As I understand it, numeric specificity on system performance only exists in the past tense, on a historical basis. Going forward, there is no assurance that the probability distribution will adequately resemble the historic one for purposes of detailed strategic fine-tuning. With this in mind, could you please tell me whether the attachment you refer to takes this fact into account and makes adequate allowances for it? I did not read the attachment because it is rather lengthy and involved, and would require more time than I am prepared to set aside for it. However, since you are familiar with the material, I would be grateful if you would answer this question for me.
Money Management
- Thread starter cnms2
- Start date
if R=1 you need P>50%
if R=2 you need P>33% (if your average win is twice your average loss your trading has to have at least 1 win for every 2 losses)
if R=0.5 you need P>67% (if your average win is half your average loss your trading needs at least twice more wins than losses)
So based on the above theory, selling naked Calls or Puts are pure gambling and does not fit into one of the above formulas. In nake Call, your risk is infinite and you need more than infinite profit to justify your trade.
if R=2 you need P>33% (if your average win is twice your average loss your trading has to have at least 1 win for every 2 losses)
if R=0.5 you need P>67% (if your average win is half your average loss your trading needs at least twice more wins than losses)
So based on the above theory, selling naked Calls or Puts are pure gambling and does not fit into one of the above formulas. In nake Call, your risk is infinite and you need more than infinite profit to justify your trade.
IITM bases their analysis on Van Tharp's principles. Starting from the trader's past results they perform a number of Monte Carlo simulations, build a number of scenarios, and give suggestions for improvement, many of them independent of the actual results.
Some of these scenarios take in consideration the possibility that the analyzed results might not be long term representative for the trader's system.
This report shows how you can improve your trading results by careful money management. It seemed kind of long to me too, but you can imagine that they have to justify the fees they charged for it. On the other hand, somebody may argue that Van Tharp's books are kind of long too, build around a few great ideas.
Some of these scenarios take in consideration the possibility that the analyzed results might not be long term representative for the trader's system.
This report shows how you can improve your trading results by careful money management. It seemed kind of long to me too, but you can imagine that they have to justify the fees they charged for it. On the other hand, somebody may argue that Van Tharp's books are kind of long too, build around a few great ideas.
Thank you for the response. I guess the only concern I have is that the input variables for the Monte Carlo simulation are likely to be a constant probability distribution. However, I think that this is an unwarranted assumption for purposes of fine-tuning insofar as actual trading is concerned going forward. No doubt, the results of the Monte Carlo testing will vary from run to run even with a constant probability distribution. However, imagine how much more it might vary if the probability distribution of outcomes was not static. In reality, it is not static. Therein lies the (unquantifiable) uncertainty for which a sufficient margin for error must exist to ensure survival. However, I do take comfort in Tharp's realization that historic results may not be representatative of future performance.Quote from cnms2:
IITM bases their analysis on Van Tharp's principles. Starting from the trader's past results they perform a number of Monte Carlo simulations, build a number of scenarios, and give suggestions for improvement, many of them independent of the actual results.
Some of these scenarios take in consideration the possibility that the analyzed results might not be long term representative for the trader's system.
This report shows how you can improve your trading results by careful money management. It seemed kind of long to me too, but you can imagine that they have to justify the fees they charged for it. On the other hand, somebody may argue that Van Tharp's books are kind of long too, build around a few great ideas.
Not at all. This R uses your assumed risk: the loss you'll take when your stop loss is hit. When you sell naked options although you plan for a certain risk, occasionally you'll get hit by higher losses. It compensates for the higher probability of success of a naked options position.
In (very) long run the risk of occasionally high loss and the high probability of success should lead to zero expectancy (if slippage and commissions were $0). You may never be hit in your lifetime by a catastrophic loss, or you may be hit tomorrow. This is why you have to play it carefully.
To make selling naked options successful you have to correctly forecast your underlying future price and your options future implied volatility. And obviously you have to be careful not to be wiped out by an outliner.
Far out-the-money naked options have lower expectancy than near the money ones due to the higher slippage and commissions relative to the taken in premium.
In (very) long run the risk of occasionally high loss and the high probability of success should lead to zero expectancy (if slippage and commissions were $0). You may never be hit in your lifetime by a catastrophic loss, or you may be hit tomorrow. This is why you have to play it carefully.
To make selling naked options successful you have to correctly forecast your underlying future price and your options future implied volatility. And obviously you have to be careful not to be wiped out by an outliner.
Far out-the-money naked options have lower expectancy than near the money ones due to the higher slippage and commissions relative to the taken in premium.
Quote from hajimow:
if R=1 you need P>50%
if R=2 you need P>33% (if your average win is twice your average loss your trading has to have at least 1 win for every 2 losses)
if R=0.5 you need P>67% (if your average win is half your average loss your trading needs at least twice more wins than losses)
So based on the above theory, selling naked Calls or Puts are pure gambling and does not fit into one of the above formulas. In nake Call, your risk is infinite and you need more than infinite profit to justify your trade.
What I found useful in Van Tharp's work, this report included, is the things that can generally be applied to improve your results, the methodology he developed to asses your trading performance, all being independent of your trading system specifics.
Monte Carlo simulation approach gives a possible framework with some obvious drawbacks, as any modeling presents.
Monte Carlo simulation approach gives a possible framework with some obvious drawbacks, as any modeling presents.
There is another position sizing method that intends to improve profits by using a controlled risk increase. It is less aggressive than the Variable Fractional Percent method.
Once you register a profit you start calculating separately the risk for your original equity amount and for the profit amount:
- on the original equity amount you continue with the same risk percentage you started to trade with, i.e. 1/6 Kelly
- on the profit amount you calculate the risk using the full Kelly
Your total risk is the sum of the two risks calculated above.
Once you register a profit you start calculating separately the risk for your original equity amount and for the profit amount:
- on the original equity amount you continue with the same risk percentage you started to trade with, i.e. 1/6 Kelly
- on the profit amount you calculate the risk using the full Kelly
Your total risk is the sum of the two risks calculated above.