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R:R Fallacy?

  • #121
  • Edited 5:58pm Jan 18, 2017 5:19pm | Edited 5:58pm
Quoting ensale
{quote} Well no.. on trade 1. when your up 30 pips which was not previously your balance, your still risking 10 pips, being up 30 pips does mean a thing.. if its not banked, it does not matter.

The way you are thinking is like the same as saying, I have 30 pip stop loss but i am not really risking anything because I made 30 pips on my last trade. It is a psychological crutch and a fallacy.

Every time a trade is in profit you are risking the positive pips of the trade plus sl. Just because you haven't closed/banked your current profit does not mean those pips are worthless to you or not yours.

You buy a house for 100k, it gains in value and is now worth 150k but you don't sell it. You keep it in the hope it will appreciate even more, unfortunately it depreciates by 50k and your house is now worth 100K again. Did you lose anything? Yes. Between when the house was worth 150k upto now where the house is worth 100k you have lost 50k in house value. Just because you Never physically had any of that 150k in physical cash doesn't mean you didn't lose anything.
  • #122
  • Edited 6:04pm Jan 18, 2017 5:27pm | Edited 6:04pm
Quoting NaughtyPip
EDIT: I've changed the question to be clearer, ignore the poll as it is no longer valid. I will start with a question. You have setup that has proven to be profitable over a large series of trades where you risk 1 to achieve 4. The setup is highlighted in trade 1. Now, knowing that trade 1 is profitable over a series of trades would you also enter at the point highlighted in trade 2 (this is just a later stage of trade 1) to risk 4 to achieve 1? Another thing important to consider. Trade 1 may have hit sl a number of times before reaching stage...
Trading, from my perspective, is all about managing risk and protecting my capital with the use of a trailing stop. Once risk has been reduced to zero then it is a win win situation, as I am then trading with the markets money, a free trade. When risk is zero the price is either going to hit my trailing stop or hit my target. I would not take trade 2 as the the opportunity to enter the trade has gone and I would not be following my trading plan. Another opportunity will present itself in the market
Don't wait for the wind, take to the oars.
  • #123
  • Jan 18, 2017 5:54pm Jan 18, 2017 5:54pm
Hmm my posts were deleted. Anyway: It's NOT about Risk To Reward, It's about Risk To Probability. Loses are more important that 'suspected' gains as it's all based on context. ALL about managing Risk, and that's in the professional world. ./Thread. END
  • #124
  • Jan 18, 2017 6:23pm Jan 18, 2017 6:23pm
Quoting NaughtyPip
{quote} Well, every time you take trade 1, and price reaches the stage where it is at trade 2, you are effectively now risking 40 pips to make 10. So you are effectively taking trade 2 as stated on post 1, whether you like it or not. Are you sure you have read the thread as I've gone over this many times.. Many have disagreed with me but some have agreed with me. I'd read the thread.
No, it's not the same. I'm up 30 pips in trade 1 when you are just getting around to taking your first trade, at the trade 2 price level. Our opportunity costs are completely different, with the trade 2 being extremely expensive, while trade 1 is "in the money". Adding trade 2 to an open trade 1 diminishes trade 1, and would violate an important trading rule (for me). And if you are willing to violate a trading rule, you have no trading rules. However, if the set up was different, and trade 2 had a higher target that could bring the position back to a 1:4 trading opportunity, then you have something to talk about. I'll say again, the situation you've described is not a good trading set up, and unless you can start identifying more targets (with some statistical data), then the whole discussion is kinda irrelevant.
  • #125
  • Jan 18, 2017 8:14pm Jan 18, 2017 8:14pm
[quote=disker23;9454727]Hmm my posts were deleted. Anyway: It's NOT about Risk To Reward, It's about Risk To Probability. Loses are more important that 'suspected' gains as it's all based on context. ALL about managing Risk, and that's in the professional world. ./Thread. END[/quote]
.....
  • #126
  • Jan 19, 2017 1:19am Jan 19, 2017 1:19am
Quoting GEfx
{quote} No, it's not the same. I'm up 30 pips in trade 1 when you are just getting around to taking your first trade, at the trade 2 price level. Our opportunity costs are completely different, with the trade 2 being extremely expensive, while trade 1 is "in the money". Adding trade 2 to an open trade 1 diminishes trade 1, and would violate an important trading rule (for me). And if you are willing to violate a trading rule, you have no trading rules. However, if the set up was different, and trade 2 had a higher target that could bring the position...
stop thinking in terms of 1 isolated trade and think in terms of a series of trades

opportunity cost is = return of most lucrative option - return of chosen option.

trade 1 has return of 40 and risk of 10 and strike rate is 25% of the time.

trade 2 has return of 10 and risk of 40 and strike rate of 85% of time
  • #127
  • Jan 19, 2017 3:05am Jan 19, 2017 3:05am
Why the same topics occur over and over again?
This particular issue has already been beaten to death here and in many other forums.
People should just learn how to use the search engines......as well the soft tissue between their ears.

R:R is a fallacy?? OF COURSE IT IS!
(If we are talking about the common "wisdom" which suggest that the you should only enter a trade if the reward is at least 2 times larger than the risk.. ......1:2 , 1:3....etc.) This of course is pure BS!

First of all, these metrics are measured AFTER the fact and not before......

Second, the most important metric(post trade) is the expectancy per trade. If that expectancy is zero, then everything else is irrelevant.

If you have different strategies, the one with the largest expectancy per trade (in terms of pips) is usually the most sustainable in the long run.
It doesn't matter how this expectancy is derived.

If you have different strategies with similar expectancy per trade, then the strategy with highest win% is usually the best one.

The characteristics of the perfect system?

1. Positive expectancy per trade.
2. High win%.
3. High frequency of trades.

These characteristics allow the safe use of higher leverage and as a result such strategy will make the highest returns for the shortest period of time and with the smallest drawdown.

It is as simple as that.
  • #128
  • Jan 19, 2017 3:25am Jan 19, 2017 3:25am
The predilection for BS just hit an all time high so I'm moving on. Good trading to everyone!
  • #129
  • Jan 19, 2017 3:29am Jan 19, 2017 3:29am
Quoting 9047
{quote} Hi NaughtyPip, I think you are coming the conclusion is that risk-reward is not a static e.g. the R:R evolves over the course of the trade. There 3 cases I consider: Not touching your stop. The "break even" trade e.g. once you pass some arbitrary positive value of R, some PA barrier etc you move to BE. Trailing your stop. Not touching the stop: If the trader doesn't touch there stop during the course of the trade then the size of R (risk) changes with respect to the original unit of risk. For example if a trade with a 4R target goes up +3R...
Great summary of probable outcomes that separate realities from theories.

What I have to add is that there's indeed a difference between "implied/expected R:R" and "historical/actualized R:R" and the former is usually half of latter, at least for the strategies I backtested
No Highs? No Lows? Must be Bose!
  • #130
  • Jan 19, 2017 6:17am Jan 19, 2017 6:17am
NaughtyPip if you are using ONLY HARD EXITS (SL's/TP's) your observation- opinion is right.
But.... many traders using +exit signals (technical, pa etc.) combined with hard exits.
So when lets say a trade of 100 sl - 400 tp is already at +300 you are NOT risking 400 cause your exit signal would triggered faster, lets say at around ~100pips.
Your RR at this point is 1:1 not 1:4. If your exit signal needs 400+ pips to get triggered is a bad exit signal.
  • #131
  • Jan 19, 2017 7:31am Jan 19, 2017 7:31am
Quoting alphaomega
Why the same topics occur over and over again? This particular issue has already been beaten to death here and in many other forums. People should just learn how to use the search engines......as well the soft tissue between their ears. R:R is a fallacy?? OF COURSE IT IS! (If we are talking about the common "wisdom" which suggest that the you should only enter a trade if the reward is at least 2 times larger than the risk.. ......1:2 , 1:3....etc.) This of course is pure BS! First of all, these metrics are measured AFTER the fact and not before.........

Completely and utterly agree with you. I sometimes scalp 5 and 10 pips in the market, I set a 100 pip stop on entering just in case there is a sigma 6 event . I never let the stop get hit. If the trade goes wrong I hedge it out and simply come back later. I then trade out of the hedge once I can read the market better. Using this method I don't have losses that exceed my winning positions and I bank profit on every day I trade, provided the market moves.

2:1 RR sounds great but due to the nature of the markets movements unless you can nail the high or low you will find that most trades go close to your target turn round stop you out then go to target.

Sure it can be done but you need a very high level of skill to do this.
  • #132
  • Jan 19, 2017 8:02am Jan 19, 2017 8:02am
Quoting NaughtyPip
stop thinking in terms of 1 isolated trade and think in terms of a series of trades opportunity cost is = return of most lucrative option - return of chosen option. trade 1 has return of 40 and risk of 10 and strike rate is 25% of the time. trade 2 has return of 10 and risk of 40 and strike rate of 85% of time
Yes. These two different strategies would be equally profitable for the same number of trades.

Quoting NaughtyPip
Neither R:R strategy is better than the other. If you have a profitable strategy where you enter with an sl of 10 and a tp of 40, and one day you decide to start taking late entries with a tp of 10 and a stop loss of 40, your results would be exactly the same on both R:R strategies over a big enough sample size.
No. As two different entries for the same set up, trade 1 is more profitable. For every 100 times you see this set up, it reaches TP 25 times. Therefore,
Trade 1 gives 25 wins x 40 pips - 75 losses x 10 pips = 250 pips
Trade 2 gives 25 wins x 10 pips - 4.4 losses x 40 pips = 74 pips

Quoting NaughtyPip
The other thing is that this all implies that entry is not really important, it's the exit that counts.
Sorry. Entries and exits are both important.
  • #133
  • Jan 19, 2017 9:23am Jan 19, 2017 9:23am
Quoting euclid
{quote} Yes. These two different strategies would be equally profitable for the same number of trades. {quote} No. As two different entries for the same set up, trade 1 is more profitable. For every 100 times you see this set up, it reaches TP 25 times. Therefore, Trade 1 gives 25 wins x 40 pips - 75 losses x 10 pips = 250 pips Trade 2 gives 25 wins x 10 pips - 4.4 losses x 40 pips = 74 pips {quote} Sorry. Entries and exits are both important.
Assuming a profitable strategy with 5% edge and assuming no moving of sl or tp - no trade amangement

trade 1 is 1:4 risk reward
trade 2 is 4:1 risk reward
ignoring commissions, trade 1 you need 20% winners to be
trade 2 you need 80% winners to be
lets give the strategy 5% edge giving trade 1 a 25% strike rate and trade 2 an 85% strike rate

Your numbers for Trade 1 are correct.

Trade 2 your numbers are wrong. Trade 2 hits tp 85% of the time. Trade 2 is a later stage of trade 1 but I am not saying take trade 1 and 2 together.

I don't want you taking the 2 trades together, I am saying take them separately as 2 independent strategies and see what the profit would be lets say over 1000 of trade 1 and 1000 of trade 2. What I am getting at is there is a fallacy of late entries being bad. Unless i have this completely wrong.
  • #134
  • Jan 19, 2017 9:24am Jan 19, 2017 9:24am
Quoting anax
NaughtyPip if you are using ONLY HARD EXITS (SL's/TP's) your observation- opinion is right. But.... many traders using +exit signals (technical, pa etc.) combined with hard exits. So when lets say a trade of 100 sl - 400 tp is already at +300 you are NOT risking 400 cause your exit signal would triggered faster, lets say at around ~100pips. Your RR at this point is 1:1 not 1:4. If your exit signal needs 400+ pips to get triggered is a bad exit signal.
Yes hard sl and tp, no moving of them.

I appreciate your input.
  • #135
  • Jan 19, 2017 10:08am Jan 19, 2017 10:08am
Quoting Mingary
{quote} "current expectancy estimates are changing." In actual practice / real world it's always changing therefore RR is totally useless. Except for selling books about it ...
Absolutely. Expectancy is a moving target when looking forward ... only accurate in hindsight but can be subjective or biased if poorly derived. As its name suggests it is merely the expected outcome (reward or pay off) of a trade based on some historical data. However as you've eluded to expected values are sensitive to the range of the underlying data values and fail to communicate the characteristics of their distribution and hence could be considered to lack utility ... however still a good performance metric. So in short, apologies but, I just can't agree it is "completely useless" ... no books for sale here.
  • #136
  • Jan 19, 2017 11:36am Jan 19, 2017 11:36am
Quoting 9047
{quote} Absolutely. Expectancy is a moving target when looking forward ... only accurate in hindsight but can be subjective or biased if poorly derived. As its name suggests it is merely the expected outcome (reward or pay off) of a trade based on some historical data. However as you've eluded to expected values are sensitive to the range of the underlying data values and fail to communicate the characteristics of their distribution and hence could be considered to lack utility ... however still a good performance metric. So in short, apologies...
"expected values are sensitive to the range of the underlying data "

Correct
and here is the rub
It's only useful in a perfect situation
1) One must find a system that makes money and is consistent over time (extremely rare)
2) the system must have quantifiable and objective rules (almost impossible)
3) the sample size (historical trade data) must be large enough to encompass all market conditions (if the system survived 1 and 2, this one is a killer)

So yes, "RR" only works in the perfect world of academia.
  • #137
  • Edited 9:15pm Jan 19, 2017 4:07pm | Edited 9:15pm
Quoting Mingary
{quote} "expected values are sensitive to the range of the underlying data " Correct and here is the rub It's only useful in a perfect situation 1) One must find a system that makes money and is consistent over time (extremely rare) 2) the system must have quantifiable and objective rules (almost impossible) 3) the sample size (historical trade data) must be large enough to encompass all market conditions (if the system survived 1 and 2, this one is a killer) So yes, "RR" only works in the perfect world of academia.
I've only been trading for 14 years, which probably isn't a statistically significant sample size to base any conclusions on, but since 2003, I've been trading the exact same patterns and market tendencies. I've been able to establish a set of trading rules that, luckily, I've learned to follow, that exactly match these patterns and tendencies, and provide the basis of a pretty reliable trading approach. There is a very simple explanation for why these patterns and tendencies exist. The only difference between 2003 and today is, the frequency and range of market movement. None of which has anything to do with R:R, but I'd say it's a concept worth keeping in mind. And if nothing else, I'd like to provide a counter weight to the bleak picture that you so frequently paint.
  • #138
  • Jan 19, 2017 5:47pm Jan 19, 2017 5:47pm
As a matter of opinion, R:R in trading is subjective in nature, mathematically 1:2 is better than 1:1 or 2:1 risk reward ratio, but it depends on how big the stop loss you use or what time frame and currency pair you will use because there are factors to consider, mathematically if you put 10 pips SL and 20 pips TP(setup1) it looks good than a 30 pips SL and 10 pips TP(setup2), but in real trading conditions setup2 will likely to succeed more as compare to setup1 because market does not move in straight line if you dont give enough room on your trade to operate you will likely end up having so many losing trades, so good RR may vary from trader to trader depending on what trading style they are using, but for me I prefer using a strategy with good RR of not less than 1:1 at least the worst you can get is break even.One more thing, preferred RR is not applicable all the time we have to apply it in a trade by trade basis due to market unpredictability, if market is obviously in a reversal why insist on hitting your preferred RR, its better to close a trade when its green than it become red trying to achieve a good RR. Market is so dynamic and trader must develop the skill in handling the abnormality of the market.
  • #139
  • Jan 19, 2017 11:36pm Jan 19, 2017 11:36pm
Quoting GEfx
{quote} I've only been trading for 14 years, which probably isn't a statistically significant sample size to base any conclusions on, but since 2003, I've been trading the exact same patterns and market tendencies. I've been able to establish a set of trading rules that, luckily, I've learned to follow, that exactly match these patterns and tendencies, and provide the basis of a pretty reliable trading approach. There is a very simple explanation for why these patterns and tendencies exist. The only difference between 2003 and today is, the frequency...
Winning for a while will make you forget how bleak it is.
  • #140
  • Jan 20, 2017 12:57am Jan 20, 2017 12:57am
Quoting Mingary
{quote} "expected values are sensitive to the range of the underlying data " Correct and here is the rub It's only useful in a perfect situation 1) One must find a system that makes money and is consistent over time (extremely rare) 2) the system must have quantifiable and objective rules (almost impossible) 3) the sample size (historical trade data) must be large enough to encompass all market conditions (if the system survived 1 and 2, this one is a killer) So yes, "RR" only works in the perfect world of academia.
So if RR is useless how do you assess the each trade you make?

p.s. your pessimism is far to entertaining for you to be on my ignore list.
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