Ed Thorp and his 98.7% winning rate

In another article in this section, I was talking about high winning rates, the rates so high that to the unenlightened they may seem too good to be true. I talked about numbers as high as 95% or higher, which translates into 95 (or more) winning trades out of 100 total.

The article in question, entitled "The expected value for the intelligent e-mini trader," is right here.

Well, it just happened that in that article I brought up the name of Ed Thorp. He was mentioned along with Chris "Jesus" Ferguson, another gambler and a trader of some renown.

While Ed Thorp may not be as well-known these days for his gambling exploits as Chris Ferguson is, to those who know a bit about gambling, he is still a bigger legend than Ferguson. And this may never change because he was a genuine gambling pioneer, truly one of the kind.

But his trading performance may in fact make him even more legendary. I say "it may" because I am afraid he is still largely unknown as a great trader.

In fact, when I was writing the other article I was only aware of his hedge fund excellent long term performance, but I knew nothing specific about his trading performance. In particular, I knew nothing the winning rate of his hedge fund, the rate which was the main subject of that article.

It's only very recently, when I got my hands on the newest book by Jack Schwager, "Hedge Fund Market Wizards," that I learned how great a trader Ed Thorp was. His performance could really be described as "too good to be true." Well, if you are into dimwitted conspiracy theories, that is, because there is nothing untruthful about his results.

I suggest that you check out this screenshot of the Amazon.com's preview that features the part where Thorp's hedge fund trading performance is discussed. His winning rate is 98.7% and it's truly a stunning number if you realize how rare this accomplishment is. Jack Schwager uses good analogies to bring this home.

He notes that the probability of a random trader matching Thorp's winning rate is one over 10 to the power 63 (1/10^63), an incredibly low probability. I did not check all his math, and have some doubts about parts of it, but there is no doubt that this is indeed another one of a kind type of event.

In yet another article on this site, I explored Katherine's speculative prowess versus that of a lesser being, quite remarkable of his own right, though. This screenshot that shows 40 winners out of 40 illustrates how good Katherine trading skills could be. The probability of achieving this by pure luck is 1/10^40, which is, again, an incredibly small number, but humungous compared to the one quoted above. (And I just can't help but repeat the question I asked there: are you beating the Paulie guy?)

The take away message from this piece is this: we are not very good at judging probabilities and we are particularly bad at judging very low probabilities, which is why we are often surprised by them. Highly unlikely events are not the same as impossible ones, but we often tend to think of them that way because we like to simplify things. Next time you come across someone claiming a 95% winning rate, you should be surprised, and perhaps even disbelieving him if he provides no evidence of his incredible trading skills, but don't dismiss numbers like that entirely because that would simply be wrong.

I do recommend Jack Schwager's latest book. It is a great addition to the sequel of his "Trading Wizards" books. The three previous books in the sequel have been featured in another section of this very site for years already. I recently added the newest one there too.

Incidentally, that's not the only popular book for traders where Ed Thorp is featured, but that's probably something for another article.