If trend following, can money management save you in chop?

Quote from RCG Trader:

It is actually not new. Analysts as early as Gann and Wycoff would look at support and resistance and determine some rudimentary probability based on how often price respected that level.
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yeah, but I'm not talking about probabilities for price support, I'm talking about support for probablities.
 
Quote from oldtime:

yeah, except 1:3 is the losers ratio and just another traders myth. I don't care if you trade once a decade or 100 times a day. Any 1:3 trader over time will break even minus the spread and commissions. It looks good on paper, but show me any real track record from a real trader trading real money that has made money trading 1 to 3. It's the place to start and should be some kind of a benchmark whether you want to adhere to it or violate it, but 1 to 3 in real life explains just how severe the problem is.

Don't even start with me on win rate, that is about as meaningful as the win rate of the New York Yankees.
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Ummm... I have been trading a trend following system for years with AN AVERAGE R/R of "1 to 2.8" and AN AVERAGE win rate of 41%. I think that qualifies. My largest drawdown... 22%.

Risk reward ratios don't have to be "planned" before a trade. The risk can be determined ahead of time and the reward can be considered "infinity" and calculated after the fact. That doesn't make them invalid.

Hope this helps you form a new OPINION.
 
Quote from N54_Fan:

Well I must interject here because I have done extensive evaluation of all the things discussed in this thread (win rate vs draw down & ruin, and TOTAL profit). This will be a long post to prove beyond a doubt (I hope) that #1) win rate effects RISK OF RUIN and DRAWDOWN. #2) that profit is mostly related to your R return per winning trade but the lower the win rate the harder it is to keep your high R returns with a trend trading system because of the long losing streak you have when win rate is lower. If you do not wish to read the entire post then skip it. Bottom line,..the truth lies somewhere in between what everyone is saying but TrendTrader Jim is MOSTLY correct. See the following MC simulations to show why.

The MC simulations are running a 200 trade simulation in a year repeated randomly over 1000 times (you can do 10,000 as is typical but in interest of time I ran 1000,..results are essentially the same). It is assuming $100,000 starting acct and a risk of 1% with the 35% win rate system and 3.5% in a 80% system. I chose these numbers because they are numbers quoted above by deadog, Wide Tailz, kut2k, intradaybill and others. 1% risk is typical of most systems. I chose 3.5% risk with 80% win rate system because this is MUCH HIGHER than the 2% limit that most tout as being MAX RISK. The sims also take into account $7 commision per trade.

Lets look at 80% win rate and 3.5% risk first (80% & 3.5%). Wide Tailz is correct in that the higher the win rate the less money management rules come into play. This is because of the higher the win rate the fewer string of loser you get and the less draw down. See the 80% & 3.5% simulation and notice that the LOWEST PnL after 1000 trades is a 29% draw down (DD) during the simulation but FINAL LOW PnL is STILL POSITVE at +$41,000!! Thats 41% return. You will NOT have a losing year NO MATTER WHAT because you have so few losers in a row. Notice that MAX losing streak with this system is 9 in a row. Max winniner is 48 in a row!. You may also notice that I have chosen a losing trade as being 1 R (-$3500) and a winning trade as being 0.5R (+$1750) so that this is just a modest profit per trade and nothing out of the ordinary. You make less profit per trade but the outcome is relatively little draw down and 41% return MINIMUM,...average is 141% return and maximum is 220% return. Conclusion, high win rate limits your max drawdown and allows you to risk more per trade with little or no risk of a losing year.

Now 35% win rate and 1% risk (35% & 1%). This system was given a 1R loser (-$1000) and a 3R winner (+$3000) as described by deadog above. Notice that the string of losers raises dramatically to a maximum of 26 in a ROW!! How many of you would continue to trade a system with 26 loser in a row? How many of you would trade it FAITHFULLY? I doubt any one would. I know if I had THAT many losers I would question my system and probably start changing it. This effects the outcome of the system as well and probably real world outcome would be WORSE than this simualtion which assumes you trade your system perfectly. We all know human error and emotions effect trading as well. With that many losers in a row do you think you can keep your emotions out of trading and trade your system perfectly?....DOUBTFULL!! Also notice that the MAX draw down is the nearly the SAME (-30%) as the 80 & 3.5 system. However, even IF you traded your system PERFECTLY you still run the possibility of having a losing year with -$14,600. Average profit is a solid 79.8% (+$79.8K) and max profit is also impressive at 165%. Conclusion, despite much larger wins (3R) the large number of losers in a row will effect your outcome dramatically. You still have a substantial risk of a losing year but on average you will profit. With lower win rate systems you have a wide disparity in your overall profit at year end and increase your risk of a losing year despite the higher profit when you win.

Final conclusion is win rate effects drawdown and risk of ruin but does not effect profit. You can run these simulations any way you want,...I have and the conclusion is the same. So everyone is sort of correct.

Think of trading a low win rate system like the lottery which is the ULTIMATE low win rate system. For example,...In the lottery you risk $1 to win a profit of $250 million. But your win rate is exceptionally low (1/300 million for example). This is the extreme example of a "trend trading system" like 35% & 1% above. So again Profit is NOT effected by win rate as you stand to profit $250 million with minimal $1 risk but your string of losses will make this "system" highly likely to result in a losing year and cause you to stop trading it.

I hope this helps. Good Luck.

N54_Fan

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While I appreciate the effort you put into your reply and your Monte Carlo simulations, even with a trading system that generates an "80% win rate" your risk of loss is STILL infinite as far as the number of trades you may lose.

Short of a system with a 100% win rate (you know, the robot one you can buy on the internet for just $99) there is no guarantee that you won't have 26 losses in a row (or more), even with a "high win rate" system. Yes I know, but the probabilities are that it's less likely to happen. Tell that to the person who was "lucky" enough to suffer through 26 losses with the 80% win rate and blew up their account because they put their faith in the win rate of the system). When it comes down to risk and money management WIN RATES OF TRADING SYSTEMS DON'T MEAN SQUAT. They may do something to soothe your fears and help you sleep at night, but that will only last until you wake up one morning and look at your trading account and learn first hand they really didn't matter.

As far as controlling emotions while trading a "low win rate system" is concerned, there's a reason why less than 10% of traders are profitable for the long haul... it has everything to do with emotions and discipline and very little to do with win rates or risk/reward ratios.

I've been trading for a long time and if I were to offer any advice to someone starting out it would be to not be so obsessed about the win rate of a system.. learn to develop the patience and discipline to trade a trend following method... and if you're afraid of drawdowns, risk of ruin, or just losing money in general... FIND ANOTHER WAY TO SPEND YOUR TIME.
 
Quote from TrendTrader Jim:

The risk can be determined ahead of time and the reward can be considered "infinity" and calculated after the fact. That doesn't make them invalid.
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Very good point. Exactly the way I trade, too. Just limit the risk, and the rest will take care of by itself.
 
Dear,

The single most effective tool to use is Range Bar charts.

Thats all...That's it....

luv,

ES


Quote from swag:

Howdy folks,

is there a way for money management to save you from losing as much in chop if you are trend following? For example, sizing up/down (or is that just martingale-esque?). This is assuming your signals can't determine any difference between trending/chop. It would be nice if anyone could share ideas, thanks.
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Quote from ElectricSavant:

Dear,

The single most effective tool to use is Range Bar charts.

Thats all...That's it....

luv,

ES
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is that your way of telling us you had a winning day today?
 
Quote from oldtime:

yea and no, stops and size are one and the same. Half the size = twice the width of the stop. Small size which is a wide stop may make less in the short run, but in a strong trending mkt you are looking for a hig move and need staying power to survive. True, it's a toss up, half the move with big size or twice the move with small size. If it's chopping tighten the stops (or increase size, same thing) and take what small profits you can get. If it's trending, reduce size without any change to your risk profile based on account balance and give yourself some survivability for the big move.

There's no way I know of to do the same thing all the time and turn the mkt into an ATM. 90% of it is just money management, but 10% requires actually reading the mkt and having an opinion, and guessing right.
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1. Stops and position size are NOT the same. Stops should be dependent upon the volatility of the market/vehicle traded. Your position sizes should always be built around the size of your stops, NOT the other way around. You can take a very viable trading system and destroy it by setting static stops... and if you don't factor volatility into your position size so that your losses are similar across markets you might as well go to a casino and put your money in a slot machine.

2. You really think someone should "reduce size" when there is a trend in effect? So if I tell you that your probability of winning has increased you want to REDUCE the amount of your position???

3. Doing the same thing all the time (when the proper conditions present themselves) is called being consistent... it's how the "5%" that you refer to make our money.

4. You may have to "read the market" but you don't need to have an opinion as to why what is happening is happening or guess about anything to place a trade. This is where probabilities come into play... know exactly what your entry and exit signals are and follow them consistently... and then keep your emotions in check.

There are many styles of trading, but some trading mechanics simply must be followed no matter what your style if you plan to win for the long run.
 
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