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Friday, November 16, 2007

Money Management: Performance Analysis

In the beginning of this series on my blog, I mentioned that Money management consisted of:

Risk Analysis
Reward Analysis
Trade Management
Drawdown
Accuracy Rate
Performance Analysis

So what about Performance Analysis?

I believe human beings are very visual creatures. We need things in front of our eyes, (or our minds eye, for the visually impaired). And sometimes, we need to consolidate everything in front of us, in one neat package, so it's easier for our mind to see the big picture. Basically, what I mean here, is consolidation of all of the above facts - that I have been reviewing for the last few days. I've been running my own active Money Mangement thread, on all of my public trades that I run in the VIP section of my forums.

What should be included in such a consolidated performance analysis? Let me show you how it reads. Now mind you . . . this is only public trades (because I don't like the idea of claiming credit for trades that can't be verified):

Total Trades: 7
Largest Inter-trade Drawdown: $33.60 per unit (Per Share or Per Option)
Consecutive Losing Trades (Drawdown): 0
Average Drawdown: $18.8102 per unit (Either per share, or per option)
Accuracy Rate: 100%
Average Reward: $53.47 per unit
Risk Reward Ratio: 1:2.097

No matter what you do, I think you need some place where you have those figures in front of you - consolidated - just as I was taught to do, and display them.

Why?

It brings home to you - your entire trading career. Now mind you, the above is only 7 trades because those are the trades that I posted before I took them, publicly, and posted my thoughts during the trade (A good cross section to understand a money management system would consist of about 100 trades)

But I digress. Again. Why have this information in front of you? It teaches you something. It shows you exactly where you are in your trading career. So let's look at my last 7 public trades, and see what it teaches me.

The first thing a newbie might notice is . . . wow . . . 100% accuracy. But as we've already discussed in this thread, that number means very little. Especially since this System Analysis confirms for us that it's only 7 trades. I guarantee you that after 100 trades, that accuracy rate won't read 100%. But since we consolidated all of the numbers into one format? Then it becomes easier for even the newbie to see that. It's easy to see that's it's only been 7 trades, so the 100% number shouldn't be thought of too highly..

What else do those numbers tell us? Well, since they are my trades, they tell me I have to work on my risk / reward ratio. See . . . by consolidating your trading numbers, and having them in front of you? It helps point out areas that you need to work on. While 1 risk to 2.097 reward is acceptable? I personally think it needs work. The average winner number needs to be higher. So that's an area that I believe I need to work on. Because as my number of public trades increase, so will my losers. And as the accuracy rate decreases, I already know that the risk / reward ratio has to be higher to compensate. No trader should become so egotistical, that he can't look at his numbers, and see the areas that he wants to improve on.

I'm pleased with my Drawdown. But that also highlights the need that I have - to improve on my average winner #, which in turn will improve my risk / reward ratio. Since my risk has been so incredibly low per unit (Per share, or per option), then there's no reason that I should not be riding out my winners a little longer, or finding ways to maximize my trades.

So having those numbers in front of me? With a humble spirit, and setting my ego aside? Helps me, and any trader who does this, to understand the areas he needs to improve on . . . so that we can become even more profitable.

Performance Analysis consolidates your trading history, and can very well demonstrate to you where you are doing well, and where you need to improve. As they say, 'the proof is in the pudding'. And Performance Analysis will help show you exactly what the pudding consists of.

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