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How advanced mathematics and gaming theory can help you as a trader
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How advanced mathematics and gaming theory can help you as a trader

  #131 (permalink)
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I started out thinking Fat Tails was right and then I was thinking the rm99 was correct, and then I went back to Fat Tails at although I am only 3 1/2 pages in so far.

If a coin flips Heads 5x in a row, the chances of the next flip being Heads is 15% for example. However this percentage only applies to the string itself. At the end of the day, the chance of the next flip being Heads is still 50% because each flip is completed detached from the previous outcome.

At first glance, this realization appears to crap all over the idea of chart patterns but I believe that would be overstating the results because financial markets do not deal with inanimate objects like coins, but rather with entities that remember and consistently make the same errors (read: create bubbles). Chart patterns seem to represent a string of emotional reactions that are more likely to happen than a random occurrence. To what degree they predict, of course, is definitely up for interpretation.

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  #132 (permalink)
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Bermudan Option View Post
I started out thinking Fat Tails was right and then I was thinking the rm99 was correct, and then I went back to Fat Tails at although I am only 3 1/2 pages in so far.

If a coin flips Heads 5x in a row, the chances of the next flip being Heads is 15% for example. However this percentage only applies to the string itself. At the end of the day, the chance of the next flip being Heads is still 50% because each flip is completed detached from the previous outcome.

At first glance, this realization appears to crap all over the idea of chart patterns but I believe that would be overstating the results because financial markets do not deal with inanimate objects like coins, but rather with entities that remember and consistently make the same errors (read: create bubbles). Chart patterns seem to represent a string of emotional reactions that are more likely to happen than a random occurrence. To what degree they predict, of course, is definitely up for interpretation.

It's a nice theoretical discussion and all, but the only way you can compare trading the markets to a coin flip, is if you trade by closing your eyes, throwing a dart and see if it hits the 'buy' button or the 'sell' button.

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  #133 (permalink)
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monpere View Post
It's a nice theoretical discussion and all, but the only way you can compare trading the markets to a coin flip, is if you trade by closing your eyes, throwing a dart and see if it hits the 'buy' button or the 'sell' button.

Are any of you familiar with the random entry experiments that dealt exclusively with exit strategy?

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  #134 (permalink)
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HowardCohodas View Post
Are any of you familiar with the random entry experiments that dealt exclusively with exit strategy?

I remember several sources for test of a combination of random entries with a defined exit strategy.


(1) One of the first sources is the 1991 classic by Charles LeBeau / David Lucas: Technical Traders Guide to Computer Analysis of the Futures Markets (recommended read).

They present results for the following stop strategies:

5-day Parabolic
10-day Parabolic
3 day high-low
10-day high/low
RSI Trail
Key Reversal
Fixed Stop $ 500
Fixed Stop $ 1000
Volatility Stop (Chandelier)
Stochastic Cross
Profit Target $ 1000
Profit Target $ 2000

Do not expect too much, the topic is covered on a few pages. Also, I doubt that the results from 1990 can be applied to today's markets.


(2) A more detailed description can be found in Jeffrey Owen Katz / Donna L. McCormick: The Encyclopedia of Trading Strategies.

Part III of that book (about 70 pages) is dedicated to the study of exits.

The methodology they used was to test all entry strategies against a standard exit strategy which served as the benchmark exit. This standard exit used

- a money management stop (stop order)
- a profit target (limit order)
- a time-based exit (market order)

The standard exit was then tested against random entries. Afterwards they modified the standard exits and tested different exit strategies against random entries. The results were more or less deceiving.

I am not fond of testing exits without taking into account the entryies. Although I believe that exits are more important than entries, the appropriate exit strategy should take into account the chosen entry. A trendfollowing trade may work well in combination with a trailing stop, a short countertrade may require a fixed target.

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  #135 (permalink)
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A little knowledge is a dangerous thing.


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  #136 (permalink)
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cpi65 View Post
A little knowledge is a dangerous thing.


Not as dangerous as no knowledge. And then it is not the question who has built the car, but who drives it.

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  #137 (permalink)
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I did some work on random entry many years back. IIRC, it showed that a good exit strategy alone was not satisfying because markets trend only about 20% of the time. (I read this somewhere, but can't remember the source.) I concluded that getting the entry right helped greatly and that getting it wrong was not overly harmful.

One of these days, I hope to resurrect that study and look at the current trading environment.

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  #138 (permalink)
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Speaking of random stuff:

https://futures.io/traders-hideout/7364-random-line-theory.html

and

https://futures.io/elite-ninjatrader-automated-trading/2649-erratic-method-random-entries.html

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  #139 (permalink)
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This is an interesting thread and I'm only half way through, but I had a question (I also see the thread hasn't had a post is some time so I hope it is not dead). There were posts that proposed that all trading systems, ie programmed rules that trade a market, will eventually fail. The implication, if I understood, was that you should not trade them. If this was the correct implication, then I would disagree for multiple reasons.

Lets say I have a daytrade system that is back-tested 2 years and walk-forward tested 1 year and has a positive expectancy of 1.5 in profit factor. Let's further assume that the net profit vs. drawdown is over a factor of 4, ie $16000 / $4000 = 4. In this case you have a clear indication of when the system is no longer working. If you perform a Monte Carlo simulation you will find a 96% chance that the system will never go above $10,000 in drawdown. Lets say you select $10,000 drawdown as the point that you dump the system. In the mean time, you trade the system and make $100,000 off of it. Then one day it hits the $10,000 drawdown and you are out. That still leaves you with $90,000 in net profit.

Now the upfront risk is very real, because clearly you could start trading the system and the day you start is the start of the $10,000 loss. So you have an up-front risk of loss. But the probability that you are going to hit the breaking point of the system when you randomly start using it is exceedingly low. Add to that a diversification strategy that uses multiple systems and you can reduce risk even more.

My point is that automatic back-tested trading systems can be very worthwhile. I was not sure if there was a criticism or dismissal of them in this thread? I also would love input on the idea of dumping the system if it hits the Monte Carlo 96% point?

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  #140 (permalink)
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isn't there any real gamblers among traders?



Fat Tails View Post
If you have a binomial distribution, this indicates that the single events are stochastically independent, or otherwise put uncorrelated. In this case there is no progressive betting strategy, which will give you an edge.

Progressive betting strategies only make sense, if subsequent events are correlated. This is not the case with a coin flip. Your example is simply false. Sorry for my lack of diplomacy.

during 1980 when myself was still very young and magnanimous.... there were standing invitations from a few casinos in vegas.... at the roulette tables, practically every 3 hours or so, i would win 10 to 14 times in succession and during that same period of time, the house would also have a winning streak of 13-17 times in succession as well....

the strategy was to double up each subsequent losing bet....

the amount was staggering indeed, if you apply the math to it.... to the 14th losing bet....; starting with only 2 chips @ $25 per chip.... now, if you are other than dick and jane gamblers infrequently visiting the tables, the house would allow you to bet practically any which way that enthrill your senses....

the at the moment excitement would be enough to entice anyone to return to the table.... particularly coupling with all the freebies thrown in to the envy of all around.... yes, you are presented with everything a human would wish and dream about....

returning to this thread.... human feeble emotion and human inability to stay focus evenly from the first hour to the third hour.... would empty your six-figure acct; even if you have a superior betting strategy....: is my sad conclusion in its finality....

any one or any trader tries to claim or to propose or to postulate.... that gambling and trading are the same or even similar.... really is probably excel at neither....

trading and gambling are a world apart.... like water and oil.... (a one man experiences)

doubling, tripling, quading your longs or shorts as guru h loves to demonstrate in his $300 per month trading room.... could definitely be profitable.... as guru h has shown for several years. but he never advocates such technique to be used everyday. he reserves his extraordinary talent only for events such as of the last few weeks.... and when the voice from the pit was extraordinarily high and piercing to the ears....

yes, all is probable, possible and applicable.... but the question remains.... are we experienced enough to take advantage of all those extraordinary strategies at this moment in time in our trading arena.... and i have no doubt many of you among numerous of us.... are already reaping these benefits....


Last edited by nakachalet; September 15th, 2011 at 02:57 AM.
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