Position sizing strategy for scalping

kevinkdog · August 27th, 2023, 09:43 PM

I thought I'd play around with some simulations with this "modified martingale" approach, and compare it to trading a constant size of 1 contract.

I assumed that 60% of time you'd win $1, and 40% of time you'd lose $1. The test is for 250 trades. You'd start with $100 bank, so the risk of ruin is very low. After 250 trades, with 1 contract you'd have $50 profit.

Running some Monte Carlo (random number) simulations, here is what the final equity after 250 trades looks like:

Final Equity

Here is a histogram of how many occurrences out of 2500 simulated runs will have a final equity at a certain point.

This shows that the "modified martingale" approach can definitely outperform the 1 contract case. It has a median Final Equity of around $180 (compared to $150 for 1 contract case.

Max Drawdown

Here is a histogram of how many occurrences out of 2500 simulated runs will have a maximum % drawdown at a certain value.

This shows that the "modified martingale" approach will likely have bigger drawdowns than the 1 contract approach.

So which is better? It really depends on your goals. If you are willing to accept more risk (measured by max drawdown) you could gain more profit with modified martingale approach.

If you are more worried about limiting risk, than the 1 contract approach is best.

If you want to maximize risk adjusted return (as measured by profit/drawdown) then the 1 contract approach would be better.

kevinkdog · August 27th, 2023, 09:51 PM

Just as a follow on to why martingale type strategies can be dangerous, consider risk of ruin. This is what wipes out most traders.

Let's say instead of having $100 bank to start, you only have $10.

If you trade 1 contract all the time, your risk of ruin after 250 trades is 1%

If you trade the modified martingale approach mentioned earlier, your risk of ruin after 250 trades is 14%

So, in other words, the less starting capital you have, the more likely a martingale type approach will wipe you out!

derivativesnyc · September 2nd, 2023, 05:51 PM

read Ralph Vince & Van K. Tharp on portfolio management optimization formulas, position sizing, money management

Position sizing strategy for scalping

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Position sizing strategy for scalping