Traders are responsible for profits & minimising drawdowns. Being consistent we determine what timeframe we wish to trade.
- Developing a system we have to determine which timeframe we want to be consistently profitable over.
- The most important metric in determining consistent profitability is expected profit factor.
Consistent Trading Profitability Over X Timeframe
We could be a day trader which holds no trades overnight, or you could hold trades a week, a month or even a year. Some traders may only make 10 trades per year whilst others might have 1000s of trades. Every individual must decide the timeframe they wish to be consistently profitable over.
So developing our system we have determined which timeframe we want to be consistently profitable over. Now to achieve this goal we need a level of confidence or expectation of consistent profitability. You must determine what confidence level you expect to be profitable on a monthly basis e.g. at Quant Savvy we prefer to have 95% confidence level that we expect to profitable at the end of the month. Therefore, at most we will expect only a few losing months over 7 plus years of trading (see our Serenity Bot for performance).
Expectancy really is not a critical component of being consistently profitable nor is winning percentage of each trade. The most important metric in determining consistent profitability is expected profit factor. The higher the profit factor for any system then the more chance of achieving consistent profitability.
- Expected profit factor = (Probability of Win * Average Win) / (Probability of loss * Average loss)
First a trader must choose a timeframe they are comfortable with and then they must focus on profit factor and number of trades. The higher the profit factor and higher the number of trades the higher the expectation of consistent profitability which is the main goal of any trader.
A table displaying relationship between trade frequency and profit factor required to be profitable within a timeframe at a confidence level of 95%.
Number of trades …………….. profit factor required 10………………..4.00 20………………..2.50 30………………..2.00 40………………..1.75 60………………..1.50
At 95% confidence level if you wish to be profitable every week and your system produced a profit factor of only 1.75, then you need 40 trades out of it to achieve this goal. Therefore, for a daytrading system to achieve consistent profitability you will have to trade 40 trades per day at 1.75 profit factor. This will be extremely difficult for a single system to have this many opportunities per day (excluding high frequency trading) and will be rare.
- From this you can see that it is very unrealistic to achieve profitability every single month for a single system. Most models or systems traders use rarely trade over 30 times per month and getting profit factors higher than 2.0 is extremely difficult.
- I hope this post highlights the dangers of unrealistic expectations in daytrading and emphasises the most important metric required for a winning system (profit factor). At Quant Savvy our Serenity Bot achieves this goal at 95% confidence level of profitability each month and we do this by combining multiple winning systems which are completely uncorrelated. This is the only way to produce consistent profitability in a selected timeframe.
In our next blog post we will outline benefits of combining models/systems and will continue a guide to achieve consistent profitability.