Can you make a living from trading? Do you want to quit your dayjob, exchange your office desk with your private desk at home and live from the profits you make from trading? If you believe thousands of youtube videos, blogs of successful daytraders and the omnipresent advertising of retail brokers (by the way: if it is omnipresent for you, the tailored online advertisement industry already knows a lot about you ;)) suggest that this is no big deal. And isn´t that the ultimate dream? Having the personal freedom to trade whenever, whereever you want to (and not to do so when you don't want). Lets approach the question with some cold and rational real world considerations. To state it upfront: all assumptions about the amount of money you make and how good a trader you are are just that- assumptions. We just present a train of thought and some tools- your mileage may vary. Feel free to adapt accordingly.


After some thought about how much money you would need to be really independent of your day job, we have a look at how much capital you would need upfront, and what are the consequences of having smaller accounts. There is a link beween account size and the neccessary risks one has to take. We look at historic volatility of several markets as a means to guess what you could expect by trading. We´ll show the neccessity of trading shorter timeframes if you have less capital (and the risk of trading more noise by doing so).

This article covers:

The key takeaways:

One feature of capitalism is that is easier to increase your money if you already have a lot. Do not underestimate the amount of capital you need, if you are dependend on the money you make by trading. In most scenarios it is much easier to treat trading as a side business, and have your day job as the main source of income (and safety net if your trading goes sour).

In the end lowering your standard of living just to be able to live from trading results would be a very bad trade (pun intended).


How much money do you need each month?

Imagine you said farewell to Mr. Boss-man, how much money do you really need to cover your monthly expenses? Lets say you live in a rented house, like to eat well, know roundabout how much you spend for clothing, internet, your car, your streaming subscriptions, yada yada... In the end you still want to live, enjoy life right? Which is different from mere existing. Let´s just assume you need $2.500 each month to pay for your lifestyle. Now add some boring stuff- health care plans (we assume $600), insurances (add another $200), maybe your planning well ahead and save for a retirement plan (another $300). In the end we add another $200, just to be on the safe side, we certainly forgot something. So we grab our calculator:

$2,500 + $600 + $200 + $300 + $200 = $3,800

So that is the amount of money you need each month- is that the amount you have to earn each month? Not quite, a prudent planning would advise to aim higher: you could have bad trading months (oh yeah, really!), even loosing streaks, there could be periods without trading because you get sick, enjoy life during vacations or whatever pleasant and unpleasant things can prevent you from trading for a while. So let´s add up $500 for each months income, just to have a buffer against those events. So $4.300 is your final goal? Well...almost, almost. You love your country, right? And your country loves you, at least the taxes that can be harvested from your earnings. You want to live from trading, your government wants to collect taxes- a win-win. Right. This is admittably the hardest part to guess: the amount of taxes that you have to pay from trading is totally dependent on your jurisdiction. In some countries it is also important, which type of assets you trade (like stocks or derivatives, or currencies), your holding period your filing status or whatever funny rules your local tax agency came up with during the last couple of hundred years. Let´s just assume you will pay 20% of your trading income as taxes- adjust this number if it is too far off for your personal situation. So to have $4,300 after taxes, you need roundabout $5,200 per month. EVERY month.


Implications of your available trading capital

So $5,200 per month translates to roughly $62,000 annually. So what is the amount of cash you bring to the table? Let´s assume you have $1,000,000. Then you would have to achieve a yearly performance of about 6.2%. With an account that size you can afford to pay some of your monthly expenses from your trading capital, as these expenses are mere fluctuations in your account. However, aim for a yearly return of $62,000 to achieve capital conservation. That is completely realistic, you could even go for passive income: choose high quality/ high yield dividend stocks (as a starter, search for "dividend aristocrats") and live from monthly, quarterly and yearly dividends. But on the other side, then your live would be really boring: you quit your job to live from trading, and not to live from the dividends, right? But to be more seriously, 6.2% returns from an active strategy are also very realistic. If you are good and have a solid trading plan, this is an achievable goal.

But wait a second, if you are already a millionaire, why are you reading this blog post? You already know how to make, preserve and grow wealth! Or... did we get it totally wrong and you don´t have a million under your pillow? Ok then...let´s scale down by an order of magnitude- let´s assume you have $100,000. That is still a quite impressive sum.

Clearly above strategies won't work any more. The time interval relevant for you will shrink from a yearly perspective to a monthly one. Capital convervation is even more important now, you cannot afford to pay your expenses from your trading capital, as within a year you would reduce it by 50%. On the upside, you wouldn´t have to pay taxes on this- just kidding. Don't even think about that. So now you really have to get 5% return on your investment capital each month.


Volatility is the coin, chance and risk are it´s sides

Look at the following picture. You can see the monthly returns of the Standard & Poor´s 500, a broad index of over 500 large-cap companies, according to Wikipedia covering "about 80 percent of the American equity market by capitalization". It is not a static construct though, as the composition of the index and the weights of each company is updated regularly- one could see such an index as a trend following system in itself.

SP500 monthly returns

We plotted a histogram of all monthly returns, dating back to January 1980, which equates 480 data points. All returns are sorted in small bins, indicating the monthly returns in percent of invested capital. The higher the bar, the more months had the same returns that ended in this specific bin. As you can see, there is a maximum in the range between 1% and 4%, also a considerable amount of months with higher and also lower returns than that. In fact, only 96 out of 480 months had returns of 5% or more- and they are spread out throughout 40 years of data. Furthermore, to actually translate those returns into monthly cash you have to be in the market with the full amount of your trading capital: buy for an equivalent of $50,000 and get a monthly return of 5% means you end up with $2,500 for monthly expenses. See the first chapter if you think you can live from that for an extended period of time. Trying to achive that goal, your time horizon will shrink further, while at the same time your trading frequency will increase: you will buy and sell within a couple of days to reach your monthly goals.


More volatility, more better?

Maybe at a certain point you will notice the plethora of FOREX daytrading success stories (in comparison it's pretty hard to find "how I crashed and burned my account in zero time" blogs- not alot of people seem to write blogs about that). You can trade long and short... both up AND down! 24 hours a day, 5 days a week (depending on your broker maybe even 6). Well if THAT will not give us enough opportunities to demonstrate our infallibility in the markets, nothing else will. Lets have a look... we again plotted some historic returns. This time we choose 4 markets, because...well we somewhere saw a blog post with a guy with 4 computer screens, displaying charts, ticker and whatnot simultaneously. So now the desk in our our basement looks like the bridge of the Enterprise (NCC-1701-D, of course! What else?!). Have a look at the following picture:

A histogram of monthly forex returns, and how they fit into a bell curve

You can see the monthly returns for 4 currency pairs: EUR/USD, USD/JPY, GPBUSD, CAD/USD, in sum about 840 months of data. The orange curve is the graph for the so called Gaussian or Normal distribution, also known as the Bell curve. As you can see, the monthly returns almost fit with that curve (almost means not entirely, but this is a topic for itself and maybe a future article).

For now we just assume that our historic forex returns follow a Gaussian distribution, because with that model we can use some very useful mathematical tools. From the real world monthly return data we can calculate an expected value (called µ) of -0.03% and a standard deviation (called Sigma) of 2.61%. With the assumption of a Gaussian distribution this means that 95.45% of all months in above FOREX markets have returns between -5.2% and +5.2%. Sounds good at thirst glance? Well, there is a but:

Only 4.55% of all months are higher (or lower), while most of those months within the 95.45% generate significantly lower returns: 67.5% of the time the returns are between +/-2.61%.


Simulating Alternate Realities

Lets make some assumptions to simulate a couple of virtual worlds (imagine a couple of alternative realities where we try to make a living from trading). We trade above four FOREX markets, calculating artificial random returns with the exakt statistical properties we found in the real world data. We trade long and short alike, our predictions are VERY good: we are right 80% of the time and able to cash in that month's return, only 20% of the time we are wrong. In case we are wrong our SL loss strategy and risk management limits our losses to 5%. Of course we have to pay our monthly expenses, that are taken out from our trading account each month.

10 runs of simulated returns over 12 months

 In above figure you see ten randon simulation runs, representing ten of those "alternate realities". In more than a half of those worlds we would have lost about 50% of our capital. Not a single szenario ended with an overall plus. As you can see, most of the time the cash curve is heading south, which is understandable, because the expected return each month is -0.03%. Again, in only 4.5% of all months we make the amount of money we need each month (or more than that).

Of course you could try to lower your monthly expenses. Since we already build the spreadsheet for this simulation, we can vary all input parameters (we leave the µ and Sigma as they are given by the FOREX market and we have no control over them). We move back to our parent's basement and try to live from $2,000 each month:

10 simulated scenarios with only $2000 expenses per month

Now the different scenarios look much friendlier. However, there is only a single parallel world where we would have roughly preserved our wealth- in all nine remaining realities we would have significantly lost money.

To have a complete picture, we run another simulation, increase the capital to $500,000 (and set the monthly expenses back to $5,200).

10 simulated scenarios with cash of $500,000

Still, in the majority of the simulated worlds we would have lost money over the course of a year. However you can see a clear relation: the more capital you have, the easier it is to make make (by the way: by recognizing this we touched the foundation of capitalism)- regardless the amount of work (in this context: trading) you put into it.

To put above chapter and the graphs in context: these simulations are no predictions of the future! We somewhat hurried over the statement that the distribution of historic returns looks Gaussian. This doesn't tell us anything about future returns- the historic set of data contains no information about future returns whatsoever. Market conditions can change completely, thus historic returns are not suitable to predict future ones. Best to look at above simulations as different alternate universes, based on the historic returns of our own (and suddenly the Star Trek analogy makes sense).

If you are still not convinced, just for fun convert the monthly return to a yearly one: the formula to do so is:

(1 + p)^12 - 1 so in our example: (1 + 5%)^12 - 1 = 79,59%

Almost 80%. Suffice to say, that the best money managers in the world struggle to reach more than 15% returns on a regular basis. 20% maybe... 25% and you already would be a real outlier. But 80%? Sure, there are outliers that reach such returns in some years, but statistically speaking they are... well... outliers. True, the odds of reaching that goal constantly are mathematically not zero, but how many lives can you spend, until you by pure luck find yourself in the very right side of the bell curve?

I can hear the outcry of legions of retail FOREX daytraders: What about the benefits leverage? What about trading on a minute-to-minute basis? What about the dozen of currency pairs you can trade every single minute 24/7? What about hedging long/short positions against each other, what about ...?

Well, it does not change a thing. The shorter your timeframe, and the more you trade, the more you are trading on noise- the returns are purely random. And the more you trade, the more often you will be wrong. And you will pay more fees, which is good for your broker but bad for your account. If you imagine 1,000,000 traders, the math of Gaussian distributions tell us there will be some that by pure luck made only right trading decisions, one after another. Remember the Bell curve in above´s figure? It never reaches zero, given enough samples even the most unlikely events WILL occur.



So, what is the takeaway from all this? First, if you are dependent on a steady flow of income from your trades/investment, your first focus should be conservation of capital. If monthly expenses reduce your trading capital, high amounts of cash are harder and harder to achieve. And streaks of losing months WILL occur. It is inevitable, take it as the operating costs of running your private trading business.

Second: Set your goals realistically. Above examples had some unrealistic high win rates, in reality a win rate of 50% (the equivalent of tossing a coin) already is a good one. Don't underestimate the amount of money you need, include taxes, insurances and buffers.

Third: if you a re not sure you can hold your current living standard with trading, why not keep your day job and trade as kind of a "side businees?". Maybe scale down on your main job, reduce your working hours to make time for trading? That way you always have the security net for losing months (and as a side effect it is very likely your employer pays more than your salary, like securities or contributions to your future pension).

If you are really that good, and able to achieve steady positive returns over a longer period of time- think about managing other peoples money. Consider a job in finance, or even found your own money managing business. This way you do what you are good at (managing money) plus enjoy the fees of your clients.

Fourth, and this is the most important takeaway: Do not believe any success stories you can read about in blogs. Most of the time you consume poorly disguised advertisements for the financial industry, looking for retail traders they can milk. Do not even believe what you can read here, do your own research, have a critical approach!

Enjoy life and happy trading!

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