How to improve odds of trading with the least skilled traders?

[IlliniDave]

Sorry, I didn't mean what's the point of trading. I meant what's goal in making a decision about what you want to buy and what you want to pay for it then seeking out the least skilled traders in a brokered market environment verses just making a decision on what you want to buy and the price you want to pay and transacting with anyone willing to meet your terms?

[IlliniDave]

Say I have a trading strategy that's designed to capitalize on the mistakes that unskilled traders often make.

Ah okay, so in simplistic terms you don't really care what you buy, you're looking for anything that someone else is screwing up on. That would be a fountain of gold. I suspect you have the right idea in looking in places where there's not enough money changing hands to attract the big fish. Although I don't trade I have bought and sold etf shares on occasion. Being decidedly dumb money I usually just sell at the market price (is that a "market order", haha, I do it so little I don't even know the jargon). Would you be targeting volatile days?

[Lucky C]

Maybe higher volatility time periods offer more opportunities, but then again there is a difficulty of determining how much of a big move is emotion/overreaction and how much is signaling a new trend that will continue.

Ideally I would find some way to get a little bit of an edge over frequent trades to be uncorrelated with what I currently do which is holding on for longer time periods and only making about half a dozen transactions per year. A system with just a 55% win rate with average gain per win equal to average loss, with one trade per trading day (253 per year) would have a probability of nearly 95% of making a profit over a year.

Or perhaps more realistically, a system with a 45% win rate would have about 95% chance of getting 100 or more wins out of 250 trades per year, but hopefully with much better gains when winning compared to amount lost per average trade. With an average loss of -1.5%, average win of +2.0%, a win rate of 45%, and 250 trades per year, you would get a return of 16% per year. Obviously there are a lot of problems with oversimplifying this example and a lot of challenges that would be faced, but the appeal is to get more consistent returns uncorrelated to the market by increasing number of "coin flips," whatever form that coin flip may take.

[jacob]

If there's a stock you want to buy, or sell, and you think the price is favorable, what difference does it make who you transact with?

Using a poker analogy, it's the difference between knowing how good your hand is and how good the other players are. If you just bet your entire pot every time you have a strong hand, you're not going to make much money. This is where the analogy begins to fail. (In poker, players are usually "equally big" in terms of their money moves and the game is designed that way. That's not the case in the market.)

(Any concern about the other players knowing how good you are does not become an issue until you become big enough to move the market.)

However, realizing that there are people who buy stuff w/o a clue about what they're buying other than "it goes up in the long run" allows you to ride along. This is a momentum trade (or a so-called "greater fool"-trade) and it can easily be the case that the price is never favorable leaving you stuck on the sidelines. Insofar it's a greater fool trade, it's very important to know whether you're the lesser fool or the greater fool IOW when and how to get out.

Another example might be realizing that 401k people like to log on to Vanguard and check their balances at the end of the month when they get their paycheck. Also that "rebalancing" is an article of strong faith to such a degree that many fund websites offer a simple auto-button to do. As tens of thousands do this more or less on the same days, this causes selling pressure on stuff that has recently gone up and vice versa. Knowing that might give you slightly better prices.

Great traders often have no idea about the value of what they're trading. It's strictly psychology (their own and the other side). One sign of this psychology is the various support or resistance prices. These are often anchored in people's minds simply because they bought/sold their position there... They have a strong bias in their mind that although they hate the stock and it's overvalued, they're not going to sell before it reaches the previous price.

This does not mean they can't be combined and combined well. For me a little trading knowledge gives an extra oomph in the form of slightly better prices on the investing when entering and exiting. A trivial example would be that I never use market orders but target the algos at the midprice. It's only worth $0.5 to a couple of bucks for each transaction, so unless you trade often, it's practically irrelevant. I'll take it anyway though. (Add: Unless, we're talking securities with less liquidity on when you're moving big amounts, say $50k+, at a time. Then it's worth more.)

In short, the best way to make money as a trader is to find someone who is wrong but confidently thinks they're right. Someone who is wrong but lack the confidence in their opinion (or has a strong opinion that they shouldn't be trading/playing at all for whatever reason wrong or right) is not very profitable to a trader. Poker analogies apply. The latter group either fold too much or stay away from the table entirely.

[IlliniDave]

Lucky C/Jacob,

That all makes sense, but seems quite dicey to implement. But that's coming from someone without the desire to put in the time/effort to do that sort of thing systematically. I guess I do try to exploit psychology insofar as sort of being a contrarian to the extent my plan allows. I was selling stocks in Jan-Feb, buying in March and April, mostly holding from that point though might have sold a little on the way back up. I'm now poised to start selling again. One could as easily call that rebalancing, of course. Since I'm playing a different game I don't even feel the exploitation. In a sense I'm selling shares of hundreds or thousands of different stocks with each order--it would be interesting to figure out if in the aggregate I'm "losing" all the individual underlying trades or if it works out to be a wash (win some, lose some) in getting the closing price.

[Lucky C]

Oh I agree it seems dicey. I have some ideas that are interesting to me to explore and see if they would work in theory. Real world execution is a different story and all those bid-ask spreads can add up and kill any potential profit. However with low/zero fee brokerages and my advantage of keeping size small and being in a low tax bracket, it may be worth pursuing a strategy that would be unprofitable for the bigger guys.