Analyze Your Trading System Using 7 Metrics

1.When you are taking a look at the performance of a particular system, first off you need to take a look at the win-to-loss ratio, as this is a good indicator of it’s tradability. Essentially this is the how many times on average the trade wins in contrasts to it’s losses. If you are winning more than you are losing, then your trade system might just be sound.

However, do not become reliant or caught up in statistics, because statistics do not tell you everything that is happening. It definitely does not take into account how large your winnings are in contrast to your losses.

2.With that win to loss ration, try to make sure that your winning value is overshadowing your losing value. One thing that you could think about, is if you have 200 trades and 150 losses, then your percentage is 25:75. It looks bad, but is it?

Something that you need to have a look at is the size of your wins. For instance if you have a winning of $2000 and a loss of $5000, you’re still not doing too bad.

3. Expectancy A trading system’s expectancy is perhaps one of the most powerful statistics you can have because it is a way of quantifying the performance of a system that is independent of the size of the trading float.

In short, it produces the expected dollar return for each dollar risked by the trading system. This is different to the reward-to-risk ratio and average wins to losses that we described above, in that it defines a return in dollar terms for every dollar that you risk. If your system has an expectancy of +0.75, on average, you would expect to make 0.75 times the amount you risked in the trade. If you risk $1, then you would expect to make, on average, $0.75 for every trade you take.

As a guide, if you can achieve expectancy of $0.60, you’re heading in the right direction.

4. Maximum consecutive losses Look back through your testing results to see, statistically, how many losses in a row your system sustained while still being profitable. This is important to know upfront, since this statistic will give you confidence during those low times when it feels like you should throw in the towel.

For example, imagine you have been hit with five or six losses in a row. Without knowing your maximum consecutive losses, you might think your system isn’t working. This is where most naive traders go wrong. The truth be known, based on the historical data, your system may have actually sustained 10 losses and still been profitable.

5. Then you have the maximum drawdown, which is basically the worst performance of your system. It doesn’t matter whether or not the drawdown consists of consecutive negatives.

You will find that the statistic is calculated automatically, therefore all you need to do is determine whether or not you are actually comfortable with the size of the losses. If you are not comfortable, then you will need to change up the system in such a way that you are comfortable with it.

Once again, this all has to do with that risk-to-reward ratio. The greater the risk, the more reward you are going to reap in the end. There was a time that I traded a system which returned with 140% p.a. It’s great in theory, however it also had a max drawdown of 80%. Whether or not you can handle losing that kind of capital is really up to you.

Make sure that you are comfortable with the system you choose to trade with.

6. Number of trades Then there’s the number of trades a system gives over the course of a year. I find this an invaluable, yet rarely talked about, statistic.

Your trading system should not give too many or too few trades. The number of trades that a trading system gives should be approximately the same as that which can realistically be taken.

The two sides of the coin are equally dangerous. If a system gives too many trades, you will be forced to choose between signals, therefore adding ambiguity to the system. With ambiguity comes human discretion and this often has a detrimental effect on the performance of the trading system.

On the other hand, if a system gives too few trades, your trading capital will not be fully utilised and you may not be taking full advantage of the available trading opportunities.

So how do you calculate the optimal number of trades for a trading system?

This is done with the calculation called ‘opportunity’. Opportunity helps determine your optimal opportunity for a trading system.

7.Then you have Profitability, which is the number of returns on an annual basis.

Let’s not beat around the bush. This is all about making money, and the one important thing here is profitability. While you’re trying to make money, just make sure that you maintain a balance. The previous six items in this article will help you immensely with any questions about your stock trading system. Watch below for more trading information