I have a doubt…
Is money management a [B]solution[/B] to draw down ?
Please share your experience.
Is it possible that a person who has solid money management in place but due to drawdown he might go bankrupt…what are the chances ?
(Trading Strategies: any standard Strategies taken from babypip school)
A good money management should be tailored to avoid big drawdown, so yes it is a solution. Obviously you still need to be profitable otherwise you end up loosing. There is nothing that will give you a 100% to win forever however. What are the chances? well it depends on many, many things. But I can give you an example and do the maths from that:
Let’s say you consider 30% of drawdown is your personal limit.
Let’s imagine that you have a mechanical system that magically gives you 60% chance of win over a hundred trades a year. Your SL and TP are both at 100 pips. So you basicaly win X$ 6 times over ten, and loose X$ 4 times over ten, this is profitable in theory.
To make it simple, let’s suppose your money management rules are to take only a trade at a time. You adjust your position sizing so that each trade is X% of your capital.
The probability of loosing N times in a row are (4/10)^N. What probability would you consider too risky?
If you take your risk parameter X at 10% of your capital, you will loose 30% of your money and probably become psycologically shocked after 3 loss. The probability of that 0.4^3 = 6.4/100 approx. You have 6.4% chances your next 3 trades will put you at your limit. The number alone seems small, but do not forget you make 100 trades per year!
Now if you risk 3% per trade instead of 10%. You need 10 losses in a row before reaching your limit. The probability becomes 0.4^10= 0.01/100. You are a lot safer. The bad news is that it also reduces you profits.
In other terms, from a given trading performance you can set your money management to either grow slowly and safely, or to grow fast and risk to loose the game 
That is just by changing the amount of money you risk per trade. Your money management rules can be a lot more complicated if you split your exist, enter multiple trades at once on different pairs, use different systems, etc…
I’ll edit this post in 5 minutes, I may be able to add a graph for a more visual explanation.
edit: it will take me more than 5 minutes, but I have not forgotten. I will add a reply when I can.
Thank you so much for the information. You are very much helpful.
instead of 60% win ratio …if my strategy support 30% win ratio…what will be the impact ? Will I still be able to survive and remain profitable ? I am thinking about worst case scenario.
can a bad Strategy ( 30% win ratio ) make one profitable in the long run following money management principle ?
Thanks for your post and time … and please add graph or whatever else you have in support to your comments.
How in the holy heck could money management possibly make a strategy that only wins 30% of the time with what I’ll go ahead and assume(because we never get enough info from you) has a 1:1 risk:reward?
This should be a part of your plan. Plan on loosing 10 times in a row.
THAT #. Divisable by 10. Is what Keeps you in the game.
Thanks for the post. Not understood your point.
What you are trying to infer with this logic ? Could you please elaborate bit more.
If you have a 30% win ratio but that you still win or loose 100 pips per trade you will obviously go down as you are not profitable.
To be profitable with a 30% win ratio you need your wins to be 70/30 (=2.34) times greater than your losses. For example if your wins average at 250 pips and your losses are at 100 pips average, you can be profitable with a 30% win chance.
The graph are ready. They come from a spreadsheet i made a year ago when I was very technical
I enter a win% and a risk/reward ratio in the spreadsheet and it generates 500 trade results.
Here to keep my example I selected a win% of 60/100 and a risk/reward of 60pips/60pips.
Then I run montecarlo simulation from that in the spreadsheet. A montecarlo simulation here is simply re-shuffling values randomly. So I take these 500 fictional trades, and I re-shuffle them 50 times. I abtain 50 different scenario of what could happen if I go trading this system performance. I can also feed the analysis with backtest or forward test results if I want. I did not do more than 50 iteration because it is made from a macro i made myself, and since I am no developper the macro is not optimised and runs very slowly.
Anyway, I did it twice, once with 1% risk per trade and another time with 5% risk per trades. The starting capital is 10 000. Here a the resulting graphs, keep in mind they all come from the same trading results:
-> the blue curve is simply the 500 trading result I fed as input.
-> the green curve and orange curve are two of the 50 re-shuffling of results. They are not labelled well, ignore them
-> the brown curve is the reshuffle among the 50 that gave a maximum drawdown
-> the yellow curve is an average of the values of the 50 reshufflings.
-> the purple arrow is the postion of highest drawdown on the brown curve.
You can see the balance goes really higher with a 5% risk compared to a 1% risk.
However if you look at the drawdown with 1% risk it is 14% and about 2000$ loss, no big sweat. The trader almost tripled is account in 500 trades
with 5% risk the maximum drawdown is 64% and about 80000$. Good luck coming back from that psychologically. Montecarlo simulations does bring out the worst possibility tough, 5% risk is high but not extremely risky.
At 10% risk the account gets blown up during many montecarlo iterations.
First of all , thanks for taking time and pain to type such a lengthy post…I appreciate your work.
post is wonderful. I liked it . This was very much helpful.
Will it be possible to input these details in your spreadsheet
win% = 50
risk/reward=1:2
2% risk per trade
What draw down % you get ?
once again …thanks for all the help.
(Is that spreadsheet sharable ? so that I could do some R&D and play at my end )
Nope I don’t share it, but if you google it you should find some. Some that are a lot better than mine actually.
Don’t get too high with montecarlo simulations tough, while it can be nice to understand risk and probabilities, I don’t consider it an important aspect of trading. Your time is better spent elsewhere.
A 50win% and 1:2 r/r will give you a flattish curve with a noise amplitude proportional to the risk % you set in. Montecarlo simulations would blow the account pretty quickly as we increase the risk%, but what’s the point? No it is not safe to trade by flipping a coin :46:
That your edge is what makes you profitable, your money management keeps you in the game.
Unless you have a 50% or better win % you need 2:1 trades to be profitable.
Trade 3:1 (or More) and your win rate is not as important, pay for losses and earn profit.
Obviously I’m biased toward the 3:1 as I’m not winning 50%.
I have to budget my trades if they’re all loosers.
Thanks MikaCa …thanks for those words.
Hey Godzilla. I thought about the posts you’ve been posting. As you know, you frustrate some of us traders with your questions. I thought for about 6 hours what you need. I’m going to try to say this as nice as possible. I’m here to help after all. Here’s what I want you to do:
Thanks for your posts. I read them and find them very much valuable and helpful. Thanks for the concern and your expression to help.
if you just sit down and try to think of how win:loss, risk:reward and money management works. It’s not complicated. I will help you.
Do you know any good recommended article/resource/links/videos for this ? I have gone through babypips lessons …those are just wonderful. …I was looking for a bit more advanced lessons. If you have come across any beautiful lesson on this topic …please share.
once again …thanks for the post and your time.
Stop saying thanks and show me you get money management
I follow this thread with great interest. I also thank Braden1 for taking the trouble to share with us your montecarlo simulations. This is the 1st time I’ve ever heard of such a thing but it is insightful nonetheless. You mentioned that we can google montecarlo simulations? Could you share what we look for, and what we will find? Is it spreadsheets that we can download and play around with, coz I am really interested in this area.
Coming back to the topic, I’ve heard many people say that if you are profitable half the time with a 2:1 r/r, you will be profitable. I happen to have almost exactly such a system which I have been testing on USDJPY 1 hr charts since May this yr. It was based on an idea that popped into my head one day, so I put it on a chart and did some backtests(about 60) of them and aimed for 2:1 each time, while moving my stops according to psar dots in the direction of my trade every time to reduce risks. Ended up with a win loss ratio that fluctuates around 50%, ave. wins about 1.24 and losses about 0.62 times of what I risk. That would be a profit factor of 2.28. On paper it looks great, but there are times when I would lose 4 in a row or 5 in a row on forward testing, and man those times were very hard psychologically to get around. I would say I don’t have what it takes to trade this system even though it seems like a very profitable one. I can’t speak for other traders but I would think most people would be more comfortable with a system that wins >60%, for the sake of their nerves. Even then, a system with >60% win ratio can still see 4-5 losses in a row. So for those on this forum who are trading systems with less than 50% win ratio, I would say you need to have nerves of steel to have the discipline to pull the trigger, especially after a bad string of losses.
I have now moved on to another system, with slightly higher win loss ratio(closer to 60%), and I am more comfortable with this system. Still, I do not risk more than 1% each time.
It was [B][I]Orpexo[/I][/B] who shared the stats, maths and the MonteCarlo simulations, not [I]Braden1[/I]. Give [B][I]Orpexo[/I][/B] the proper credit for really helping out and giving useful replies to the original poster.
@Carra, you are misunderstanding … montecarlo post was from [B]Orpexo[/B] … his post was very much helpful and useful…he is a very helpful guy and a gentleman. …we should all thanks to [B]Orpexo[/B] for his wonderful post and sharing the knowledge.
you’ll make me blush guys :13:
@carra
yes, if you google something like ‘forex monte carlo spreadsheet’ you should find some I beleive. Before I did mine I found 2 or 3 from the internet. The best way to fully understand something is to do it yourself, not copy someone else. I ended up doing my own. But honestly it was a bit a waste of time.
I’ll repeat my warning. Monte carlo simulation is just playing with probabilities, it will not help you much on your forex path. I brought it up because it was on the subject of the OP, i.e. my answer was Money Management should limit your drawdown, but don’t forget that there is always a chance of having the worst luck. Montecarlo simulations are nice to show somebody overconfident in a system that eventually everything can happen, that loosing 10 times in a raw is always possible even with 95% win rate, and that the maximum drawdown given by a standard backtest is not the maximum drawdown possible, but rather the ‘probable’ one.
The problem of montecarlo simulations is that, with a very high number iteration made, it will always eventually find the results order where all losses come first and blow the account quickly, no matter how good the system actually is.
It is only good to spot If a backtest was actually over-lucky in the result distribution.
As braden said, your focus should be on being profitable, and montecarlo stuff won’t help you trade better. That is why I said that your time is better spent elsewhere. Good money management rules like ‘risk 2% capital per trade’ are good enough to kep you safe.
Despite the fact that most traders are fully aware of it, it is a curious notion that many traders seem to ignore money management all together or pay very little attention to it. The fact that most traders lose money in the markets is not really surprising if you consider that most of them also have no money management plans and mostly ignore the fact that they can lose money on any trade they will enter.
Hello Godzilla,
Money management can make a drawdown more or less severe, depending on what MM method is employed.
MM can only improve the returns of an already profitable strategy, and if a strategy has no edge then MM won’t help.
One possible MM approach is to trade your own equity curve. This means that a certain level of drawdown causes a complete cessation of trading (position size of zero), and trading resumes once the drawdown has ended. While this can reduce drawdowns it can also lead to mediocre results.
If you want to learn more about MM then I recommend Ralph Vance’s books.
Kind regards,
Nick
