Do You Truly Know What It Means To Think In Probabilities?

A lot of traders think that they think in probabilities. But just because you think about odds and reward-to-risk doesn’t mean that you actually think in probabilities. One of the best quotes I’ve ever read on the subject comes from poker pro Annie Duke:

To be a great poker player you have to have what we call ‘a lot of heart’, which is the ability to not only understand what the right play is, but to be able to follow through with it. Which seems like a very trivial point, but it’s probably the biggest point. A lot of times, what happens to people, sort of what separates the good from the great is that the good know the right answer, but they don’t follow through with it because it’s too scary and they think the risk is too big. They don’t have that confidence that it’s okay because while there might be some variance to the play and you might lose this particular hand, mathematically it was the right choice. Over the long run it will work out. One of the things that I say to students is that most poker players spend far far too much time worrying about whether they have the best hand. What great players worry about is whether they can win the hand enough of the time, which is a totally different way to think. What really makes a great poker player is understanding, it’s not about winning right now, it’s about making the right decisions so that you win in the long run.

Let’s convert that poker quote to the world of trading. As you see, the parallels are very striking:

To be a great trader you have to have what we call ‘a lot of heart’, which is the ability to not only understand what the right entry or exit is, but to be able to follow through with it. Which seems like a very trivial point, but it’s probably the biggest point. A lot of times, what happens to people, sort of what separates the good from the great is that the good know the right answer, but they don’t follow through with it because it’s too scary and they think the risk is too big. They don’t have that confidence that it’s okay because while there might be some variance to the results and you might lose on this particular trade, mathematically it was the right choice. Over the long run it will work out. One of the things that I say to students is that most traders spend far far too much time worrying about whether they’re right on this particular trade. What great traders worry about is whether their action will give them  a profit enough of the time, which is a totally different way to think. What really makes a great trader is understanding, it’s not about winning right now, it’s about making the right decisions so that you win in the long run.

Now you know what it really means to think in probabilities.

  • berzerk

    “Now you know what it really means to think in probabilities.”

    Well, still not entirely – do you mean that once a trader is right (things go his way) he should press the winners (increase the position) OR it’s a general remark that if your general way to approach and trade the markets is correct you will win in the long run, no matter if you win or loose on a particular trade…?

    is this about that there will be whipsaws and many losses in a row, but still you stick with what you know that works?
    or it’s about not caring if you win or loose on a particular trade? well, this one can be tricky because not caring means one doesn’t try to understand what happened and cannot learn and improve after a loosing trade?

    • I agree. Like I replied to CyprusTrader above, it’s unrealistic that we won’t care. The real point of the post is that when you’re entering the trade you’re not thinking “but what if my I’m wrong and the market keeps flying through this point and I take a loss.” Instead, you think Ï could be wrong this time, but if I take this type of trade 100 times, I’ll come out ahead.” In the first instance you may be too scared to take the trade. In the second, you just pull the trigger and let the odds play out. SO it is about your general approach and process and not so much about whether you’re right on your analysis this particular time.

  • Cyprustrader

    Good point, Mark Douglas has this nailed down in a slightly different way, its all about a series of valid trades, not just the current one. Time spent with a good strategy will dissapate the fear where the trader should develope a “couldn’t care less” attitude, win or lose. Of course there must be a level of confidance that the strategy is profitable in the long run!

    • Absolutely. Mark Douglas’ book is a great one. Although I do disagree
      with a couple of his points. One: I don’t think a trader should scale
      out of every trade just because the market can do anything. Overall that
      reduces the edge of any good strategy and it becomes trading scared.
      Two: If you’re a competitive person (which most good traders are),
      you’re never going to get to absolute “couldn’t care less”. You’ll
      always care, and losses will sting. The idea is that you don’t let those
      emotions influence your actions.

  • MMS

    Hey bro, this is a damn good post.. Changed my thinking up a bit, Im not thinking so much about this trade right now but rather as all of them as a whole

    • That’s great to hear. It needs constant conditioning because it’s so easy to slip back into the natural way of thinking.

  • I thought long and hard about this concept before throwing in my 2 cents…this post pretty much covers the whole subject.

    All I could think of as an additional help for those struggling to a) experience the probabilistic mindset or b) consistently think in probabilities (I fall in this category) is to think of every *valid* trade as a winner, whether it results in a gain or a loss.

    If you have positive statistical E (Expectation), then losers are inherent in that equation. Feeling bad about valid trades that lose is not only useless, it’s counter-productive because you’re likely to try to avoid what makes you feel bad. Doing this destroys the system/method leaving you with random at best (if not a negative edge, which I experienced for a long time!). Random minus commissions and spread equals negative E overall…

    Every trade within a profitable approach has a positive expectation even though some lose.

    • Excellent insight! I absolutely agree. Thinking of it as a winner is a great way of looking at any trade in a positive expectancy method. That should help some people. Thanks for sharing!

  • the market isn’t ur enemy, you’re..

    • Definitely. Thinking that the market is your enemy and that you have to “beat”the market is not a very positive or powerful mindset to have in trading.

  • god

    in poker, the probabilistic relationship between any hand combination is fixed, regardless of the number of decks used, the hierarchy never change. however, in trading, there are numerously more probabilistic combinations possible and thus its hard to ever be certain a certain strategy u are trading has a positive expectation. as during the testing and optimisation process, it might have already been skewed. or it could be that the sample size and sample period you use had misled you.

    in short, i think it is infinitely easier to commit to a poker hand than to a trading position.

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