Prudent Risk Management Is The Only True Edge In TRADING

Is Prudent Risk Management the only true edge in trading?

  • Yes

    Votes: 53 29.9%

  • No

    Votes: 124 70.1%
  • Total voters
    177
So this is a bit theoretical and with a lot of assumptions and oversimplifications - and therefore not true, or probably baked into the market. Just some sunday-ramblings.

Suppose a trader has a method - let's call it M0 - which produces 20 losing trades (-1.0%) and 2 winning trades(+20%) with a total EV of +20%. After timeperiod t his account has grown 17.78%
Now what if the trader redesigned his method. Another oversimplification is that one can lose more or less on the losing trades which is linearly compensated with the winning trades. So the total profit stays+20% over period t.
  • M1 has higher losing trades (-2.0%) but also higher winning trades (+30%). But the return is only 12.83%
  • M2 has never losing trades (0.0%) but lower winning trades (+10%). Return rises to 21%
  • M3 has never losing trades (0.5%) but lower winning trades (+5%). Return rises a little bit to 21.81%
  • M4 has never losing trades (+1%) but no 'winning' trades (0.0%). Return rises to 22.02%
  • M5 has never losing trades (+2%) but the 'winning' trades become losing trades (-5.0%). Return lowered again to 20.36%

I personnally think this shows the effect of losing 10% needs 11.11% to come back at even and the optimum is where losing trades in total are minimized. Imo this also shows partial profit taking (but let them still 'run'/ mature enough - this is important) can be good thing. However, this could all be baked in the "distribution of price discovery".
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Zwaen said:
So this is a bit theoretical and with a lot of assumptions and oversimplifications - and therefore not true, or probably baked into the market. Just some sunday-ramblings.

Suppose a trader has a method - let's call it M0 - which produces 20 losing trades (-1.0%) and 2 winning trades(+20%) with a total EV of +20%. After timeperiod t his account has grown 17.78%
Now what if the trader redesigned his method. Another oversimplification is that one can lose more or less on the losing trades which is linearly compensated with the winning trades. So the total profit stays+20% over period t.
  • M1 has higher losing trades (-2.0%) but also higher winning trades (+30%). But the return is only 12.83%
  • M2 has never losing trades (0.0%) but lower winning trades (+10%). Return rises to 21%
  • M3 has never losing trades (0.5%) but lower winning trades (+5%). Return rises a little bit to 21.81%
  • M4 has never losing trades (+1%) but no 'winning' trades (0.0%). Return rises to 22.02%
  • M5 has never losing trades (+2%) but the 'winning' trades become losing trades (-5.0%). Return lowered again to 20.36%

I personnally think this shows the effect of losing 10% needs 11.11% to come back at even and the optimum is where losing trades in total are minimized. Imo this also shows partial profit taking (but let them still 'run'/ mature enough - this is important) can be good thing. However, this could all be baked in the "distribution of price discovery".
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@Zwaen,

This is a great post.

You have given a mathematical example of why one should maintain very tight losses, showing why @Buy1Sell2's thesis holds. :thumbsup:
 
My tight stop is a few minutes. If price doesn’t go my way meaningfully within a few minutes I am out. No questions asked.

I did miss some good winners but I dodged many more bad trades. It’s a good deal/tradeoff. It took me a long time to finally comprehend this. If I have to scratch too many trades that means I am not getting the market correctly or my timing is way off. Time to rethink everything, never “widen” the stops, i.e., fix your own issues. It’s not the market.
 
Jzwu2017 said:
My tight stop is a few minutes. If price doesn’t go my way meaningfully within a few minutes I am out. No questions asked.

I did miss some good winners but I dodged many more bad trades. It’s a good deal/tradeoff. It took me a long time to finally comprehend this. If I have to scratch too many trades that means I am not getting the market correctly or my timing is way off. Time to rethink everything, never “widen” the stops, i.e., fix your own issues. It’s not the market.
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I am glad we both came to the same place. The only difference is I don't use mechanical hard stops. I use mental hard stop instead because I want to decide base on PA when and how to get out. It gave me better results but is damn stressful.

In day trading we are basically living dangerously on a knife edge. The line between winning and losing is paper thin. The only real lifeline is a tight stop because the profitable trend will come if we don't get wipe out first.

Take care @Jzwu2017

PS: Have you seen the response I gave your on the post that said 90% stopped out?
 
Yes, I saw your response and agree I got out too late. I was trying to catch a big trend every time and often got stopped out instead. So now I only do scalping.

If it’s a big trend it’ll be very obvious. Otherwise, 90% of the time you need to get out.
 
loyek590 said:
blackjack is a rational game which has efficient rules. The market can be totally irrational and inefficient. In blackjack, once 4 aces are turned there are no more. In the market, they can just keep turning aces longer than anybody thought was ever possible.
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%%
And add to that a casino may mess[goof] with the car brakes of a winner;
a broker + AUM business makes more on winners, so interests are aligned mostly LOL.:D:D
 
Buy1Sell2 said:
Basically that is why you have people scaling in and out and using breakeven stops. Those are two of the hallmarks of poor risk management.
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@Buy1Sell2, I agree with your view on PRM being the only true [*permanent*] edge, fear-driven breakeven stops and premature (vs. the plan) profit taking, but do you not add to winning positions? Do you *never* scale out (or scale down in rallies, scale up in pullbacks). No trailing stops once you hit the original tentative target?

FWIW, I do add to winning positions on pullbacks during the *first 20-30%* of the expected move (but not after that in order to avoid top-heavy positions). And my maximum per-trade risk is about 2% of my (leveraged) trading stake (so about 0,5% of my TLNW).

Best trading to all.

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Picaso said:
@Buy1Sell2, I agree with your view on PRM being the only true [*permanent*] edge, fear-driven breakeven stops and premature (vs. the plan) profit taking, but do you not add to winning positions? Do you *never* scale out (or scale down in rallies, scale up in pullbacks). No trailing stops once you hit the original tentative target?

FWIW, I do add to winning positions on pullbacks during the *first 20-30%* of the expected move (but not after that in order to avoid top-heavy positions). And my maximum per-trade risk is about 2% of my (leveraged) trading stake (so about 0,5% of my TLNW).

Best trading to all.

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I use an all in all out approach. That way, I have my full position on when it goes in my favor big league. It also creates fewer decisions to be wrong on.
 
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