Successful trading is always an emotional battle for the speculator, not an intelligent battle...A man must know himself thoroughly if he is going to make a good job out of trading.
— Jesse Livermore

Regression is Mean

IF you've ever taken a statistics course you have certainly heard the term "Regression to the Mean" (RTM). If you were drunk and/or tired in class, or simply never took a stats class and don't know what I'm talking about let me give you a quick definition. 

Regression to the Mean: Stats phenomenon that says the greater an event deviates from its average, the more likely that the next instance of that event will deviate less far. 

In simpleton terms: When shit gets extreme, the next time that shit happens it's more likely for that shit to be less extreme.

Let's see what that shit looks like:

Regression to the Mean (RTM) 

Looking at the picture above you get a clear demonstrated example of how RTM works. Sometimes things deviate to the mean to the upside and sometimes down. However, they seem to travel along a defined trend line. Applied, you can make this case for every stock that has ever traded in the history of stocks. 

Understanding this phenomenon will help you infinitely with your trading ability. If you apply this theory to your trading you will see that it consistently holds true. Every individual has an average trading baseline that he/she trades along. Sometimes the curve goes in your favor, sometimes it does not. If you've developed a system however, you will find that over the course of the long run you will revert back to your average baseline. 

🔥I'm "HOT" 🔥

Do you feel like you're on a hot streak? Slap yourself. You're not. I know, I sound like a douche saying that. It's true though. It also works the opposite ways. Sometimes we fall into "hot patches" where we basically can't miss in the stock market. Sometimes the opposite happens. Thats why it's very important to remain level headed when you trade. You must maintain the poise necessary to move forward regardless of momentary outcome. 

There will be hot streaks and there will be cold ones. In order to maintain success in this business you've got to learn to temper your expectations and stick to your rules. Don't adapt the rules for the circumstance. If something's not working, evaluate whether or not you're adhering to your rules. Don't look for the change in them. Look internally and realize whether or not you are actually holding yourself to that standard. 

Numbers Game, My Man

If you can learn anything from the definition or the write up above its simply that the more you try the more likely you are to bring down your average. Like a basketball player, the more shots you take the more likely it is you will not be perfect. So one of two things should be done:

  1. Get more selective with the shots you take
  2. Work on your shot and be a better shooter overall so that your average is higher (study)

Let's put this in perspective. 

The market typically chops 70% of the time and gives direction 20-30% of the time. So in theory you have a couple of choices, outperform the market 70%+ of the time or mostly trade during the times in which the market is trending. 

Mathematically it works like this: 

If you only traded 30% of the time and had an overall outcome of a +24% account value (this example assumes you're trading options) during those times you would compound a $3000.00 to over $58,000 in less than a year.

Furthermore, you would double your account by just the 3rd trading day.

The above assumes that you are disciplined to not trade while the market is chopping around and assumes that you are equipped to know when the markets don't chop. Obviously the results won't be linear but the example is to show you a simple proof of concept;

Trade fewer days and only setups that look to be working and you will enhance your chances of success. The more you trade, the more likely you are to fall into being AVERAGE.


For fun I want to show you the power of compounding and keeping your risk small. Below is an example of how fast you can compound an account over the course of 50 years with no additional contributions. 


On a more conservative track, averaging a 12% compounded rate annually will take $3,000.00 to over $1,000,000 in 50 years. This calculation assumes no addition contributions are made. 

1 : 3380.47
 2 : 3809.2
 3 : 4292.3
 4 : 4836.67
 5 : 5450.09
 6 : 6141.29
 7 : 6920.16
 8 : 7797.81
 9 : 8786.77
10 : 9901.16
11 : 11156.87
12 : 12571.84
13 : 14166.27
14 : 15962.9
15 : 17987.4
16 : 20268.65
17 : 22839.23
18 : 25735.81
19 : 28999.76
20 : 32677.66
21 : 36822
22 : 41491.95
23 : 46754.17
24 : 52683.77
25 : 59365.39
26 : 66894.41
27 : 75378.3
28 : 84938.15
29 : 95710.44
30 : 107848.92
31 : 121526.86
32 : 136939.51
33 : 154306.87
34 : 173876.84
35 : 195928.78
36 : 220777.45
37 : 248777.56
38 : 280328.78
39 : 315881.49
40 : 355943.17
41 : 401085.67
42 : 451953.38
43 : 509272.38
44 : 573860.86
45 : 646640.79
46 : 728651.02
47 : 821062.21
48 : 925193.45
49 : 1042531.14
50 : 1174750.19