High Capital Base and Associated Problems

(Photo by Ben Mack on Pexels.com)

An everlasting debate around the bourses has been the “Investment” vs “Trading” debate though honestly, there is not much scope for this to persist but I believe it is one that keeps making its way onto discussions. Though, more so during a bull market than a bear market.

But lets blame the concept of the debate on heuristics.
Heuristics are practical approaches to thought that produce best guesses that aren’t guaranteed to be correct. In a bull-market because most traders are “Long Biased” do in-fact make more money than investors courtesy of a high churn and high win-loose ratio per trade. Lets think about it logically and focus on the persistence of the same concept.

Before we can deep-dive into my point lets understand another issue that is purely contributed to a “higher capital base”.

Lets take the example of a doctor:
Dr. X who has just started practice earns a fee of a lets say a INR 100/patient, but since he’s just starting out he can see 10 patients a week so he makes INR 1000/week. In a few months he can now get more patients and can see 100 patients a week and he makes INR 10,000/week. He gets even better at has to eventually increase his fees (to lets assume double) because he can not see more than a 100 patients a week, so he now makes INR 20,000/week.
Notice, how his growth is absolutely meteoric- he goes from making 100/week to 20,000/week in probably a few years- a whooping 200 x growth in cash-flow.
Interestingly, he must’ve felt way more satisfaction when he used to make a few INR 1000/week because when he started off he probably had a smaller savings rather some students debt too.
By the time he makes 20,000/week he has a chunk in savings and probably makes a much lower part of his capital.

Let’s compare-
How many traders can actually have all of their capital into trading, probably the ones who can- can only do so till a point when their capital balloons into one that can not be churned. Interestingly, most traders will agree if they had to calculate a %age return on total capital and not just on trading capital the same exciting return would be much lower.
Lets understand with an example-
Say a person who started trading with a small sum, who figured a technical pattern that proved to show accurate breakouts. Soon his capital would bloat up to a capital he would not be able to completely bet on such mis-pricing, probably his capital would start working to make the market more efficient making his return percentage narrower as his capital would grow.

We believe most trading strategies are prone to saturate as the capital invested is increased. In terms of consistency, we believe ex-cost and risk adjusted most such strategies across a ten year time horizon would fail to beat passive investing strategies.

One thought on “High Capital Base and Associated Problems

  1. Well put analogy, my idea is to put majority of the capital into mid-long term investing, using various tools, like Bonds, ETF’s Mutual Funds, Stocks etc.
    And have a small chunk of capital available for trading, this is further divided in short term trading (swing trades) and intraday trading…

    Like

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