Risk... Highly misleading?

Beginner Questions
1

How can you quantize risk if you have more than one variable that isn’t constant when you trade? Why even risk anything if 90% of the time you falsely extrapolate the odds? Good traders try to maximize the odds of winning right? Allowing time to manipulate the actual risk you are taking by reducing your odds seems preposterous to me now.

After toying with this idea that we do not accurately quantize the risk we are subjecting our trading accounts with… I now believe I am getting closer to shedding light on how to win more trades while thus reducing risk as well as losses by trading using probability and subjecting each trade to the same duration of time or expiration date…

From what I have concluded, most strategies do not account for the total time spent in a single trade. And most trades, unless an expiration date is chosen, take random amounts of time to either lose or win. It takes time for the market to move, so therefore less time would generally mean less chance of the market moving farther away from the point of entry. Follow me so far?

Here is an example:

Say you take two different trades, one will be called trade A and the other called trade B for simplicity. Both trades are placed at the exact same time, using the same currency pair. Trade A is placed long while trade b is placed short. After a period of time passes you end up closing out of trade A, but you leave trade B open. Another period of time passes and you close out of trade B. Assuming the only difference in the two trades was time and direction (long or short), which trade took on more risk? Same lot size per trade, same stop loss, same take profit. Let’s say you where able to close out of each position before getting stopped out or hitting a take profit.

Whether you win or lose the trade, logically wouldn’t it seem like the longer you hold onto a trade, the more risk you are taking (without changing the stop to break even if the trade was profitable)? Direction shouldn’t greatly effect risk as much as time does because direction is constantly changing (volatility) where as the way we read time never changes (that’s why we should make time constant because it only progresses linearly forward, not forward and backward). Although I do wonder, which direction has a higher chance of winning historically speaking and by terms of odds.

I’m trying to minimize my risk to gain percentage not just in how much I lose or win, but also by limiting the effect of the market on my portfolio. The problem is I only see two answers. Be in the market for a shorter period of time (subject to less volatility), trade with very few units (less of an impact on the account balance when trade goes down down or up up), or a third unlikely answer… Win every trade (would only work because as the account rises, risk would decrease If you always only traded one lot size and had the exact same TP and SL for each trade).

What do you guys think?

It’s hard for me to accurately quantize risk when I’m subjecting each trade to win or lose, but i don’t give the trade a defined period of time to win or lose, I just let it go till I get stopped or until I hit TP. Doesn’t this traditional approach seem flawed to you?

2

First, good traders don’t try to maximize the odds of winning. They look maximize their profits within the context of the kind of risk they are willing to accept. Odds of winning is only part of that equation.

Second, you need to define what you mean by “risk” in the context of your discussion because at least for me it isn’t clear.

Third, you need to identify which variables you are talking about that are not constant and indicate whether you are talking about just for a given trade or for you whole trading experience (or some other segment of time).

Beyond that, I think most traders would argue that they actually do look to “quantize” their risks in that they define what they are willing to lose on a given position and/or over a given period of time.

Also, to say that trade holding periods are random is not correct. They may be random within a constrained range of outcomes (for example, a day trader will not hold any position beyond the end of the day), but that isn’t the same as truly random. Even if you aren’t fully constrained as a day trader is, any given trade has a likely range of potential holding periods based on the exit conditions defined by the trader’s strategy.

And beyond that, suggesting traders do not take time into consideration in their trades is incorrect. Many do in the shape of “If the market doesn’t do X with Y amount of time I will exit”.

If you define risk in terms of the size of a loss suffered should the market go against you, then you are correct. There are only two ways to reduce that risk - smaller trades and shorter holding periods. Not losing on any trade at all is not a third option because there’s no chance of losing any sized amount no matter what you do.

3

Interesting stuff!

What about stop los?, it’s good trading practice to move Stop Loss to Break even, but the chances are the price will move to the price you traded at, s when to move an SL? Then the longer you leave it before you move to SL, the higher the chances of both being stopped out and taking more ptofit, more and more variables.

So what’s the answer, I say have less variables, you have only 2 variables to begin with, Times Vs Price, the more you derive the more you muddy the picture, and that’s why the world is in such a state, we started off with futures and got to derivatives, and got to insured derivative futures, and look where it ended up.

On another score, Warren Buffet, uses many less variables, and uses the simple principle of Is this a good Company?

So what’s my point?

Over the years as I have gained experience, I have used less and less variables and by doing that, my losses have become profits, my profit have become more consistent and they keep increasing.

So how to translate that on a practical level?
Now this is where I try to get to the point, it’s so easy to talk about run with your profits and cut your losses short.

Ok, here’s an example, part of my strategy is to look for entries with 3 pin bars at at S/R, first of all, take a trade with the trend, this increases your chances of winning, then the less risk is 3 pins, then I might still take the trade with 2 long wick and a pin at an S/R level, so my risk is now quite easily quantifiable, 3 pins low risk, 2 long wicks and a pin a little more risk, and so on and so forth, simple quantifiable, functional, profitable.

4

The only thing that keeps the trades capital safe no matter how much skills or experience he is having is the proper use of the Stop Loss.

When you have set it then you know the maximum limits of loss that can happen to your trades.

5

What I mean by risk is the amount of money you put on the table over time to try to make a profit. I understand the money doesn’t change, but your odds of losing that amount changes the longer you keep the position open.

I just think if no matter what, you trade each trade the exact same way… Same units, same stop, same take profit, same amount of time each trade has to breathe… Then overall you are identifying your variables and controlling as many variables as possible to consistently turn more profit with a higher rate of winning via odds

Real risk shouldn’t be defined as how much you lose or can lose, rather, risk should be defined as your over all odds of losing. As the market changes so does your risk because you get closer and closer to hitting TP or hitting your SL.

I’m sure plenty of traders try to control as many variables as they can to become more profitable… I’m more or less talking to the noobs like myself, and anyone that’s looking for ideas to tweak the system they trade with.

6

Risk needs to account for both probability of loss and size of loss, not just one or the other - and do so relative to the probability of gain and the size of the gain.

7

You greatly reduce the risk by combining technique and fundamentals and placing trades at the most logical times, or better said, PRICE…

I personally think risk weighs more to market knowledge, then numbers you punch in for the trade.

Is it more risky to cross the street with your eyes open, or closed? It dont matter how much money you have in your pocket, the bus will hit you just the same way…

So, you gather information, then you independently continue into the street with a predetermined game plan, meaning, getting from Point A to point B…

THEN, its about managing your position once you enter… Do you stroll, or do you run? ( letting price go your way for a abundance of pips, or a quick few pips).

My point is this. We all know we cant predict the presented outcome of price, but with a slight degree of knowledge in all factors pertaining to the situation, we give ourselves a better chance, ( Less Risk ) from the starting line, to the finish line…

To me, its not about numbers, its about the decision making process BEFORE trade initiation…

Personally, I trade 80% better without a Stoploss. But Im Pair sniper… I like to see my trade positive in a very short time, and I never let my trade run without my presence.

Per my Strategy, thats how I play the game. In and out…

It dont matter if your long term, short term, or scalping, each step is the same… And if your predetermined plan is thought out properly, it greatly reduces your risk.

Risk reduction, stay out during opens and closes, weekends, and high volume movements.

THOSE are the times THEY are HUNTING US.

You either jump on the run-a-way train, or you wait till all is calm, and the big boys are done trading for the day…

THEY ARE PLAYING THE RETAILERS, so we have to sneak attack them, chunk by chunk.

OK, sorry about the ramblin, Im just very passionate about my trading, and there is a bigger picture that must be seen, in order to win the game…

My Swagger is on steroids, :cool:

8

That was actually a great response and a good point. :slight_smile:

9

Great post. I really like the analogy about crossing the street with your eyes open versus closed. It doesn’t matter where you cross the street(the location you cross the street represses price) if you cross with your eyes closed (more likely you will get hit by a car/stopped out). it’s common sense you will have higher odds of not getting hit by a car if you look both ways (represents following a strategy) and cross with your eyes open (constantly watching your trade).

Whoever said risk is probability, and actual loss… I like that too, makes perfect sense. To me returns mean nothing unless they consistently outweigh the losses for more than a few months worth of time.

10

Risk is every where and only when we are able to see it coming we know what we have done. I would like to say that any trader who trades in the currency markets with little or no knowledge is already taking a BIG risk.

If a trader is ready for them it is okay but i never advise any trader to take risks in the starting for the simple facts that any market movements against your order could give a big loss and drain account the invested funds.

11

As long as you place stops you can define your risk. What this thread should have been labeled is how to better your odds. I think the amount of time you are in the market or rather your trade length greatly changes the likelihood of your desired outcome. Not think, rather now I know this is the case. The strategy tester in mt4 or mt5 will confirm the previous statement. At least the strategy I tested confirmed it

12

Some traders usually prefer to close their trades manually but then even if you want to close them manually still it is better to use a Stop Loss so that the account is always protected from unexpected surge in the volatility in the markets due to any major news release :slight_smile:

13

These replies are full of wisdom. I’d like to add a perspective specifically focused on the issue of how a Risk Allocation strategy can “better your odds”. I start from the perspective that you can’t lose money unless, and until, you Stop Out. So the goal should be: Design your risk allocation so that it is Rare that you ever have to Stop Out, and when you have to Stop Out, do so Incrementally. In other words, gradually add to your Position using Cost Basis Averaging, and incrementally take partial profits as any entry level goes to a profit point, and rather than a Catastrophic Stop Out, be able to incrementally reduce your position. This looks at trading as much more of a Continuous operation, rather than as In, then Out either with a Target Win or a Stop Loss. If you design your risk allocation so that a wide range of price can be tolerated, then you can minimize the damaging effects of Stop Outs. A little book keeping as to where each Entry took place, and where that Entry meets a profit criterion is a simplistic way of thinking about it. But it’s “Scaling In” and “Scaling Out” which is a fundamental technique that puts the odds in your favor and makes your trading more Survivable. Design your trading so that No Single Decision is crucial; rather, the aggregate behavior, your Buy Cost Basis as against your Sell Cost Basis is what results in your overall profit. Any single decision is really not that important, and this is a statistically sound method of managing Risk. You do find yourself “scaling into” a position as price moves against you, but this is part of your Plan, in the case of a Long position, to achieve a Lower Cost Basis for your eventual total position. This is not advice which you’d typically receive from “trading coaches”, but I believe the biggest enemy of the trader is the (unnecessary or premature) usage of Stop Losses. If you can design things so that you do not very often have to Stop Out, then you can Survive through to Profit Taking. Sometimes, let’s be honest, Stopping Out, may be necessary but I’m saying your Goal should be not to be forced into catastrophic Stop Losses by distributing your Risk through “scaling in” and “scaling out” of positions. HyperScalper.

14

HyperScalper, I get what you are saying. It will work scaling into losing positions… for a while. Eventually you will get your self into a situation that is not pretty. EG the last month trading against the USD.

I do trade averaging my trades with a type of basket sometimes. The tricky thing is that you should add trades with a high probability of winning, not just adding to losing trades. It is not as easy as it sounds though and the more losers you have, the more it becomes gambling.

Your comment "you can’t lose money unless, and until, you Stop Out. " is seriously flawed. If a trade is losing money, you have already lost that money. You can wait and it might come back to positive, but at any point in time your equity is your equity, losing trades are money you have lost.

Generally if you are going to add to open trades. You should add to winning trades. This has virtually 0 risk and possibly high returns. I will attach a pic to show you what I mean. This is current AUDUSD -Adding to Winning Trades. 3000+pips in the last month.

00zz AUDUSD.jpg700×456 44.7 KB

15

You obviously do know what you’re talking about. Just a couple of things: 1) Cost basis averaging is only a framework, and it can’t be done just blindly. It is a necessary part, but not a sufficient condition of winning. 2) You also need good Analytics which can guide you for every trade decision, and that’s usually unavailable to most traders. All that I’m saying is that most traders Run Away from Price Adversity, but Price Adversity is a “normal” part of trading. By designing your Risk Envelope such that a range of price adversity is “tolerable” you avoid Premature Stop Losses. It is the “premature” stop losses which a trader should avoid; not ALL Stop Losses. I maintain that traders need to understand that being “underwater” in trades is a “normal” part of the process of managing a position, and not just have the Knee Jerk reaction of Stopping Out. In Real Trading, Emotions come into the process, but if a trader does not become Overly Committed, then “normal” price adversity is not such a frightening experience. I believe traders are advised to Stop Out Early, and that this results in dropping of positions which often work out with patience. Not every underwater position works out with patience. The Euro market has been in a down trend and certainly Long positions are suspect, depending upon their duration. My only point is that traders Stop Out too soon, and this actually hurts their trading results. But, as you point out, there has to be a time to “know when to hold 'em and know when to fold 'em”. I just advocate that both entering and exiting the market should be an incremental “process”, rather than an “event”; so trading becomes more continuous, rather than ALL In, and then I Win or I Lose and back to Flat again. The best traders take every opportunity to use an averaging approach, as you so rightly pointed out. HyperScalper.