Tag Archives: retail traders

A recent survey conducted by Aite Group has revealed an interesting concept: shifts in technological communication have greatly impacted the world of investing.

In December of 2011, the research firm surveyed 1,014 investor households to determine how the active retail trading markets are going about their business. The report revealed new shifts congruent with an increasingly younger trading population - namely their choices in trading platforms.

Javier Paz, Aite Group’s senior analyst and author of the report, reveals how the realm of investing is undergoing major changes. He bases his conclusions on trends such as where funds are going, who is trading them, and what exactly is being traded. One of the more prevalent movements, the “where”, was observed in the outflow of capital from large retail securities firms and private banks to online brokerage firms.

For wealth management firms, this brings about an inevitable “sink or swim” ultimatum: adapt with the changes or lose relevancy in a potentially detrimental way. According to the report, 54% of U.S. traders “trade or have traded online.” Paz goes on to illustrate a few draws of managing money online, such as access to new asset classes, an array of tools that can leverage trading success, and general added convenience.

With an increasing amount of activities becoming internet compatible, it's no surprise modernization has affected traditional stock trading as well. While still in the lead, it is becoming less commonplace as ETF and options trading gain ground, which rank a close second and third in popularity.

As Aite group looks at the internet savvy Gen Y investors, they find that approximately 50 million are of investing age. Capturing the attention of this large demographic is critical for wealth management firms because it is this group that will replace their baby boomer clients once they reach retirement. While surveying 1,000 investors (Gen Y making up about a fourth) it was found that 50% are self-directed investors, 70% place at least five trades online per year, 65 % work with a financial advisor, and 40% consider their bank as a primary investment provider.

As a growing number of tasks and functions revamp themselves into one electronic form or another, it makes perfect sense that investing has followed suit. The internet seems to provide the ideal environment for investors to maximize their trading experience. With smart phones becoming an almost permanent fixture in just about everyone’s hand, all of your trading information can now be accessed anytime, anywhere. This is appealing also in the amount of comfort investors are allowed as they can now conduct all trading interactions at their convenience. If you would like to look at Paz’s full report, it can (with membership) be accessed here.

 

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A while back I wrote the blog post Be Careful Trading Against the Masses. In it I talked about how much trouble one can get into thinking that the bulk of retail traders are generally wrong and thus that you should trade against that collective. I can't blame people for that attitude as it's been put forth among market participants for decades. The problem is the masses aren't as wrong as you might think – at least in the short term.

Tuesday on CNBC there was a representative of FXCM on the broadcast and one of the things he talked about was research they did looking at their customer accounts. He put up three pairs on the screen showing the win% of FXCM account-holders for trades done in each of those pairs. The best one was AUD/NZD which was above 70%. Granted, that's not a pair a lot of people trade, so the data might be a bit less significant than others, but even EUR/USD was in the 60% area. In other words, retail traders get it right more often than not, so you don't just want to fade them.

Winning often, but losing money
Now here's the rub. These same traders are losing money because their winners are much smaller than their losers. The FXCM guy actually showed the comparison. It was a very direct indication of the old wisdom that losses need to be cut short and/or winners allowed to run. Even academics have come to realize that the human inclination is to do the exact opposite. We are risk averse, so we tend to book profits too quickly for fear of losing them while holding losers in hopes they come back.

These figures also back up comments I've made in the past (such as in Why You Shouldn’t Fixate on Winning Percentage in Your Trading) about how win% gets too much focus. If 60% of EUR/USD trades done by the FXCM customer community are winners, but the losing trades are something like twice as big as the winning ones then what's the outcome? That's right. It's a net loss.

Sometimes it's worth trying to increase Win%. For most developing traders, though, it's the size of the losers relative to the winners that are the more important consideration in need of addressing.

Don't let the marketers get you

The warning here is also that we shouldn't allow ourselves to get sucked in by marketing which promotes a high win% for some trading system or trader. If you don't have the other side the expectancy equation – namely winner/loser ratio – then you don't have all the information (you'll notice Currensee includes both sets of figures in the Trade Leader data sheets).

 

Thanks to developments like the Flash Crash, high frequency trading (HFT) has been a common talking point in the stock market. It's been less so in forex. That's something which may be changing however, as Adam at Forex Blog points out. Citing a WSJ article and data from Aite Group, HFT trading accounted for about 30% of volume in forex in 2010, and is expected to reach 60% by 2012. That's a pretty quick ramp up!

The question I can't help but ask is "How are we defining HFT?" Are we conflating subjects here? Are we mixing market-making type operations, which have been suggested to be the problem during the Flash Crash, with automated and/or algorithmic type systems which are mainly about executing trades without human intervention?

Actually, retail traders have been dealing with HFT for some time now. Online brokers use automated systems to quote rates to their customers. Of course retail forex is only a small fraction of the currency market, so its influence is scant. Still, the impact of technology on the institutional side of things is quite apparent. There aren't nearly as many market-making type traders working for banks as there used to be. The industry has been gutted in terms of head-count.

There are also numerous systems in retail forex that fall into the auto/algo category. The Currensee Trade Leaders program is certainly in that group since it involves automatically executed trades. So too do so-called Expert Advisors (EAs) and robots which use rules to do automated systems trading. No doubt similar systems have been developed at the hedge fund level as well.

What I definitely agree with Adam on is how much harder these automated systems make things for retail traders. If spreads continue to narrow, that's obviously great. The problem is in day trading. A retail trader isn't going to be able to compete with institutional level players when it comes to speed of execution. The big players will simply always have more computing power and faster connectivity, so any trading systems which require very quick decision-making and execution will be disadvantaged on the retail side because they'll be beat to the punch.

That said, longer-term systems (swing, position) and trading styles which are more discretionary than mechanical should buffer traders from the impact of technology on the markets.