Do 95% of all traders lose?

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Fact or fiction - 95% of traders lose?

A widely quoted statistic is that 95% of all traders lose and are not profitable in the long run, however it is rare to see any evidence backing this up.

Is this just a myth?

Perhaps, instead the broker ads are right when they proclaim: "the Euro is EASY to trade!" (I beg to differ! :p ).

In this article I will briefly explore any evidence to support or disprove the claim that 95% of all traders lose.

China bans forex margin trading

According to a Reuters article in 2008, the China Banking Regulatory Commission banned banks from offering forex margin trading to their clients.

"Eighty to 90 percent of players in foreign exchange margin trading had lost money, though banks providing the service were generally making a profit from it, the banking regulator said."

This quote is useful but far from conclusive.

The profitability of day traders

"The profitability of day traders" was an article written by Douglas J. Jordan and J. David Diltz, published in the Financial Analysts Journal (Vol. 59, No. 6, Nov-Dec 2003).

If you want to read the full article you will have to pay for it, but the abstract reads as follows:

"We used two distinct methodologies to examine the profitability of a sample of U.S. day traders. The results show that about twice as many day traders lose money as make money. Approximately 20 percent of sample day traders were more than marginally profitable. We found evidence that day-trader profitability is related to movements in the Nasdaq Composite Index. "

The Cross-Section of Speculator Skill: Evidence from Taiwan

"The Cross-Section of Speculator Skill: Evidence from Taiwan" is a research paper by Barber, Lee, Liu and Odean published on 14th February 2011 on the Social Science Research Network.

Using data from the Taiwanese Stock Exchange, the performance of day traders over the 15 year period 1992-2006 was evaluated.

The following quote on page 13 is particularly relevant:

"In the average year, 360,000 individuals engage in day trading. While about 13%
earn profits net of fees in the typical year
, the results of our analysis suggest that less than 1% of day traders (1,000 out of 360,000) are able to outperform consistently."

U.S. Commodity Futures Trading Commission Regulations

The U.S. Commodity Futures Trading Commission (CFTC) introduced new regulation in October 2010 forcing US brokers to lower the amount of leverage that can be offered to customers (maximum limits are 50:1 on major currency pairs and 20:1 on other currency pairs).

US forex brokers are now also forced to disclose the percentage of active forex accounts that are actually profitable.

Michael Greenberg of Forex Magnates has compiled the data for the first quarter of 2011.

Source

Criticism of US forex broker disclosures

The new CFTC disclosure requirements are certainly a step in the right direction towards greater transparency in the forex industry. However, in my opinion, it is important to treat the percentage figures of winning and losing accounts with a degree of scepticism.

All of the brokers will be eager to present themselves in the best possible light - so it would not be too surprising if the figures were subject to some manipulation. If a broker can claim to have a higher percentage of winning accounts than their rivals, this may attract new customers to open up accounts with them.

It is important to note that the data only includes "active" accounts (and the definition of "active" my be interpreted differently by different brokers). We have no idea how many new accounts blew up in their first few months of forex trading and subsequently became "inactive" (and thus were ommitted).

Oanda in particular have been guilty of some creative accounting - their data from Q3 2010 showed that a spectacular 51% of accounts were profitable, 18% more than the nearest competitor. However it turned out that included in their definition of "active" accounts were accounts that contained no trading activity but had simply accrued interest on the account balance!

The CFTC quickly put their foot down and 6 months later we see that the percentage of winning accounts at Oanda has dropped to 38.1%.

As disclosure requirements tighten in the future, I expect these winning percentages to fall even further.

Conclusion

All of the anecdotal and hard evidence examined in this article strongly suggests that the vast majority of traders are not profitable. It is not really possible to arrive at an exact percentage but we can see that the most generous estimate suggests that about 60% of forex traders lose whilst the most conservative estimate suggests that 87% of day traders lose.

So the oft quoted 95% statistic may be a little high, but it is fair to say that trading is NOT easy.

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