Tuesday, September 18, 2007

What is Expectancy?

I have been watching as a several people on a forum discuss, argue and lend their ideas about entry techniques. They are going crazy over what the proper entry should be and why one chart pattern is better than the other. One person has even said how they purchased massive amounts of software to help them enter the market. Now dont get me wrong, I always use techniques to get me in the market but I understand that this is the least important factor weighing on an investors overall success. I use technical analysis every day and I study patterns that allow me to enter with the ideal buy point (what I believe to be the ideal entry) but I know that strong up-trending stocks give me just as good a chance to make money as stocks breaking out of a cup with handle pattern. I am one that makes my living buying stocks making new highs so I can basically prove that the random entry strategy does work as long as strong money management and exit strategies exists.

By reviewing my personal trades and the coverage of dozens of stocks on the MSW Index over the past two years, I can tell you that my system with the highest expectancy is buying fundamentally sound stocks that are making new highs on above average volume. Where do I find these fundamentally sound stocks? I use multiple computerized screeners that filter out stocks with increasing earnings, high EPS ratings and increasing relative strength ratings. Once I find these stocks, I narrow them down using my own eyes by performing technical analysis. The process is simple as I am basically looking for stocks making new highs with decent to strong fundamental numbers. The process is almost random. To tell you the truth, I could probably narrow down my buy candidates each week to a list of 20 and throw darts at ten stocks to buy the following week and still have a profitable year because I do use position sizing and strict sell rules. Think I am crazy: think again as I explain what expectancy is.

I responded on the forum by saying: Entering at the right time is important and it can lower your risk and increase your overall expectancy but money management and exits are much more important than entry.

Studies have been done between random entry systems and specific systems that use entries based off of chart patterns with amazing results. The random entry system typically outperforms the structured entry system when it uses money management (position sizing techniques) and a strong exit strategy (assuming that the structured system doesnt employ money management tools).

I love CANSLIM and ONeil but the entry is not the most important aspect you should be focusing on, it is money management and exits. Most people dont want to hear this and that is why so many entry based systems sell so well over the years. How many of those systems actually make their users money? CANSLIM does use a 7%-10% sell stop rule but it ignores position sizing and never explains the probabilities of the system when implemented in certain ways.

As I said, I make money using a system based from CANSLIM (an entry system) but it is heavily balanced with strong money management techniques and a strong exit strategy.

So what is expectancy?

Expectancy tells you what you can expect to make (win or lose) for every dollar risked. Casinos make money because the expectancy of every one of their games is in their favor. Play long enough and you are expected to lose and they are expected to win because the odds are in their favor. Most games at a casino are completed in a short period of time so they can increase their odds of winning. The same holds true for investing. If your expectancy is positive; you can make more money with multiple trades in shorter periods of time. If you told me this ten years ago, I would strongly disagree based solely on beliefs. Now with experience, I continue to move down the path to more frequent trading and a structured system that is run like a business. I now have massive amounts of data based on real trading that I have performed over the past several years.

Expectancy is your profit percentage per win multiplied by your win rate minus your loss percentage per loss multiplied by your loss rate. I will use examples from Trader Mikes: Trading 101: Expectancy (tradermike.net) and Van Tharp's Book: Trade your way to Financial Freedom:

Expectancy = (Probability of Win * Average Win) - (Probability of Loss * Average Loss)

Expectancy = (PW*AW) less (PL*AL)
PW is the probability of winning and PL is the probability of losing.
AW is the average gain (win) and AL is the average loss

So lets do an example (assume $12,500 per position, a $100,000 portfolio using 1% equity risk):
If my trades are successful 40% of the time and I realize an average profit of 20% but I lose an average of 5%, my expectancy is $625 per trade.

(0.4 * $3,125) - (0.6 * $625) = $625

$1,250-$375 = $625

I lose 60% of the time yet I show a profit of $625 per trade. If I have a system that produces 65 trades per year, I would realize an annual gain of $40,625 (hypothetical scenario). A 40% gain on the original $100,000 (minus all commissions, fees, taxes and compounding).

Trader Mike (tradermike.net) offers an example geared towards a day trader: "As an example let's say that a trader has a system that produces winning trades 30% of the time. That trader's average winning trade nets 10% while losing trades lose 3%. So if he were trading $10,000 positions his expectancy would be:
(0.3 * $1,000) - (0.7 * $300) = $90

So even though that system produces losing trades 70% of the time the expectancy is still positive and thus the trader can make money over time. You can also see how you could have a system that produces winning trades the majority of the time but would have a negative expectancy if the average loss was larger than the average win:
(0.6 * $400) - (0.4 * $650) = -$20

In fact, you could come up with any number of scenarios that would give you a positive, or negative, expectancy. The interesting thing is that most of us would feel better with a system that produced more winning trades than losers. The vast majority of people would have a lot of trouble with the first system above because of our natural tendency to want to be right all of the time. Yet we can see just by those two examples that the percentage of winning trades is not the most important factor in building a system. "
- Trader Mike

Most traders look for three major factors when developing a system:
The right odds or positive expectancy
Multiple trades (opportunity)
Shorter holding periods to compound the profits

Lets look at the calculation one more time using only percentages:
PW: 48%
AW: 10%
PL: 52%
AL: 4%

(48% * 10%) - (52% * 4%) = 2.72%

Using a trade size of $12,500, each trade would return you $340 or 2.72% (profit). Lets say this system gives you 200 trades per year; your result would be a $68,000 profit with only 1% of equity risked or $12,500 on $100,000. This doesnt include compounding profits with each successful trade.

A positive expectancy can come from an unlimited amount of numbers or scenarios. You could have a system that produces winners 30%, 50% or 80% of the time and each system could be positive or negative based on PW, AW, PL & AL. An infinite number of trading systems and/or number combinations can be used to find a positive expectancy system.

The one thing I have realized over the past few years as my account grows is the fact that opportunity must exist to make money with a positive expectancy system. Think of the casino; the more you play, they more they win. The same is true for trading; the more you play with a positive expectancy system, the more your odds are for that system to return the expected number.

I have been tailoring my system to produce more trades and opportunity so I can take full advantage of the mathematical odds. As many of you know, I graduated as an architectural engineer and love numbers since my courses were based in advanced math and physics. Numbers dont lie; I love to play poker because I understand the odds so I am typically successful over long stretches of time at the table because I have the emotional stability to only jam the pot when the odds are in my favor. Like stocks, I do my best to let go of losing hands and losing positions (sometimes I follow a committed hand in poker or a committed position with stocks but the odds are no longer in my favor and more times than not, I lose the hand or settle for my maximum stop). I am attracted to games with numbers and odds and the stock market is the best game in the world (in my opinion). Poker is a close second.

I want you to think about one more example (provided from ARB Trading - www.arbtrading.com)

"You will be more profitable with $100,000 that you could "turn" 250 times per year, than $500,000 that was tied up in one trade for 12 months. As an example, let's say we have one trade and that trade yielded a 50% return. You just had a great year - a $250,000 profit.

On the other hand, say you had $100,000 for stock purchases, and your expectancy was only 1.2% per trade but you turned over your stocks 250 times in the same year. This method ends up generating $300,000 for the year, and that assumes you never increase the position size as the equity grows. You just had a better year. And it is easier to get 1.2% per trade than 50%." - ARB Trading

Chris Perruna - http://www.marketstockwatch.com Market Talk with Piranha

Chris is the founder and president of http://www.marketstockwatch.com an internet community that teaches you how to invest your money with solid rules. We offer an extended no obligation monthly trial period starting immediately with two free weeks. We don't stop at just showing you our daily and weekly screens, we teach you how to make you own screens through education. Through our philosophy, you will be able to create your own methods and styles to become successful.

Online Trading: Where Should I Start?

New to the trading scene? Overwhelmed by all the trading jargon out there and dont know where to start? Dont worry, you are not alone! Virtually all traders go through this experience! Allow me to share my opinion with you.

Where you should start depends firstly on your preference to risk. The tradable financial markets basically get split up into two main categories. The first category is Stocks or Shares and everything else I would classify as Derivatives, which include CFDs (Contracts for Difference), Options, Warrants and Futures (Indexes, Forex, Commodities, Currencies etc).

For those of you who have never traded before, I suggest you start off with trading plain and basic shares or the underlying stock. An example of this would be buying and selling shares in Microsoft. When you buy shares in Microsoft, you own a part of Microsoft. When Microsoft shares go up by $1, then you make $1 for every share that you have purchased in Microsoft. This flip side is also true. When Microsoft shares drop by $1, you lose $1 for every share you hold in Microsoft. Very Simple.

When you get into trading derivatives, the underlying method of trading is essentially the same. You will pick trades in the same way, exit trades in a very similar way, however, there is one major point that you must understand, and that is of leverage. Essentially, with a derivative product, you can control a much larger position size with the same amount of money. That being said, when a position goes in your favor, you make more money, however, when a position goes against you, you also lose more money. This is where money management rules become paramount. I will post an article giving examples of leverage at a later date.

Now that you understand a little about the types of products out there, how do you choose which one to trade. I cant offer you specific advice on that, but I can give you a little guidance.

I started off trading stocks in my home country, Australia. I feel that when you trade local stocks, you have a better connection with them. So if you are from the United States, go with the local markets. Likewise with anybody from any other country.

Initially, I believe you just have to get a feel for how the stock markets work. With a little experience in placing trades, you will get a feel for how volatile your local markets are, what the potential returns are, how frequent do trading opportunities come along and so on. Over time, you will better understand your preference for risk and your style of trading.

I would describe my style of trading as momentum trading. I dont try to pick highs and pick lows, as I believe that that is a very difficult thing to do. My trades range from a few days to a few months long. Trading is my full time job and I trade from home.

I have met many people who get started in trading but have unrealistic expectations to begin with, and lack the discipline to execute their particular trading plan.

My honest belief is that ALL trading systems work, provided they have been proven and tested. The only thing in the way is the human element. More on this topic in future articles.

Still confused? Still dont know where to start? Well, post a comment and I will do my best to steer you in the right direction!

By Peter Yin, http://www.TradingNewbies.com

Niche Marketing - Specialize for Entrepreneur Success!

Niche marketing is the buzz word of internet marketing with good reason. It makes good business sense. Entrepreneur success comes with specialized knowledge and your focused efforts to meet the needs of a specific market.

Remember this specific market will only be profitable if you offer something unique and enough people are willing to spend actual money to solve their problems or meet their needs.

Niche marketing is based on two things. Your special offer AND enough people looking for what you have to offer them.

Notice this is about you. Your own specialized effort. Your own sense of style and service could be enough to help you edge out the competition but the more competition - the more unique you will have to be to succeed.

Already have a business but not making enough money to really call it a "business"... yet? Take stock of what you are doing right now and see where you can whip up your own sense of style. Become an expert. Start with your product or service. Know everything there is to know about it.

This product - who needs it, what do they use it for, where are they buying it now or where are they looking for it, why they want it, how your item will meet your clients need.

Create an ideal client profile for each product or service you offer.

Who needs or want it - general then look at "who needs it most now!" Do you see how your list changes when it make the want urgent... based on NEED first? Who is able to pay for "it" and who is willing to pay the price you've set.

Become an expert of this person. Write down everything you can possibly think of in regards to this ideal "customer." This image you create will guide you through the remaining steps of this exercise.

This ideal client you want to reach...

What EXACTLY does he or she want? What problems or desires will it address? Do they want to buy it? Are they looking for a free or cheap way to get their hands on what they want? Do they worry about price? Does quality outweigh quantity for this perfect customer?

By knowing exactly what type of solutions or desires your ideal customer is looking for, you will be better prepared to meet their need.

Where are they currently getting this service or product? If you offer is a new or unique product or service, look closely at similar items and how readily available they are to your target market. Where would they "shop" to find what you now want to offer?

Why are they looking for it? Why is it important to them? Why should they look to YOU for a solution?

How effective will your item be? How soon do they need it? How badly do they want it? How will they expect to pay for it? How much are they willing to pay? How fast will they expect delivery? How will they hear about it? How will you convince them that you offer precisely what they are looking for?

At first glance, this exercise seems overwhelming but you will quickly see that knowing your product and the people who will buy it is the ONLY way to design your own niche marketing plan.

Work your way through all of your products or services and write out the answer to the questions in all 5 areas above. Only then will you KNOW how to build your business.

Armed with this information you can plan your website, your blog, your sales pages and your content. You will know how to relate to your readers and visitors. You will use your "expertise" to match up the right products and customers. As a specialist in your "field" you will learn how to meet the needs of your clients. Become an expert on your customers.

Too often, I watch home business owners struggle online because they don't understand that the key to having a successful home business is being an avid student of both your product and the people who buy what you offer. Your niche? This specialized knowledge and strong passion that compels you to be always learning in this one chosen area.

The more specialized, the easier it is to stay focused AND be effective. Think of it like MEDICINE.

A general practitioner needs to know a little about everything. A pediatrician needs to know all about children. A pediatric specialist focuses all their reading, conferences and training on ONE main area of children's medicine.

It is the same with auto repair...from a general mechanic to an expert in the maintenance and repair of British imports.

Spend some time thinking about how YOU can grow yourself into the role of EXPERT. Then start - reading books, attending seminars, writing articles and networking.

Your specialty is your niche. Your ideal clients will become your niche market. Your plan to reach these clients is your niche marketing plan.

Find a market with a profitable niche that matches one of your passions (yes, you are allowed more than one!) then develop your specialty. Market your specialized knowledge to your (soon to be) customers and start solving their problems, meet their needs or fulfill their wishes. Start a customer loyalty program AND a referral system. This will help you keep your hard earned customers AND create a steady stream of customers.

THIS is niche marketing. This is when you will find you are no longer a struggling home business owner but an entrepreneur that is finally reaching your target market. That is Success.

To Your Success!

Tammy Ames is the owner of WAHM Connections. She strongly recommends that would be entrepreneurs get their finances organized and business plan written before diving into home business. Subscribe to her weekly online newsletter for opportunities to learn the skills that ensure success!

FX Broker Reviews and Ratings

Are you simply fed up with browsing the internet for finding out the right forex broker? Then what you need is some authentic forex broker rating. Your Forex trading depends on the brokers, as they help you to succeed in the market. Forex brokers are individuals or agencies who help you to gain from the market and to cover the risk of your investment. The brokers help you in managing your accounts, in executing your orders, or to inform you of market trends. So the forex broker rating is what you need before zeroing on the right broker you are looking for.

You will find a number of websites suggesting forex broker rating. There are some criteria, which you must consider to find out a good, dependable broker. Few basic parameters will be to know what is the minimum amount the broker is asking for to open up an account, will there any commission charged, or the facility to operate a mini account etc.

The first thing you need is to identify your personal selection criteria for your forex broker rating. Your forex broker rating criteria must make it sure to confirm that they are registered under the regulatory agencies like Commodity Futures Trading Commission (CFTC) and they have membership in NFA. These agencies are instituted to save investors from the impostors and to stop abusive trade practices, manipulation etc.

Another important factor for rating the forex brokers will be to judge their reputations. If the broker is from an agency you can be more assured, as the broker will be regulated by the agency itself. Your forex broker rating should be formed by evaluating the type of account you want to open, the demo-accounts they offer or the kind of trade platform they have.

Some forex brokers may offer you to open an account with various currencies like yen, dollar, pound, etc. If you have decided to trade in a particular currency, you must be aware of the exchange rates. Forex broker rating should consider the brokerage or the commission asked for. Very few brokers in forex ask for direct commission, and therefore, you should find out what special they are offering in exchange of this commission. Try to find out if the broker is having any signal services, which may influence your forex broker rating greatly.

Leverage is another factor that helps you to succeed in forex trading. So, while rating the forex brokers you have to consider on the fact the amount of leverage they are offering. But one thing you must remember that as you increase your leverage, your risk also increases. In forex broker rating you can look for whether the broker may offer you some customized service either free of cost or with some small subscriptions. Judge the brokers very carefully based on the forex broker rating as the selection can make or break your trading.

To discover the best Forex brokers around please visit FX Broker Rating