Probabilities

We have paraphrased some of Mark Douglas's work here but the ideas are all his. The subject of probabilities must be understood along side expectancy as Chuck Branscomb aptly states.

“At the heart of all trading is the simplest of all concepts—that the bottom-line results must show a positive mathematical expectation in order for the trading method to be profitable.”

Once you have demonstrated your system has a positive expectancy (your edge) you then must allow the probabilities play out with out any deviance from the trade plan.

“What casino owners and the best traders understand that the typical trader finds difficult to grasp is: Events that have probable outcomes can produce consistent results if you get the odds in your favor and there is a large enough sample size.”

“The successful trader understands that each individual trade is independent of every other trade; each trade is a unique event where the outcome is random. If you focus on each trade individually there will be a random unpredictable distribution between wining and losing trades. However on a collective basis the exact opposite is true. If a large enough number of trades are tracked patterns will emerge that produce a consistent, predictable and statistically reliable outcome.”

“A casino owner knows that they have a 4.5% edge over the player in the game of blackjack. They know this based on a sample size of games played in the hundreds of millions. This means that the casino will generate 4.5 cents profit on every dollar wagered on the game. This average of 4.5 cents includes all the big winners, all the big losers, and all the people in-between. The casino owner does not get upset if someone wins a lot of money in one game (random micro event) as they know that over the long run (macro event) based on their statistical data base the probabilities are in their favor and they will be profitable.”
“When you’ve trained your mind to think in probabilities it means you have fully accepted all the possibilities with no internal resistance or conflict. Thinking this way is virtually impossible unless you’ve done the mental work necessary to “let go” of the need to know what is going to happen next or the need to be right on each trade. In fact the degree by which you think you know, assume you know, or in any way need to know what is going to happen next, is equal to the degree to which you will fail as a trader”.

Mark Douglas, Trading in the Zone

The successful trader must not allow themselves to live and die with each individual trade, day, or week. Your own trading database is your macro edge and that is the only statistic that you should focus on throughout the weeks and months of the current trading year. It is difficult not to live in the moment of each trade or each day and if the trader cannot remove themselves from these random micro events they will not be able to stick to the trading plan in order to see if it truly does provide the edge that the successful trader requires.

If a casino owner loses a large amount of money to one blackjack player they do not suddenly change the rules of the game in hope of doing better against the next player.

The trader must remind themselves at all times that they are running a business and it should always be treated as such.