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Thank you, Ed Winter & Glen Wallace, for your very helpful hints on
the Optimal f method and the necessity of money management in general.
And because this money management should be "risk-based", it may make
sense to list my understanding of some kinds of risks in typical
trading situations. Imo, there is
=> some risk (from market & trading strategy), that shows up
*statistically* in historical trades (statistical risk)
=> some additional risk (from market & trading strategy), that shows
up for every single emerging trade, at least in my system (single
trade risk)
=> some additional risk triggered by special external conditions (like
e.g. political events), that are not modeled by the trading system
(external risk)
=> (more types of risk; any suggestions?)
The goal of any trading system is, imo, to handle at least the
"statistical risk". This should include also some general measure for
this risk. Imo, the probability to loose e.g. more than 90% of the
investment could be a nice measure, and if I understood the Optimal f
method, there is something used like this.
But, imo, this should not be seen as a part of money management, but
should rather be included, e.g. as (part of) the optimization
criterion for the trading system. And because I'm ready to follow this
line setting-up my trading system in Excel: What would be an
appropriate criterion of this kind?
Is e.g. a max probability of xx=5% for a loss of more than yy=90% of
the investment a good goal for optimizing a trading system? - Any
practical hints about realistic values for xx and yy?
(BTW: This "max probability of xx% for a loss of more than yy%" imo
is a nice basis to compare the profitability of different markets, at
least for a given trading strategy, because it represents something
like "trading persistence". - Is there any other measure for such kind
of "trading persistence" in practical use?)
To come back to Optimal f:
Beyond of the "max probability of xx% for a loss of more than yy%"
the Optimal f method seemingly uses additionally an "optimal
investment rate for maximal increase of equity". Both of these
criterions, imo, can be easily constructed (e.g. in an Excel-based
system) from a normalized histogram of historical trades, but in the
Optimal f Excel sheet from Futures Magazine (thanks again to Ed Winter
for posting it) I see no integration formula for the histogram ...
So my question is:
Does the Optimal f method (for ease of integration) use an
*analytical* approach for the probability histogram (instead of the
original numerical values)? And if so: What type of analytical
probability distribution is used (e.g. Weibull?), and does it deal
correctly with e.g. unsymmetrical and "tailed" distributions?
Any hints and comments are welcome.
(BTW: All the topics discussed here deal with the "statistical risk"
only (see definitions above). Maybe, there is also room for how to
handle the "single trade risk" and the "external risk" later on.)
mfg rudolf stricker
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