The age-old battle between strike rate and profitability.
(And how you can prove which one of them REALLY matters!)
I’ve been working with ‘S’ for a couple of months now: he’s one of my 1-2-1 coaching clients and he’s just reached the decisive point of becoming a consistently profitable trader…
Yes, he’s actually proven to himself, with profitable results from live trading, that he really does have the ability to extract reliable income from the markets. Just as we all do!
He’s done the hard bit, he’s achieved positive results from his first batch of trades, but it’s what he does next with the knowledge and experience gained from running this winning campaign that’ll decide his ultimate fate.
But let me quickly explain what we’ve been working on together…
S joined the Trader’s Nest Breakthrough Academy at the tail end of 2015. He absorbed the training materials but wanted some personal attention in adopting the core techniques to suit his particular circumstances: he needed to be able to place and manage his trades at arm’s-length while he went about his other day-to-day business.
And that was all perfectly fine. There’s always room to build the perfect strategy for you, providing you’re clear and honest about the resources – including time availability – that you can dedicate to your trading.
So the first thing we did was chop some bits and pieces out of the ‘standard’ FXBA trading plan.
(There’s a ready-to-roll trading ‘recipe’ right there in the academy, but there were parts of it that S wouldn’t be best-placed to use. He couldn’t really look for signals on the 15-minute or the 5-minute charts, for example, because he wouldn’t always have continual access to his chart software during daytime hours.)
Next, we concentrated on ways to take trade entries from the 4-hour chart. This would still give plenty of trading activity, but in a way that only needed a quick glance at the charts every now and then: perfect for when you have other things that demand your attention during the day!
We exchanged a few emails at this stage while we knocked this tailored trading plan into shape. We looked at ways to maintain a reward-to-risk ratio of 3:1 while keeping the number of opportunities high, for example.
And once we had the framework of trading plan version 1.0 in place, it was time to put it to the test!
Now, there’s one particularly effective way of doing this. It makes you trade any plan with a proven positive edge, just as it stands. It prevents any tinkering, so no bending the rules trying to eliminate losing trades or extend gains!
It’s Mark Douglas’s infamous ‘learning to trade an edge like a casino’ exercise.
The idea is that you execute a batch of trades EXACTLY as your trading plan says, and then you take the results of that live test campaign forward.
I really do believe there’s no better way of testing the mettle of a strategy, and your own ability to trade it.
There’s also a huge psychological reward too, but more about that in a minute. Let me tell you how to run the test first…
How to run Mark Douglas’ ‘learning to trade an edge like a casino’ exercise
NOTE: Make sure you check out his book – Trading in the Zone – for full details of this exercise (see it all on page 189).
1) Ensure sure you have fully conceived strategy. Make sure you know when to enter a trade, where the stop loss goes (and how you might adjust it later), how you’ll take profits, and which markets and time frames you’ll be trading.
IMPORTANT: You should only test a complete and probability-proven strategy. Be careful not to come at this with some vague ‘I’ll figure it out as I go’ idea, or you’ll gain nothing from your test.
2) Prepare to trade the next 20 events without hesitation. Prepare to pull the trigger on the next 20 trades your strategy brings to the table. No hesitating, second guessing, tweaking or rule-bending. Remember you’re testing a fully formed strategy, if you start changing things on the fly, the integrity of your test goes out the window and the results won’t mean anything. Make notes of any ideas you have for improvement, but introduce them to a future independent test.
3) Accept the risk. Make sure know in advance what the monetary risk will be on your batch of 20 trades. Allocate a percentage of your testing account against each trade and be ready to put it on the line. Don’t let the fear of losing hard cash suddenly get in the way of running your test trades.
4) Run the test. Take the 20 trades!
5) Analyse your results. The cold data your test gives you will be telling enough and you’ll see exactly how the strategy performs for you under live conditions. You won’t be able to kid yourself about decisions made with benefit of hindsight, like you can sometimes get with back-testing, and you’ll have introduced the real-world pressure of having actual money on the line, instead of trying to simulate it with a test account (test accounts have their place but it’s not the same as risking real money).
But it’s the huge psychological advantage you can gain by proving to yourself that money can be made in spite of taking losing trades that is the real benefit here.
The test will show you how you don’t need to know what’s going to happen next in the markets to make money, that a mix of winning and losing trades can all be taken in your stride, and that it’s the laws of probability that actually deliver profits over the long-term.
It’ll stop you living or dying by the result of your very next trade, and that it’s the bottom-line result after a larger sample size that matters.
After all, you’re a trader for the long-term, right? You’re not planning on shutting down your trading operation after just one trade, so why not have a longer-term vision for profits from the outset?
Now, going back to my 1-2-1 client S and his own test results…
He’s just completed his test batch of 20 trades, and get this… he had 13 losing trades but only 7 winners. A winning trade strike rate of 35%.
It doesn’t sound like anything to write home about at face value, does it?
But let’s look a bit more closely…
Remember how I mentioned the trading plan sought trades that win three times as much as they lose? Well let’s say a fixed 2% of the starting bank was risked on each trade…
7 winning trades at 2% = +42%
13 losing trades at 2% = -26%
42% – 26% = 16% net return on account.
That’s a potential 16% return on account in just over a month. Or £1,600 profit on a trading fund of £10k, all while S goes about his other daily business.
It really does highlight just how misleading the winning ‘strike rate’ of a strategy can be. Yes, I know a high strike rate can give that warm fuzzy illusion of security, but nothing replaces actual realised profits.
You can’t sit down at a fancy restaurant, have a slap-up meal, and then try to pay with your ‘high strike rate’ can you? You’d get some very bemused looks.
It’s actual money that makes the world go round, and that’s where your focus needs to be as a trader. It’s not always easy to do, I realise that, but I think S has just made the breakthrough. He’s seen how money doesn’t necessarily come as a result of ‘winning’ lots of trades. And I’m going to be doing everything I can to get this discovery deep-seated in his psyche.
If you’re still tangled-up focusing on strike rate instead of profit, why not join S and run your own test too? It can be a useful way to highlight where the money really comes from.
Be Prepared: Market Moving Data Coming This Week (London Time)
Wednesday 3rd February
09:30 GBP Services PMI
13:15 USD Non-farm employment change
15:00 USD ISM non-manufacturing PMI
15:30 USD Crude oil inventories
Thursday 4th February
12:00 GBP BoE Inflation Report
12:00 GBP Interest rate decision
12:00 GBP BoE Meeting minutes
12:45 GBP Carney Speaks
Friday 5th February
00:30 AUD Retail sales
13:30 USD Employment numbers
Monday 8th February
– no big reports
Tuesday 9th February
– no big reports
So it’s all about the Bank of England’s interest rate decision and rhetoric from Mark Carney (BoE Governor) on Thursday, followed by US job numbers hot on its heels on Friday. It could be an interesting couple of days!
Until next time, happy trading!