I think you're right to an extent.
It's mentally definitely very difficult to trade a positive skew strategy. To take an extreme example, suppose you have a Taleb style tail protect strategy which returns 100% every 10 years, and -5% every year. That is a positive expectation, so worth trading outright. In practice you'd really struggle mentally if that was your only strategy. It only makes sense if you had say a 40% exposure to that, and a 60% exposure to a stocks portfolio, such that the hedge gave you a zero loss in the every decade disaster. But even then you'd be cursing yourself for 9 out of 10 years for buying this insurance.
On the contrary its very easy mentally to trade a negative skew strategy, and take profits every day. And then every year, or every 5 years, or every 10 years depending on the strategy; you get murdered. Mentally that is easier; at least 99% of the time.
For a given sharpe ratio you can to an extent choose whether you get that return as positive or negative skew; lots of small up days or occasional large up days (though negative skew tends to have higher sharpe ratio, as thats a poor judge of returns with big tails).
I know if I backtest only taking the highest sharpe ratio opportunities, then I'd reduce my sharpe ratio. I guess this might be a factor of the length of time I'm generally holding positions; as I'm not familiar with intra day trading I don't really know. However I think it may also be a function of trading style. If you're trend following, you have to cast a lot of lines, hoping one will bite and become a decent trend, taking small losses on the rest. If you wait until it already is a decent trend you've already missed half the profits. If you're mean reverting or relative value, then it often makes sense to wait until the mispricing is higher.
(There are also higher trading costs if you don't 'leg into' positions but thats a different story)
My own strategy is reasonably balanced, in the sense that its a combination of negative skew carry (and a bit of relative value) and positive skew trend following. Also, and perhaps that is the most important thing, I only trade a minority of my net worth. The rest is in dividend paying stocks and bonds. From a sharpe ratio perspective this is inefficient. However mentally having the cushion of those dividends coming in every year and not having to touch my trading capital, is more comforting than having to dip into trading capital in loss making years to pay living costs.
I am however interested in this comment:
"The successful traders I know all seem to have an undesirably high emotional exposure to their P&L"
... which goes against most 'market folklore', that the most succesful traders are those who can gain a degree of emotional detachment. I haven't spent enough time hanging around succesful discretionary traders to know if that is really true. I know plenty of hopeless discretionary traders, including myself, who suffer mental anguish when they lose money; which is why I think that system trading is better for the vast majority of people.
It's mentally definitely very difficult to trade a positive skew strategy. To take an extreme example, suppose you have a Taleb style tail protect strategy which returns 100% every 10 years, and -5% every year. That is a positive expectation, so worth trading outright. In practice you'd really struggle mentally if that was your only strategy. It only makes sense if you had say a 40% exposure to that, and a 60% exposure to a stocks portfolio, such that the hedge gave you a zero loss in the every decade disaster. But even then you'd be cursing yourself for 9 out of 10 years for buying this insurance.
On the contrary its very easy mentally to trade a negative skew strategy, and take profits every day. And then every year, or every 5 years, or every 10 years depending on the strategy; you get murdered. Mentally that is easier; at least 99% of the time.
For a given sharpe ratio you can to an extent choose whether you get that return as positive or negative skew; lots of small up days or occasional large up days (though negative skew tends to have higher sharpe ratio, as thats a poor judge of returns with big tails).
I know if I backtest only taking the highest sharpe ratio opportunities, then I'd reduce my sharpe ratio. I guess this might be a factor of the length of time I'm generally holding positions; as I'm not familiar with intra day trading I don't really know. However I think it may also be a function of trading style. If you're trend following, you have to cast a lot of lines, hoping one will bite and become a decent trend, taking small losses on the rest. If you wait until it already is a decent trend you've already missed half the profits. If you're mean reverting or relative value, then it often makes sense to wait until the mispricing is higher.
(There are also higher trading costs if you don't 'leg into' positions but thats a different story)
My own strategy is reasonably balanced, in the sense that its a combination of negative skew carry (and a bit of relative value) and positive skew trend following. Also, and perhaps that is the most important thing, I only trade a minority of my net worth. The rest is in dividend paying stocks and bonds. From a sharpe ratio perspective this is inefficient. However mentally having the cushion of those dividends coming in every year and not having to touch my trading capital, is more comforting than having to dip into trading capital in loss making years to pay living costs.
I am however interested in this comment:
"The successful traders I know all seem to have an undesirably high emotional exposure to their P&L"
... which goes against most 'market folklore', that the most succesful traders are those who can gain a degree of emotional detachment. I haven't spent enough time hanging around succesful discretionary traders to know if that is really true. I know plenty of hopeless discretionary traders, including myself, who suffer mental anguish when they lose money; which is why I think that system trading is better for the vast majority of people.
