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why is everyone so afraid to average down?

  • #81
  • May 21, 2010 6:26pm May 21, 2010 6:26pm
Quoting The Fool
No, you're right, LVG - 2% (or whatever) is 2%, whether you scale in or not. I merely expose my bias, since I mostly scalp breakouts at such highly leveraged entries that, indeed, almost any move against me is a loser.
One of these day's I may have to try the whole scalping thing. At the moment if I open and close a trade in the same day I feel like a scalper. LOL.
Don't wish it were easier, wish you were better. ~ Jim Rohn
  • #82
  • May 21, 2010 10:06pm May 21, 2010 10:06pm
Quoting TGpop
not if you plan your averages before , in a risk averse manner
Well, then I guess most traders are not exactly "planning their averages" - and that's why they're afraid to average down... see how nicely everything fits together.
  • #83
  • May 22, 2010 12:30am May 22, 2010 12:30am
In my opinion, averaging down is useful for fundamentally analyzed entry, bcoz with FA, you never know where the best entry is (best in terms of timing, not price). Even the FA points to upside, the price could further go down for days or weeks for no real reason before it return to the proper direction. So, as long as the fundamental view has not changed, averaging down will give you better average price.

Contrarily, for technically analyzed entry, there is no point to average down, bcoz once your position is in the -ve side, that's most likely that the reason for entry is no long valid (e.g. you entered based of a long tail pin bar, and you put your SL some pips beyond the wick). And in this case, you better let it stopped out, and wait for the next chance.
  • #84
  • May 22, 2010 4:05am May 22, 2010 4:05am
Quoting dannywmk
In my opinion, averaging down is useful for fundamentally analyzed entry, bcoz with FA, you never know where the best entry is (best in terms of timing, not price). Even the FA points to upside, the price could further go down for days or weeks for no real reason before it return to the proper direction. So, as long as the fundamental view has not changed, averaging down will give you better average price.

Contrarily, for technically analyzed entry, there is no point to average down, bcoz once your position is in the -ve side, that's most likely...
It is my opinion that this makes very little sense. So for a fundamental analyst you can afford to have larger drawdowns because you have a fundamental view. Fundamental analysis means very little to me because so much of it is hogs wash. The future chance of something happening therefore holding positions is no better than asking your crystal ball whether you should go long or short today.

I have seen more fundamental views that contradict each other, from names and sources that are viewed by people as 'reliable' that I would be better to take heads everytime I flipped my coin.

In technical analysis you have S/R 'areas' so staging a few orders around those areas would be valid. If those areas dont prove useful then you take a loss contrary to the fundamental view of 'its bullish so ill ride this loss because 'fundamentally' this is strong than that'.

And regardless of whether you are TA or FA, orders incur spreads and/or commissions so therefore every trade starts on the -ve side. Once again what is the difference between being -ve for a fundy vs a techy.
Razor
  • #85
  • May 22, 2010 4:12am May 22, 2010 4:12am
many of you seem to misunderstand the way i average down.

You're thinking that, for example, i go long on support in an uptrend, then when it goes down i average and average.

Wrong. What i do is average down into the pullback itself because i don't know where it will end, but have a rough idea of when i'd be wrong. Try this on hourlies on cable on eurusd- wait for a big distance between the 50 and 200 ema and if the trend if up and price hasn't pulled back yet and is overbought i will average down into the pullback, rather than try 'catch the pip' of the reversal.

works for swing trading too, what i do is intially when i have an economic viewpoint on a reversal is i risk 2-3% with a wide stop 3X15 day ATR, giving trade room. If that works then i add on pullbacks which i average in to
  • #86
  • May 22, 2010 6:56am May 22, 2010 6:56am
Ok, I see a lot of discussion has happened since I last posted. Let me attempt to answer this with some logic and experience (or lack of it if you want to call it that way)

The main argument here that some of you who average down (or add on to losing positions) is that IF you have a predetermined stop you are safe. I understand this perfectly well. In fact, to most, it would seem that there is no problem at all.

My main dissatisfaction is this:
-When you have that kind of average down mindset, you are severely sabotaging your risk reward ratio. Why?

a)If you are right, and price goes your direction from the start, you are in a position with less lot size. That means, in order to match a 1:1 risk/reward ratio of your initial risk, you now have to make much much more. Don't tell me you make up for it by adding on positions. The maxim is to always add on less (or equal) as price moves in your favour. Never more... for obvious reasons. If you follow this golden rule, you will still lag in your risk/reward ratio.

Further more, what makes you think other strategies out there do not add on to positions? I add on to winners all the time. The difference is, I add on to winners based on the full 1:1 risk reward ratio.

b)In order for you to realize the original 1:1 risk/reward ratio, you almost always have get close to your stop loss. In a way, you are always expecting to be wrong. This is negative expectancy if you look from it at another angle.

What is a better method?
-Determine your stop loss in pips (example, 200 pip stop)
-Determine your risk.
-200 pip = risk. Divide risk evenly over each pip.

If you are wrong, cut loss as early as possible. Enter another position.
If you are right, your R/R ratio is not jeopardized.

All you do when averaging down is to satisfy your desire to always be right. Like I have mentioned countless times, there is no benefit averaging down in spot forex. This is different with stocks. Let me give you an example:

-Today rice costs 10$ per sack. You have 10$ to spend today. All you can buy is 1 sack of rice.
-Tmr, rice costs 5$ per sack. You still have 10$ to spend. You can now buy 2 sacks of rice.
-On day 3, rice costs 1$ per sack. You still have 10$ to spend. You can now buy 10 sacks of rice.

Total sacks of rice bought over 3 days: 13

You got a bargain for your goods. If the price of rice stayed at 10$ per sack, you would only have gotten 3 sacks of rice. If 10 days from now, prices goes back to 10$ per sack, you can either sell your rice for a profit, or keep it and consume them yourself. If rice suddenly became 0$, you at least still have something that you can consume albeit a loss.

This is how averaging down can work for stocks. In stocks, every average down gives you more stocks. At the end of the day, you still walk away with something. In spot forex, you walk away with nothing.

Of course, some of you say this is bullshit. I average down and make loads of cash. Well good sir, you have a good edge. But one thing I know for sure is that your edge will never be as good as mine... and I can say this from experience.
  • #87
  • May 22, 2010 7:16am May 22, 2010 7:16am
Quoting thelws
Ok, I see a lot of discussion has happened since I last posted. Let me attempt to answer this with some logic and experience (or lack of it if you want to call it that way)

The main argument here that some of you who average down (or add on to losing positions) is that IF you have a predetermined stop you are safe. I understand this perfectly well. In fact, to most, it would seem that there is no problem at all.

My main dissatisfaction is this:
-When you have that kind of average down mindset, you are severely sabotaging your risk reward ratio....
statement A doesn't really make sense, when you average down like i do and the market takes off, you get in earlier than you would do with a hard entry;so you end up winning more technically.
  • #88
  • Edited 7:43am May 22, 2010 7:20am | Edited 7:43am
Quoting TGpop
statement A doesn't really make sense, when you average down like i do and the market takes off, you get in earlier than you would do with a hard entry;so you end up winning more technically.
Right... and my argument was that if price didn't move down at all. Instead, after you entered your trade, it goes your way. You do not get a chance to add on.

And as i said, in the first place, you are expecting to be wrong. But your RR is messed up.

With a hard entry, I am also expecting to be wrong. But my risk reward is not messed up. At least for spot forex.


Let me give another example. What is the difference between method A vs B. To eliminate some variables and make things easy to understand, lets assume these few things:
1)Market is definitely going to go up.
2)You are very good at determining the price action. You are absolutely flawless in identifying trends. You are the ultimate trader.
3)Lets use round numbers to make things easier to understand.

Method A:
-Long at 1.5
-Next SR = 1.4
-If prices move to 1.4, you add on to the position.

Method b:
-Long at 1.5
-Next SR = 1.4
-If prices moves to 1.45, close losing position
-If prices move to 1.4, you re-enter position.
-If price moves back to 1.45, you add on.

See the difference?
  • #89
  • May 22, 2010 8:44am May 22, 2010 8:44am
Quoting thelws
Right... and my argument was that if price didn't move down at all. Instead, after you entered your trade, it goes your way. You do not get a chance to add on.

And as i said, in the first place, you are expecting to be wrong. But your RR is messed up.

With a hard entry, I am also expecting to be wrong. But my risk reward is not messed up. At least for spot forex.


Let me give another example. What is the difference between method A vs B. To eliminate some variables and make things easy to understand, lets assume these few things:
1)Market is...
but chances are that if your buy limit doesn't get filled anyway and price rallies ahead you aren't going to want to just buy
  • #90
  • May 22, 2010 9:10am May 22, 2010 9:10am
One of the keys here is your philosophy about entry - do you believe that price falling is an opportunity to hop on a trend more cheaply and make more money, or is that a sign of weakness and exposing you to greater risk of a reversal?

At the end its simple, if you think price is going up put a full position on to make the maximum profit. Get out if you're wrong. If you think price is going to retrace, wait for it to retrace and buy as it moves up again. That sort of bottom picking philosphy doesn't seem to be as profitable though in testing, because you miss too many big moves that just take off. The way to really lose money though is to buy as price retraces (falling into the trap of the better looking number on the constantly updaing P/L on the trading platform) rather than buying on the recovery from retracements. Have a look at the concept of the 3rd screen in triple screen for an example (Alexander Elder).
  • #91
  • May 22, 2010 9:11am May 22, 2010 9:11am
Quoting thelws

Method A:
-Long at 1.5
-Next SR = 1.4
-If prices move to 1.4, you add on to the position.

Method b:
-Long at 1.5
-Next SR = 1.4
-If prices moves to 1.45, close losing position
-If prices move to 1.4, you re-enter position.
-If price moves back to 1.45, you add on.

See the difference?
This is the problem with looking at the market as a math equation....

Mathmatically your cost basis on methods A and B are identical, but on a mean reversion basis, B is a higher risk trade.


Take 3 price points:

1.60 - trend high
1.50 - trend pullback / first purchase price
1.40 - second extension of trend pullback / second purchase price

On the first buy at 1.50, the mean price is 1.55. So mathmatically you have a built in profit of 0.05.

Price moves agaist you to 1.40 and you buy the second lot. The mean price is now 1.50 and your cost basis on the combined position is 1.45. You still have a built in profit of 0.5, but on 2X the lots.

In method a, the point at which you take on your highest risk (1.4), price is the farthest away from the mean at any time in the example. When price returns to 1.45, it has added a 4th datapoint, which brings the mean price to 1.4875.

In method B, you have already booked a loss of .05. Buying 1 lot at 1.4 is a great idea because it has lowered your cost basis over method A by .05 (albeit on a lower size position). Unfortunately, when price starts reverting to the mean, you ass this up because you again buy at 1.45. The cost basis is the same at this point, but the mean reversion price is only 1.4875. So your second lot has an inbuilt reward of only .0375 at purchase.

Long story short, at the point of your second lot purchase in A, you have a mathmatical profit of 0.05 while your second lot in B only gets 0.0375. B has a lower r:r at time of purchase. Plus, option B pays the spread 3 times while A pays it twice...

As a side note, I never understood why people would add to their winners. Every time they do they increase the risk at progressively shittier pricing...
  • #92
  • May 22, 2010 10:00am May 22, 2010 10:00am
Quoting mrgreen
Averaging down is a classic example of the Dunning-Kruger effect at play within the Forex market. It is not something that should be played with by the unskilled. Those that do employ it successfully have got to know what they are doing and yet everyone of them also has a story of how it went very bad for them at one time or two.
mrgreen's post is quite possibly the threads best so far.....

//----
Quoting mrgreen
yet everyone of them also has a story of how it went very bad for them at one time or two.
'INTC'..... averaged in on the $ as it fell....

no where near my largest loss ever but a perfect example of Dunning-Kruger effect aka egotistical blindness ........

//----

yet still to this day, will average both ways.........h
to trade and code, keep both simple... no call to impress....h
  • #93
  • May 22, 2010 11:25am May 22, 2010 11:25am
Quoting Darkstar
This is the problem with looking at the market as a math equation....

...
Goodluck with the Book DS.
I would like to place my order for a signed First Edition. {then I can stop Trading as an Investment.}
BMc
  • #94
  • May 22, 2010 11:31am May 22, 2010 11:31am
Why don't code your average down strategy and backtest it for the past 10 years before sentence that is a good idea?
  • #95
  • May 22, 2010 12:05pm May 22, 2010 12:05pm
Quoting Trad3r
Why don't code your average down strategy and backtest it for the past 10 years before sentence that is a good idea?
because my reasons for entry cannot be backtested, it's very discretionary and has a lot to do with current sentiment as well as price action.Discretion cannot be backtested
  • #96
  • May 22, 2010 1:02pm May 22, 2010 1:02pm
Quoting TGpop
many of you seem to misunderstand the way i average down.

You're thinking that, for example, i go long on support in an uptrend, then when it goes down i average and average.

Wrong. What i do is average down into the pullback itself because i don't know where it will end, but have a rough idea of when i'd be wrong. Try this on hourlies on cable on eurusd- wait for a big distance between the 50 and 200 ema and if the trend if up and price hasn't pulled back yet and is overbought i will average down into the pullback, rather than try 'catch...
The trouble is how do you know whether a pullback is a pullback, or a complete decade long reversal.
When you know that you are wrong ,as you said, do you get out of that trade completely? And if you do, presumably, that loss will be pretty big, cause of the builded up position, are your winners big enough to wipe out that loss and bring you in profit on the long run?

I am not criticizing, just trying to learn something new.

Regards!

Coronajazz!
You wont survive without preserving!!!
  • #97
  • May 22, 2010 1:36pm May 22, 2010 1:36pm
Quoting mrgreen
Those that do employ it successfully have got to know what they are doing and yet everyone of them also has a story of how it went very bad for them at one time or two.

One has to have serious discipline for this strategy. It is probably the single most cause of margin calls and blown accounts - just an impression I've gathered reading the forum for years as I have no #'s to prove this.
Count me in.
Indeed it can work if the risk is very strictly delimited and respected in any eventuality. With very small position sizes per trade, as "the trade" is in fact the sum of all its potential parts.

Now, as in everything, after a long time trading you can see a pattern develop (in my case, that was consistently entering too early, as if I were acting on a forward sight of the following days behaviour = impatience). I corrected that with mostly setting up pending orders, but anyway the markets evolve and they have to be readjusted periodically until they're hit. Besides, there's always the occasional impulsive trade.

So it might be a good approach for a further exploration of the strategy, and detect one's own mistakes in evaluating entries, to act upon them and reduce the amount of trades to average thus increasing the proportional position size and so improving the final results. Also, in those patterns you will most probably discover which is the "point of no-return", either when the market starts trending heavily or even inside ranges. There again, reducing risk and increasing potential returns.

Even by being inflexible as to executing the losses or even devising a partial scale out of them (as I did), it is always quite painful to have a R:R below the ideal 1:1 ratio, even if the win/loss ratio remained constant at 95/5 for a whole year. I got tired of the waiting periods, the time lost wondering and reassessing / checking if the direction is still valid, etc... and of the occasional heavy DD after months of no losing days (8-15%) on a single set of trades (losing two weeks work is not the end of the world, but becomes boring, even if it doesn't happen that often).

Not so much the money lost, but all the monitoring time and energy that has been wasted along.

I disagree though with your last statement: "nedging" is waaaay worse.
I know, I tasted both

It has been though an interesting journey to learn more about my trading behaviour and thus apply correction to refine my trading strategy. It is true that we can't guess "to the pip" the perfect entry price, but with all the available tools especially multiple timeframes, we should be able to develop a keen eye for at least the best areas where to start a position, and refrain of trading if the price is outside those specific places. Of course the areas are wider on higher timeframes, but for and as a scalper precise entries are paramount.

And this only starts to sink in after thousands of screen hours.
And conditions may change at any moment.
  • #98
  • May 22, 2010 2:00pm May 22, 2010 2:00pm
I know of wildly successful traders who scale in and out, some have no choice but to enter orders in parts due to the large size they trade (which is getting into the domain of trading algorithms, e.g. http://en.wikipedia.org/wiki/VWAP), but you really have to know what you are doing has a solid mathematical basis in terms of your expectancy. Anything else (e.g. averaging down based on TA voodoo) is just rolling the dice. Most of the replies here seem to suffer from what Mr. Green posted, the same can be seen in threads on grid trading and nedging etc. This thread also has what I call the 'Razzle Phenomenon', where Razzle posts something quiet interesting and everybody seems to ignore it LOL.
The breaking of a wave cannot explain the whole sea.
  • #99
  • May 22, 2010 2:29pm May 22, 2010 2:29pm
That was an interesting read, if thread followers have missed it, please check out Razzle's #32 post .pdf in this thread.

"In particular, the
double-down strategy, considered risky
by some practitioners, gave more than a
350% larger return over the two-tiered
strategy and more than a 150% larger
return over the basic three-tiered strategy"



"Which method is best may depend
on specific scenario analysis."

"The doubledown

strategy may be warranted when
trading around significant support or

resistance levels."
Attached Image
  • #100
  • May 22, 2010 3:11pm May 22, 2010 3:11pm
Quoting Craig
This thread also has what I call the 'Razzle Phenomenon', where Razzle posts something quiet interesting and everybody seems to ignore it LOL.
Indeed, I didn't ignore it. I had downloaded the pdf but just read it a few moments ago.

I wish I'd read this at the beginning but now I think I've learned what I needed to know from the averaging down experience. Calculations were good but aimed to a larger timeframe approach, which still doesn't fit my personality too well (I am a scalper at heart, and still much impatient).

It will be interesting to test this in parallel and see how I can evolve to higher timeframes, daily or at least intraday, which is my ultimate goal at the present time.
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