Is crossing the road a gamble? It depends on the road, one might say. The difference between a trade and a gamble is knowing (or at least estimating) the odds and playing when they are in your favor. Knowing the odds is a matter of knowing the game, through data and through experience. Doing a U-turn on a small mountain road in China may seem like a gamble because we are distracted by the massive downside, but if the truck driver has done the same move successfully every day for the last 20 years, would you still consider the move a gamble? It’s risky, for sure, but his maneuver is a calculated trade.
The other significant difference between a trade and a gamble is that a trade can be modified along the way, while most gambles cannot. Gambles are binary decisions whose final impact you can’t affect. Trades are made of a series of decisions that change over time. What one can change in a trade is the risk exposure, by changing the size and/or the stops for that trade (however, making lots of changes is not recommended — a change should be part of the plan going into the trade).
The challenge to avoid gambling while trading is clear: estimating the odds.
Any trading plan, whether systematic or discretionary, is essentially a way to gain an edge by having an insight into the odds of a security moving one way or another and building a risk management system that supports those odds. That insight is gained through back-testing with historical data (which is why machines can do this well), but also through experience and analysis. Our brains have an amazing ability to recognize patterns in numbers and pictures so that when new information comes unto the scene, we can see a divergence from the norm, which then becomes a trading opportunity. Stock traders identify patterns in particular ratios for an industry or sector. Technical traders look for patterns of support and resistance on their charts. Other technical traders look for statistical data for patterns. As a commodities trader, I combine a dose of fundamental pattern recognition with a dose of technical patterns, mainly through very simple chart setups.
This also explains why many seasoned traders will tell you that day trading is just gambling. That’s because estimating the odds of intraday moves is nearly impossible. There is a lot of “noise” that moves prices around and it is very difficult to identify patterns and odds intraday. Given the size of the account I’m trading, I’m pushing the absolute limit between gambling and trading, because my timeframes are small and the account’s tolerance for risk is small, leading me to make trades that I wouldn’t do if my account was properly funded. It’s part of the fun, but it’s probably not sustainable. If by God’s grace the account grows to say $50,000 or $100,000 you will see my trading change also. I will start the same trajectory that any successful manager of money takes, the road to lower and lower risk, usually with lower returns as capital preservation becomes that primary concern.
Are your decisions more like trades or more like gambles?