How Do You Stack up Against Other Traders? (Part 3)

07/29/2009 12:01 am EST

Focus: STRATEGIES

Timothy Morge

President, MarketGeometry.com

Looking at Bobby's average monthly trading statistics for his nine months of trading before he read the articles at MoneyShow.com and came over to the forum at MarketGeometry.com, it's pretty easy to tell that he was in serious trouble.

If he had continued trading like this, even though he was winning 53% of the time he made a trade, he would soon lose all of his trading capital, and in fact, his exact words to me when he first started attending the morning sessions was that his trading account was on “life-support.” At this point, after nine months of losing money, he either had to turn things around pretty quickly or stop trading for good.

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This is another example of why evaluating your in-depth statistics on a regular basis is so important: If Bobby simply looked at his winning percentage—and right or wrong, that's the number many of you use to gauge your progress—he would scratch his head wondering why he was losing money, because he was making more profitable trades than losing trades, but that does not tell the whole story!

Bobby's largest losing trade was more than twice as large as his largest winning trade, and that's always a sign that a trader is not in control of their losses. His maximum draw down was huge, especially given the size of his average winning trade. The final meaningful statistic was his terrible realized risk/reward ratio: He was losing more than two dollars for every dollar he made! Bobby was right—his account was bleeding to death!

One of the most important concepts I teach in the morning sessions and in the seminars is the simple concept of controlling your losses. I personally have a maximum amount per contract I will risk and as I have written in the past here, before each trade, I write out a check in the air in order to drive home the amount I am considering risking per contract each time I trade. If the size of the check I am writing is larger than my maximum acceptable loss per contract, I simply pass on the trade. You must always be in control of your potential losses!

Looking at Bobby's statistics for the two months of trading after joining the live morning sessions, there are some improvements, but he is still in serious trouble.

The good news is that his largest losing trade is now smaller than his largest winning trade. Note that he also made significantly less trades per month compared to the prior nine months of trading. He now had a trading plan and methodology he was trying to master and he was slowing down and looking for trades that fit the style he was developing.

The bad news is that even though his realized risk/reward ratio had improved, he was still losing 1 1/2 dollars for every dollar he made. His maximum drawdown was still far too large relative to the size of his average winning trade, even though it had come down from $1,855 to $521. He was still losing money and he was still in serious trouble, and while there were glimmers of improvement, if he didn't make some serious changes quickly, his days as a trader would be over.

Bobby decided to sign up for group mentoring, which meets once a week. Traders show their trades, step by step, to the group, and then the group makes suggestions and comments and asks questions. Looking at his trading statistics after four weeks of group mentoring, there's quite an improvement across the board. His realized risk/reward ratio has climbed out of the negative and turned positive. He was now making a little over one dollar for every dollar risked, and though it's still a little low, it is a huge change from his prior trading months! His largest winning trade is better than his largest losing trade and the ratio is improving. His average winning trade is now larger than his average losing trade and he has a winning percentage above 50 percent. All those factors combined to help him make money for the month, a first for his short trading career. But I especially like the change in his maximum drawdown, which fell down to an acceptable $134.

More tomorrow in Part 4. Read Part 1 | Read Part 2 | Read Part 4 | Read Part 5

Timothy Morge

timmorge@gmail.com
www.medianline.com
www.marketgeometry.com

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