to look for. I’m not a day trader, because I hold on to a stock as long as I feel comfortable with it. However, I am only interested in short term gains, so I guess I am qualified to comment. A lot of money is being made on penny stocks, cheap stocks with few assets or profits and TONS of shares. Also, a lot of money is being lost.
The reason penny stocks are interesting is because if you pick a winner, the stock price will multiply anywhere from 5 to 10 times in under a week. The trick there is to get the hell out of there before the price falls down to more rational levels, which it almost surely will. An example of mine is FASC. I bought a bunch in late January, and the price was around .09. I sold in late February, and it was at about .75. That was a nice little return, and I went on a trip to Europe not long after, compliments of the stock market. Another company was ARET. $1000 invested last August would have netted you about $6000 in January. Whoever likened it to horse racing was right. It’s a side obby, maybe a way to make some money. I certainly wouldn’t play around with money that was my retirement or food money.

Some day traders make money (other than through luck - ie their trades have a positive expected value, or EV). However, they are connected with large firms, and get information faster than the public generally does. They also are in a preferred position for IPOs and other special purchases.

The average investor working at home is dealing with stock prices which already reflect the current information. Therefore, their moves become essentially a random walk.

Day traders may have been making money, but only because the stock market has been climbing, and therefore the random walk they are following has an upwards bias. If the market holds steady or declines, they stand to lose because of commissions. And even during the rising market, they would have done better to just buy-and-hold their stocks.

If you read much of the casual trading literature, it bears a striking resemblance to the bad gambling books and systems in print. They talk about locking in profits, knowing when to quit, etc. The same ‘logic’ you’ll hear from your uncle Louie with the bad roulette habit.

The commissions will eat you alive.