Letters To S&C by Technical Analysis, Inc.
I have been a follower of your magazine for quite some time, and usually read it from cover to cover as soon as it arrives in the mail. For some time I have been using an evaluation methodology similar to what Stephen Massel describes in his article, “What Can You Expect, Mathematically?” in the March 2011 issue of S&C.
I was pleasantly surprised to see the methodology I use in evaluating my trading systems described in such a good fashion, and can’t help but ask the author about the single discrepancy I have with the one described in the article. Massel describes the calculation for the reward/risk ratio as the average profit per trade/average loss per trade in dollars as an appropriate measure. I moved away from using such a measure some time ago, as it is very dependent on the price of the instrument being traded (and thus on the position size) — as the author properly states in his “Application To Your Own Trading” section. Instead, I prefer to use the payoff ratio, which is calculated as (average percentage profit per trade)/(average percentage loss per trade). Conceptually, they should be equivalent, as both of them are dividing an average profit per trade by an average loss per trade (one expressed in dollars and the other one expressed as a percentage). However, in practice, I have found that there are slight differences in the result between each approach. In some cases, the percentage calculation for the expectancy is higher and in others the absolute amount calculation is higher, as can be seen in the attached spreadsheet [not shown—Ed.] with a set of tests runs.
Conceptually, I think there should be a preference for the expectancy calculated as a percentage, since it offers the advantage of independence to the price level of the traded instrument. Can the author offer any further insight on this?
On a side note, the article mentions that the author works in Wealth-Lab. Does he have any performance visualizer for the Wealth-Lab platform that incorporates the measures he mentions in his article?
Thanks and keep up the good work.
Jorge Dardón P.