Forex education

Chapter 15. Difference between forex trading and gambling

There are many articles on the internet in which trading on Forex is compared to gambling in casinos, and in particular, to roulette. The authors of these articles bring out different proofs, citing mathematical extracts from the theory of probability, often even not realizing their meanings. In this chapter we will try to destroy the myth that Forex belongs to gambling games. A roulette game is as old as time. It can be easily considered as one of the genius inventions of mankind. The roulette structure and its rules are very simple.

However, it is just a myth that it is easy to win. The game is based on mathematical laws that may bring billions of dollars to gaming establishments and make millions of luck hunters bankrupts. Let’s try to understand the roulette mechanism and find out why it is impossible to get a stable income playing it.

In the theory of probability, there are two fundamental notions: events and their probabilities. Anything can be understood as an event. A sunny day at the end of a cloudy week, labor strikes, an unexpected meeting with an old friend in the street, a car accident, a flight cancellation due to aircraft maintenance - all these events can happen with a certain probability.

Among a great number of events, there are those, which can occur simultaneously (in this case, we talk about a complex event), and those, which are mutually exclusive and can never happen at one and the same moment. For example, on a bright sunny day, you can go out and meet your old friend not far from the factory where a strike of workers takes place. In this example, three events happened at one time. However, such events as a rainy and a sunny day are mutually exclusive and can never happen at the same time. It is easy to understand that the probability of the occurrence of a complex event is lesser than the occurrence of a single event, which is included in a complex one. In case of a complex event, a number of factors should happen together. Let us consider another classical example - dice throwing. A dice has six cube faces. On each side there is a number marked from 1 to 6. Each number represents an event. Only one number can show up at a time. Thus, there are only six scenarios in the example with the dice, and all of them exclude one another.

It is obvious that when we are throwing the dice, one number always comes out. It means that the probability that a particular number will appear, can be considered as 1 or 100%. What is the probability of a certain number occurrence, for example, 1 or 5? Are these probabilities equal? We will try to find it out.

In the theory of probability, there is a notion of frequency distribution. It represents a function that describes the probability of an event occurring. We will not go into details. We will just say that a number appearance on a dice has a random probability distribution. That is why the probability of any number outcome is equal. This happens because a dice cube has a regular shape and standard density. Thus, as there are only 6 numbers on a cube, a probability of a certain number’s occurrence equals 100 / 6 = 16.6666…%.

The following important step in mastering the theory of probability is the law of large numbers. In our example with the dice, the point is the following: if we throw the dice many times, every single number will appear proportionally to the probability of the occurrence of the event. Since all six numbers have the same probability of occurrence, every number comes out for the equal number of times. Besides, the more times a dice is thrown, the lesser the measure of inaccuracy of this statement is. The inaccuracy tends to zero with the number of throws verging to infinity. It turns out that if we throw the dice for 1,000,000 times, every number will show up approximately 166,667 times with a certain inaccuracy.

What if the frequency distribution is not equal? Suppose that we have covered one cube face with lead, having changed its density distribution. The probability of number 1 appearance is now equaling to 50%, and the probability of the occurrence of other five numbers equals to 12.5%. Now, number 1 will come out for about 500,000 times and other numbers will come out for about 125,000 each. Let us go back to the roulette game. There are 37 cells on a table field: numbers from 1 to 36 and a zero. The frequency distribution of a number appearance in the roulette game, like in the situation with the dice, is equal. That means that the probability of the showing up of a single number in the roulette is equal and amounts to 1/37. The gain which is paid to the winner by the casino totals 1:36. Thus, for every ruble bet, with a probability of 1/37, we will get 36 rubles. In accordance with the law of large numbers, if we play the roulette game for X times, and if every time we bet 1 ruble on one number, our profit will be:

36/37 * X – X =

X * (36/37 – 1) =

–1/37 * X

You have already understood that the minus in the received formula denotes your losses and a casino’s profit. It does not matter on what numbers you bet, the formula will not change. The more the value of X is, the less the measure of the formula's inaccuracy is. When the value of X is small, the inaccuracy can be significant. Thus, if you come to a casino, make a few bets, then win, go away and never come back, the casino sustains losses from you. However, having won once, one will hardly stop. The roulette game becomes a lifestyle. A person comes back with a hope of winning again and starts playing constantly. The number of played games increases, the inaccuracy of the formula lowers and, in the end, this person suffers losses. Even if a certain person will never come back after a big win, other people, hunting for luck, will try their hand, and gambling business will flourish.

There is one more comment. According to the formula, having played 1,000 games betting 1 ruble, the player loses only 1/37 part, that is, around 27 rubles. Thus, it is possible to stay afloat, getting pleasure from the game. In real life, no one bets 1 ruble in the roulette game, a person is wrecked by his own passion. Making high-risky bets, one faces the situation when there is not enough money to recoup. As a result, this leads to bankruptcy that is the absence of funds for further after-game. If all players were billionaires, they could have been playing for a long time, losing only 1/37 of their bets. 1/37 is approximately 2.73%. This is the advantage of a casino over a player. In the American variant of the roulette (unlike in the European one) there are two zeros on the table field (0 and 00). In such circumstances casino's benefit is 2/38, almost 5.26%, which makes the conditions of the game even stricter.

Of course, it is possible to stake not only on one number in the roulette, but also on 2 or 4 or the whole sequence of numbers at the same time. However, such strategy lowers the possibility of winning proportionally. Casinos will always win, and their anticipated profit can be calculated. In the European roulette it equals 2.73% from all bets of all players, in the American version it is 5.26%. For other games, there are also formulas of the probability calculation, and correspondingly, the expected profit of a gambling house. The real profit of the casino differs from the expected one, as people simply have no funds to recoup losses, because they gamble everything away.

That is why it is impossible to get a steady income at the casino. However, on Forex, the situation is completely different. Here, we also have events (increases or falls of a currency rate) and the probability of its occurrence. The distribution of these probabilities is irregular, and a strict mathematical formula cannot be developed. Nevertheless, these probabilities can be forecasted. If such instruments as technical and fundamental analyses are used properly, it is possible to get a regular income.

In other articles, we will discuss why behavior of currency rates, that is chaotic at first sight, can be predicted. Now we will just say that currency rates’ movement is shaped by people (brokers, dealers, traders). If the majority of them are buying a particular currency (the bullish sentiment dominates), the rate is increasing. If the majority of them are selling (the bearish trend prevails), the rate is falling. If you can determine the tendency of the market timely and join the majority, you will get a steady profit. As many Forex traders use similar instruments for analysis, all you need to do is to follow the majority. Here we should make a little remark. The majority on Forex is determined not by the number of traders, but by the volume of the operations conducted by them.

Large transactions in the currency market are made only by experienced traders, including dealers of big investment companies, investment funds, and banks. These are people with special education, rich experience, and high levels of knowledge. In order to trade successfully on Forex, you should copy the behavior pattern of these people on the currency market.

That is why, before you start trading on Forex, it is necessary to study the market thoroughly, including the instruments which are used by professionals to forecast its behavior. This is the only possible way to success!

Thus, you see that Forex has little in common with a roulette game. Keep reading the information on the website, and you will learn more.  This will allow you to get steady income on Forex. The amount of your income depends on you! Your success is in your hands!

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