How to Calculate the Odds of Your Trade?

[suby 10]

Recently finished reading "The Education of a Speculator" by Victor Neiderhoffer which I highly recommend to everyone.

 

He constantly stresses the comparisons of sports betting and trading

 

My question is How do you calculate the odds of your trade?

 

Suppose your looking for the odds to be stacked in your favour 60%, how would you calculate something like this on a chart?

 

Does anyone do this? If so I would love to learn more/see some examples of this

[BlueHorseshoe 10]

Recently finished reading "The Education of a Speculator" by Victor Neiderhoffer which I highly recommend to everyone.

 

He constantly stresses the comparisons of sports betting and trading

 

My question is How do you calculate the odds of your trade?

 

Suppose your looking for the odds to be stacked in your favour 60%, how would you calculate something like this on a chart?

 

Does anyone do this? If so I would love to learn more/see some examples of this

 

I'm not entirely clear I fully understand your question - do you mean the historical percentage win rate?

 

(Number of Winning Trades / Total Trades) * 100

 

Whether your future win rate will reflect your hypothetical win rate with historical data is another matter.

 

And percentage win rate is fairly irrelevant to net profitability; it's not good winning $10 for 90% of the time if you lose $100 10% of the time. After 100 trades you will, on average, be down by $100.

 

The very best illustration of this kind of high win rate net loser trading that I can think of is none other than . . . Victor Niederhoffer.

 

BlueHorseshoe

[suby 10]

I'm not entirely clear I fully understand your question - do you mean the historical percentage win rate?

 

(Number of Winning Trades / Total Trades) * 100

 

Whether your future win rate will reflect your hypothetical win rate with historical data is another matter.

 

And percentage win rate is fairly irrelevant to net profitability; it's not good winning $10 for 90% of the time if you lose $100 10% of the time. After 100 trades you will, on average, be down by $100.

 

The very best illustration of this kind of high win rate net loser trading that I can think of is none other than . . . Victor Niederhoffer.

 

BlueHorseshoe

 

Hey BlueHorseshoe,

 

I guess what i'm referring to if you could imagine, suppose an instrument like the ES is mean reverting and bouncing around certain levels, how could you assume the odds/probabilities of a what the success rate may be on the spot in relation to the mean/peg.

 

In other words, just as you were to place a bet on a horse race and the odds are already predetermined before you bet on the horse, how could you assign something like that or determine that in the world of trading based on things like support/resistance or pivot points?

[BlueHorseshoe 10]

Hey BlueHorseshoe,

 

I guess what i'm referring to if you could imagine, suppose an instrument like the ES is mean reverting and bouncing around certain levels, how could you assume the odds/probabilities of a what the success rate may be on the spot in relation to the mean/peg.

 

In other words, just as you were to place a bet on a horse race and the odds are already predetermined before you bet on the horse, how could you assign something like that or determine that in the world of trading based on things like support/resistance or pivot points?

 

I would imagine, only based on historical simulation. If you're doing it with enough regularity then you could aslo track how well subsequent reality conforms to your historical projections, and arrive at some kind of 'confidence quotient' for your probability calculations.

 

It's very difficult to take in more than a fraction of the complex tapestry of information which may or may not affect the probabilities of a particular outcome.

 

If you're asking more specifically about the ES, it is 'mean reverting' and it is possible to find directional edges around this behaviour, especially in higher timeframes. You can typically fade any move to support or resistance using limit orders, for example, and expect to be right more often than you're wrong. You could then refine this - probabilites for fading S/R in an up/downtrend, on a second test of S/R, a third test, on high volume, on low volume, on a low volume second test following a high volume first test . . . The possibilities (and probabilities) are endless.

 

BlueHorseshoe

[addchild 10]

Hey BlueHorseshoe,

 

I guess what i'm referring to if you could imagine, suppose an instrument like the ES is mean reverting and bouncing around certain levels, how could you assume the odds/probabilities of a what the success rate may be on the spot in relation to the mean/peg.

 

In other words, just as you were to place a bet on a horse race and the odds are already predetermined before you bet on the horse, how could you assign something like that or determine that in the world of trading based on things like support/resistance or pivot points?

 

Suby, sounds like you're making some great strides in your trading.

 

Keep in mind, horses area measured against one another, where the probability of one of the horses winning is 1.0. But a well setup spread trade could be represented in this fashion.

 

But a vague probability calculation could be made given your historic expectancy or the edge, your discretional ability to recognize and implement your strategy in real time, expected volatility, and risk vs reward of the individual trade.

 

But risk vs reward of the trade tends to be a good jumping off point as for most traders it would represent a the likely outcome of their trade.

[steve46 12]

Interesting...this is very basic math

 

For my system I keep records of each type of entry as a separate entity.....i.e. all entries based on a test of the previous high, the previous open, the previous low....each category has its own data set....

 

I know for each category, and for each time period (yearly, quarterly, monthly, weekly), how many of these entries were winners, and how many were losers....

 

I view each type of entry as a profit center....doing it this way I can tell whether a specific type of entry is "likely" to be a winner or loser based not only on historical data, but on specific time periods...again for example....entries based on tests of the previous open may not be performing well over the last 60 days....knowing that I might want to trade that opportunity using a smaller size position..conversely if a specific type of opportunity is performing very well, it may be wise enter a bigger size position...

 

In some instances the benefit of this type of data management becomes evident right away...for example I recently implemented what I believe to be, an improved method of preparing for the open by identifying long & short targets (pivots actually) just prior to the open. I started to do this two (2) months ago....already I can see the improvement in my data...so now all I have to do is to confirm that this initial result is NOT due to chance (this takes about 400 data points to confirm)....requires patience and discipline but it really pays off if you take the time to do it...

 

The math is as Blue Horseshoe suggests...

 

Good luck

Edited November 1, 2012 by steve46

[suby 10]

BlueHorseshow, ADDChilds and Steve,

 

I cannot thank all three of you for your wise words into this topic enough. I extremely appreciate the insight and help in regards to this! I hope the trading week has been treating all of you well and will finish nicely tomorow at the close

 

Good Luck Tomorrow and once again thank you all!!

 

Suby

[TheDude 10]

Youve got to put this in context...

 

Victor is/was an options trader. Options trading is very maths orientated. For example, an options delta is *supposed* to give you a % of the option expiring ITM. So, if you compare an options Gamma and Delta, you may come up with some kind of figure that will tell you if the option is over/under priced against the underlying.

 

Take Victor with a pinch of salt. He doesnt believe in the idea of trends apparently. Thats why he blows up all the time. The trends dont revert in time (hahahaha). Maybe he doesnt believe in global macro differences either?

 

Trying to come up with a probability on an out right position is a fools errand if you're considering a single trade. Remember the law of large numbers.

 

As for the horse racing, remember the bookie places his odds against his risk exposure. Nothing to do with what horse he thinks will win - thats the punters game. It's also why you should never bet on the favourite - the pay out will be lowest, and just like trading, the crowd is usually wrong. The bookie has an edge irrespective of what horse comes in.