Winning Trade % Confidence vs. Straight Losers Expectation
I won't lie, I slapped this together pretty fast, so please let me know if you find any errors.
I hope the attached image is self-explanatory. Find your trade confidence in the left column (60% to 90% success rate). Then look up %s of having 2 or more losers in a row with that confidence.
Your trades have a 78% confidence level.
You're likely to get:
3 losers in a row about 1% of the time.
4 losers in a row about 23 times out of 1000 times.
5 losers in a row about 5 times out of 10,000 times.
Depending on your trading frequency, you can (roughly!!) estimate how many losers in a row you can expect in a year, a decade, or a lifetime of trading (of course, your confidence interval changes with time!!).
For example, assume:
3 trades a day, 22 days a month, 12 month a year.
About 800 trades a year.
8000 trades in a decade.
Therefore, the green color represents a 'decade' threshold under these assumptions (since green outcome is at least 1 in 10,000).
In other words, with 3 trades a day frequency, you might see a green outcome in a decade of trading.
You are not very likely to see a blue one... assuming your trade confidence estimate is accurate.
Anyways, it's a bit simplistic, but gives you a ballpark idea. Enjoy.
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A similar question is if you start with $2000 and you risk $100 per trade with r:r=1:1, your win rate is say 2 out of 3. What's the probability the account balance would dip below $1000? I think the probability is smaller than 5%.
2 out of 3 puts you in the 66% row, meaning you can reasonably expect 8 losers in a row at some point during your trading career. So your account would probably not dip more than $800 at any one time (assuming the constant scenario above). Of course, you may have a string of multiple losers... but that's a different question and a more complex one.
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Yes, it's more complex. It's possible to have 6 losers in a row followed by 2 winners, then another 6 losers in a row. I think a Monte Carlo simulation can answer this question better if a precise math formula is too complex.
I love this kind of stuff but suck at creating it, I have such a poor understanding of math.
To me, this gets us a part of the picture of risk of ruin, something I would love to see in a color coated index like you prepared if that is somehow possible. I think risk of ruin should be talked about more on the site.
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