Weekly Trading - Limiting the Downside

[Andreas Thiel]

Hi guys,

does anybody have experience with a trading strategy that revolves around limiting the downside while benefiting from outliers to the upside?

The big picture idea is that if you place 52 bets per year (roughly one per week) and if you get close to a 50% chance of succeeding then the exponential nature of the approach could be appealing.

Examples:

Say you limit the downside by placing a stop-loss limit 20% under the level you buy at ...
you increase that limit to the level you bought at if the position rises 10% ...
you increase the limit to 20% gains when the position rises 30%, to 40% when the position rises to 50% etc. ...

Then having 26 winning bets at an average (after subtracting losses of losing bets) of

• 5% would triple your money (1.05^26)
• 10% would more than 10x your money (1.1^26)
• 20% would more than 100x your money (1.2^26)

The issues that I see with this approach are

• you would have to go for Knock-Out certificates with strong leverage - so 20% downswings would probably exceed the 50% probability
• 30%+ moves to the upside over the course of one week would have to be pretty common, so phases of low volatility would be problematic
• To break even after a 20% loss you need a gain of 25% ... so an average of 30% gains would be required for 5% of actual gains
• Big pre-markets moves can lead to losses significantly greater than the stop-loss barrier

Does anybody know how much the odds can be tweaked by analysing the charts?
Anything else that makes such an approach problematic?

 

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[ApparentHorizon]

Where do these % come from? They seem like arbitrary round numbers.

There's a strategy I'm testing now (mostly technical):

Gap on volume + consolidation.

At ~8% loss, the chance of it turning into a winning trade are less than 50%, so that's the limit on the position draw down.

 

[Andreas Thiel]

The numbers are an attempt to turn observations into a formulaic approach to trading.

An index or an asset often moves around 0.6% - 1.2% day. When you look at support and resistance levels of the underlying asset then I feel that - for derivatives - moves up to 40%-50% in either direction over the course of one week do not seem to be uncommon (with considerable leverage, as stated before). So I tried to come up with rules around those numbers.

Where does the 8% number come from? Any sources? For that to be a fixed number it has to refer to the underlying asset - not a derivative. Right?

 

[ApparentHorizon]

The numbers are an attempt to turn observations into a formulaic approach to trading.

An index or an asset often moves around 0.6% - 1.2% day. When you look at support and resistance levels of the underlying asset then I feel that - for derivatives - moves up to 40%-50% in either direction over the course of one week do not seem to be uncommon (with considerable leverage, as stated before). So I tried to come up with rules around those numbers.

Where does the 8% number come from? Any sources? For that to be a fixed number it has to refer to the underlying asset - not a derivative. Right?

Same thing with the 8%, it's from observation of previous data. Not my own, but I'm double checking it.

It's based on William O'Neil's growth stock strategy: "CANSLIM"

C - Compare this years quarter to last ( instead of the previous quarter, like most people do! )
A - Annual earnings
N - New ideas
S - Supply ( vs demand )
L - Lagging ( choose industry leaders )
I - Institutions ( where is the smart money? )
M - Market direction ( duh )

I'm not a fan of L, especially since he suggests using an RSI. Which I have yet to find useful.

For that to be a fixed number it has to refer to the underlying asset - not a derivative. Right?

Correct

 

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[Rabby]

Other than buy and hold, if I invest in public markets I always use stock options or futures options to limit downside. Often I'll leave the upside large or open. You can still lose miney by attrition this way though... the best laid plans aren't a guarantee

 

[MJ DeMarco]

The big picture idea is that if you place 52 bets per year (roughly one per week) and if you get close to a 50% chance of succeeding then the exponential nature of the approach could be appealing.

Buying ATM options (a 50% probability) characterize a limited downside, unlimited upside, but the options pricing ensures the EV favors market makers, not you. If you back-tested the strategy, I'm guessing it would come out a perennial loser due to theta-decay and implied volatility consistently being over-estimated.

 

[Andreas Thiel]

Makes sense that the prices are chosen in a way that lets the house win long term.

Might be interesting to paper-trade here as an experiment to see the effects in action. I could try to keep that up for the year ... but I am not sure if that would be valuable given my negligible technical analysis skills.

 

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