KEY metrics PART 1: Does your strategy has Positive Expectancy?
Does your strategy has Positive Expectancy?
The main idea of this post is to show that despite your trading style, the instruments you use to trade, the assets you think are better, your timeframe, etc... Profitability is about a positive result after adding all your losses and winning setups after a certain period of time. That is positive expectancy.
So, it's important to visualize this and ask yourself, Does my strategy has positive expectancy?
Let's take this example as a template, and then you can use it to evaluate your system.
If we have an initial Capital of 5000USD and we are risking 50 USD per trade (you risk 1% of your capital per trade), let see what happens after a year of executing this strategy that we will call "The Stock Strategy."
The most important metrics you want to take a look at in your strategy are:
-How much money I lose on average on the losing setups?
-How much money I win on average with my winning setups?
If you divide these two results: Average Win / Average loss, you will have your Average Risk Reward Ratio. This is VERY RELEVANT! This metric is telling you that, on average, you make 2 times what you risk when you are winning.
However, this metric by itself is useless; you need to ask how many times you are right after X amount of setups "in this case, we have 24 setups," and we can see that we are right 50% of the time.
Now we can check if your strategy has a positive expectancy: (Amount of Winning Trades * Average Risk Reward Ratio) - (Amount of losing trades * 1( that's 1% of your capital you are risking = FINAL RETURN.
In this case, we have a final return of 12% after a year on the Stock Strategy where we can conclude that we have a positive expectancy and its worth of trading. Once you have more experience and confidence with your strategy, you can optimize the average risk to 2%; for example, you will have a final return of 24% at the end of the year.
It's important to know that professional traders don't have one strategy; they have multiple strategies that tend to be independent, so, if you can develop 3 strategies, each of them with a positive expectancy (50% win rate, and average risk-reward ratio of 2) risking 1% of your capital per strategy, you can aim to a solid 36% per year.
Another key Metric to better understand your strategy is DrawDowns, but we will develop this in PART 2 of Key Metrics.
Thanks for reading! of course, there is much more to speak about this, but the idea was to make a simple introductory post on these two metrics that we consider extremely relevant.
The main idea of this post is to show that despite your trading style, the instruments you use to trade, the assets you think are better, your timeframe, etc... Profitability is about a positive result after adding all your losses and winning setups after a certain period of time. That is positive expectancy.
So, it's important to visualize this and ask yourself, Does my strategy has positive expectancy?
Let's take this example as a template, and then you can use it to evaluate your system.
If we have an initial Capital of 5000USD and we are risking 50 USD per trade (you risk 1% of your capital per trade), let see what happens after a year of executing this strategy that we will call "The Stock Strategy."
The most important metrics you want to take a look at in your strategy are:
-How much money I lose on average on the losing setups?
-How much money I win on average with my winning setups?
If you divide these two results: Average Win / Average loss, you will have your Average Risk Reward Ratio. This is VERY RELEVANT! This metric is telling you that, on average, you make 2 times what you risk when you are winning.
However, this metric by itself is useless; you need to ask how many times you are right after X amount of setups "in this case, we have 24 setups," and we can see that we are right 50% of the time.
Now we can check if your strategy has a positive expectancy: (Amount of Winning Trades * Average Risk Reward Ratio) - (Amount of losing trades * 1( that's 1% of your capital you are risking = FINAL RETURN.
In this case, we have a final return of 12% after a year on the Stock Strategy where we can conclude that we have a positive expectancy and its worth of trading. Once you have more experience and confidence with your strategy, you can optimize the average risk to 2%; for example, you will have a final return of 24% at the end of the year.
It's important to know that professional traders don't have one strategy; they have multiple strategies that tend to be independent, so, if you can develop 3 strategies, each of them with a positive expectancy (50% win rate, and average risk-reward ratio of 2) risking 1% of your capital per strategy, you can aim to a solid 36% per year.
Another key Metric to better understand your strategy is DrawDowns, but we will develop this in PART 2 of Key Metrics.
Thanks for reading! of course, there is much more to speak about this, but the idea was to make a simple introductory post on these two metrics that we consider extremely relevant.
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