There are two types of market returns. Alpha and beta. Beta is what you get for diversifying and passively holding the market. Alpha is the opposite. It requires an edge, of which there are three: informational, analytical, and behavioral.
And as Ray Dalio says, “Alpha is zero sum. In order to earn more than the market return, you have to take money from somebody else.”
Harvesting alpha takes significant work because it involves separating someone else from their capital. And that someone else is trying to do the same to you. Most traders and active investors are in the game to produce alpha.
The competition among alpha players is what creates mostly efficient markets.
Once in awhile, Mr. Market throws a tantrum (or gets too excited) and a mispricing occurs. This opens up an opportunity for alpha players to profit. These opportunities often don’t last long. Other alpha players swarm to take advantage the second they detect blood in the water. Once enough catch on the market returns to an efficient state i.e. random forward returns.
Using this mental model of the game we can deduce that high-quality trading is episodic, not continuous.
Trying to capture alpha continuously would be like playing every starting hand in Texas Hold’em. Expert poker players know that it’s virtually impossible to win long-term with the bottom 80% of starting hands no matter how good your post-flop play is.
In trading, it’s impossible to harvest alpha every single day. The market is highly competitive and Mr. Market rarely sc***s up with such high frequency.
Being a trader, you need to learn to patiently sit through long stretches of getting dealt duds. In poker, we call this “sitting in Siberia.” This is when you have to sit and fold for hours and hours waiting for cards that have a positive expectation while the rest of the table has fun pushing chips into the middle. Trying to trade during these “Siberia moments” in markets is a profitless endeavor over the long haul.