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

[ronblack]

Quote from AAAintheBeltway:

Trend following systems tend to produce about 30-35% win ratios, with large drawdowns and consecutive runs of losing trade of>10.

A 35% win ratio with a high percentage of bankroll invested is a combinatiuon that leads to ruin fast. I think the win rate must be > 50% to avoid ruin. We had a whole discussion about this in another thread.

Just read this article about the performance of trend-following funds this year. It is interesting. The average loss of about 25 known trend-following funds is about -8% for this year. Some are losing more than 25% of their value at the beginning of the year.

 

[AAAintheBeltway]

Quote from ronblack:

A 35% win ratio with a high percentage of bankroll invested is a combinatiuon that leads to ruin fast. I think the win rate must be > 50% to avoid ruin. We had a whole discussion about this in another thread.

Just read this article about the performance of trend-following funds this year. It is interesting. The average loss of about 25 known trend-following funds is about -8% for this year. Some are losing more than 25% of their value at the beginning of the year.

Profit factor is a combination of the win percentage and the size of wins and losses. Trend following systems rely on a few large wins. That's why they can go into long drawdowns. The proper way to trade one is with a big account and diversified across several hopefully non-corellated tradeables.

Win percentage alone tells younext to nothing, and you can certainly make a lot of money with a win percentage of less than 50%. In fact, trying to get too high a win percentage is usually counterproductive.

 

[intradaybill]

Quote from AAAintheBeltway:

Win percentage alone tells younext to nothing, and you can certainly make a lot of money with a win percentage of less than 50%. In fact, trying to get too high a win percentage is usually counterproductive.

Win percentage tells a lot. Whoever thinks otherwise is not familiar with risk of ruin and probability theory. Any system with win rate < 50% has a risk of ruin probability asymptotically equal to 1 as a function of time. How fast the probability converges to 1 depends on path but it will go to 1 at some point.

Sure you can make money with win rate < 50%. But you also run the risk of giving it all back and this is the point you are missing.

 

[Wide Tailz]

Quote from intradaybill:

Win percentage tells a lot. Whoever thinks otherwise is not familiar with risk of ruin and probability theory. Any system with win rate < 50% has a risk of ruin probability asymptotically equal to 1 as a function of time. How fast the probability converges to 1 depends on path but it will go to 1 at some point.

Sure you can make money with win rate < 50%. But you also run the risk of giving it all back and this is the point you are missing.

Money management rules get less and less important with higher win rates.

 

[lighnintrade]

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.

This is why it's better to find what will likely trend in the future than what is currently in a trend for short term trading.

 

[NoDoji]

Quote from Wide Tailz:

Money management rules get less and less important with higher win rates.

From my limited observation of other traders and my own early trading experiences, the highest win rates occur when a reversion-to-mean (counter-trend) style is combined with quite loose money management rules (risk:reward of 3:1 or greater, sometimes much greater).

Because the win rate can approach 100% for a long period of time, especially if the trader's account size allows the risk management for this style of trading to be extremely lopsided, the risk of eventual ruin is high. The longer the high win rate persists, the greater the chance the trader will come to feel invincible. If that happens, all risk management may be cast aside during the rare occasion when directional price action remains irrational longer than the trader's account can remain solvent.

(I think this guy had a year-long string of winning trades before this happened: http://www.elitetrader.com/vb/showthread.php?s=&threadid=223845)

A pure trend-follower can have a highly profitable system with a win rate of less than 40%, as long as the risk:reward ratio is 1:3 or better.

 

[logic_man]

Quote from NoDoji:



A pure trend-follower can have a highly profitable system with a win rate of less than 40%, as long as the risk:reward ratio is 1:3 or better.

What ends up being interesting about many trend-followers, though, is that they actually don't have profit targets, so don't know what the risk-reward ratio of any given trade is in advance. Ultimately, a trend-follower just has to take every set-up that triggers a valid signal and manage the trade accordingly. Only after the fact will the true risk-reward ratio reveal itself.

 

[Wide Tailz]

Quote from NoDoji:

From my limited observation of other traders and my own early trading experiences, the highest win rates occur when a reversion-to-mean (counter-trend) style is combined with quite loose money management rules (risk:reward of 3:1 or greater, sometimes much greater).

Because the win rate can approach 100% for a long period of time, especially if the trader's account size allows the risk management for this style of trading to be extremely lopsided, the risk of eventual ruin is high. The longer the high win rate persists, the greater the chance the trader will come to feel invincible. If that happens, all risk management may be cast aside during the rare occasion when directional price action remains irrational longer than the trader's account can remain solvent.

(I think this guy had a year-long string of winning trades before this happened: http://www.elitetrader.com/vb/showthread.php?s=&threadid=223845)

A pure trend-follower can have a highly profitable system with a win rate of less than 40%, as long as the risk:reward ratio is 1:3 or better.

Thoughtful observation. These strategies are indeed, very dangerous with leverage and no hard stops, somewhere.

However, the RTM trader can choose instruments which do not go to zero and always have some inherent (seasonal) volatility, such as AG commodities.

I tend to believe market makers are some of the wealthiest traders........

 

[xiaodre]

I think the guy lost all that money on TF futures. It won't ever go to zero. His was just a horrible averaged down trade.

 

[oldtime]

Quote from NoDoji:

From my limited observation of other traders and my own early trading experiences, the highest win rates occur when a reversion-to-mean (counter-trend) style is combined with quite loose money management rules (risk:reward of 3:1 or greater, sometimes much greater).

Because the win rate can approach 100% for a long period of time, especially if the trader's account size allows the risk management for this style of trading to be extremely lopsided, the risk of eventual ruin is high. The longer the high win rate persists, the greater the chance the trader will come to feel invincible. If that happens, all risk management may be cast aside during the rare occasion when directional price action remains irrational longer than the trader's account can remain solvent.

(I think this guy had a year-long string of winning trades before this happened: http://www.elitetrader.com/vb/showthread.php?s=&threadid=223845)

A pure trend-follower can have a highly profitable system with a win rate of less than 40%, as long as the risk:reward ratio is 1:3 or better.

1:3 over time should break even minus commissions and spread. There is no such thing as a win rate.

try 1:infinity

Money management? You have control over losses and size. So that's 2 out of three. Now the only thing you can screw up is profit taking, I could probably set up an automated system that only controlled losses and size and never took a profit and it would beat anything I do in real life.