On luck, chance and prediction

In several posts the issue of luck and chance were touched on. There is a need to explore this further, as many who know little about financial trading believe it’s largely about luck and chance.

Introduction

It is important that words like luck and chance are defined here. Luck as a concept is outlined in the infographic below. A chance is a probability that is known or foreseeable. We separate luck and chance, though in many circles the two concepts are seen to equate. We say that chance must be knowable and can be expected. If you attempt to cross a busy road with your eyes closed you are creating a foreseeable chance of death. If you don’t meet death in that scenario, you could consider yourself ‘lucky’. This post should be read together with What is and is not prediction.

Winning and losing

In financial trading, a proper trader will position himself to have an opportunity. This is called chance or giving himself a chance. When he exerts control upon that position, there is no ‘luck’ by the definition above. By positioning himself the markets can go in any direction unpredictably. However, what a trader relies on is an assessment of position based on historical data to make an expectation on which direction price may go in the future. So – assessment and positioning for a chance are the two key ingredients.

Analogies

In cricket, baseball, football, boxing etc, participants take positions to enable chance to allow favoured outcomes. None of these ‘players’ knows the future or can predict a specific outcome of the whole ‘game’. In badminton for example – a very fast sport – position and timing count for a lot. Skill and experience of course, are most important. Strange is it not that few suggest that a skilled batsman is just lucky for scoring a century. This means that skill and training shift the odds to favourable, if an appropriate position or strategy is adopted.

Die and coins

Rolling die may seem like a controlled event. Yes control is exerted on the speed and angle at which die are tossed. However, after leaving the control of the person who throws the die, all the factors that impact on the die are so much outside of the control of the thrower, that the outcome is quite random. With flipping a coin, the same applies. Speed and trajectory can be controlled to some extent. But after leaving the hands, it is impossible to calculate the interactions of the coin with things in the environment, so as to predict accurately whether it would be ‘heads’ or ‘tails’. Contrary to popular belief there is no amount of skill that can come to bear on untampered die or coins (or environment) that would influence the probability one way or the other. Tampering with any of the factors involved means exertion of control by someone, which then causes skewed results. Cheating to win or win over others is exertion of control.

Conclusion

Success in financial trading is not primarily about luck. It is about positioning and creating chances, based on a skilled and knowledgeable assessment of price direction on any instrument to be traded. In other words profitable success depends excessively on training, knowledge and experience applied to finding positions – creating chances – and then allowing a future to unfold randomly but in a specific direction based on historical data. Importantly exploitation of the markets need not be even near 100% in a favourable direction. Profitability can be realised on as low as 30% success in estimating direction of price.