Thread by @ChrisBTrading

The Mathematics of Trading:

You must know this to change from a beginner trader to a profitable one.

#trading #stocks #DayTrading #Daytrader #TRADINGTIPS
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One thing I've noticed beginners focus on too much is the win rate of a trading strategy

But remember, WINRATE IS ONLY HALF THE EQUATION! The other half is the win-to-loss ratio

Don't just look at the % of winning trades, also consider the average profit and loss of each trade.

To get a more complete picture, use the expected value (EV) equation:

EV = win rate % * avg win - (1-win rate %)* avg loss

For example, if your strategy has a win rate of 60%, an avg win of $100, and an avg loss of $80, its expected value is

EV = 0.6 * 100 - (1-0.6)*80 = $28.

This means you can expect the strategy to make $28 on avg every time you trade. If the EV is negative, its a losing strategy

With EV, you can see how a strategy with a win rate < 50% can still be profitable if the avg win is significantly greater than the avg loss.

From my experience, win rate and W:L ratio are typically inversely correlated. High win rates often come with large losses, and low win rates often have large wins and small losses.

Where your strategy falls on this spectrum is up to you, but the point is: it's important to consider things other than just win rate.

With these numbers, you can also start to do more advanced modeling.

For example, if you have a low win rate strategy you can model how many trades are needed to become profitable on average.

You can also model how big and how long drawdowns are expected to be. Low win rate strategies increase the VARIANCE in your results, so it's important to prepare for that and understand what that means.

It may be a winning strategy but if it has a low winrate and doesn't trade often it might be normal to be in a drawdown for months, are you prepared for that? Can you handle continuing to execute a strategy that has been losing for weeks?

That's why it's important to keep a good database of your trading stats and use them to model and plan for different scenarios.

I outlined the way I do this here:

https://twitter.com/ChrisBTrading/status/1597318532605575168

#tradingtips