After the last few newsletters where I anesthetized your mind with the minutia details of QiT’s new development, it’s not unreasonable to think we need to a take a break. Today there will be no puzzling charts, mind-numbing numbers, or eye-glazing metrics
Whew! Those were a few heavy newsletters eh?
I think we (read me) need to lighten up a bit, go for a run, take in a few yoga classes and chill. Now, where did I put my wine glass?
This means I’m going to let Howard Bandy take the reins today…. unfortunately, it will not actually be Howard scripting this message (I only wish). It will be moi (that’s French for me) posting juicy and relevant parts of his book “Mean Reversion Trading Systems.”
Why Traders Stop Trading
Assume you have a method – mechanical, discretionary, or a combination of both – that you’ve been trading profitability. Assume also you understand both yourself and the business of trading, and you want to continue trading.
Why would you Stop? Here are a few possibilities:
1. Results are too Good
and you’re afraid this cannot possibly continue. Your system – any system – works when the logic and the data are synchronized. There are many reasons why systems fail and should be taken offline, but a sequence of winning trades should not send you into a “too good to be true” mode.
Please continue trading it until one of the other reasons below happens.
2. The results are not worth the stress.
Performance is satisfactory, but at a high cost – worry and loss of sleep. Regardless of the position size indicated by the distribution of risk, the positions being taken are too large.
You should probably allocate less of your account to the system.
3. You Have Enough Money
No matter how good a system is, there is always a risk of serious loss.
When you reach this level, you should retire.
4. There is a serious drawdown and you have no way to stop the bleeding
The magnitude of the drawdown to be classified as serious is subjective. Every person has their own, “Get out of Dodge,” level when he/she throws the switch and walks away. He/she stops trading the system.
When this happens step aside and paper trade
What me Worry?
You have no need to worry about #4 because the circuit breaker will pitch you into an all-cash position when the portfolio falls below its breaking point faster than a Tasmanian devil wells up a cloud of dust.
Even though you need not worry, let’s take a look at what causes a large drawdown.
1. The system is broken.
2. The system is out of synch with the market
Do you really care? Both reasons are true to some extent. A system that is broken breaks because the logic and the data become unsynchronized, causing an unexpected sequence of losing trades.
The Solution is:
1. Trade through it and hope it comes back or
2. Quit trading altogether or
3. Step aside until you have confirmed the system is back in sync. You do not continue to trade a system that has entered a serious drawdown expecting that it will recover. It may recover on its own; it may require readjustment, or it may be permanently broken and never work again.
As a system developer, it is my responsibility to:
1. Define “broken”
2. Take a broken system offline and either observe it until recent paper-trade results demonstrate that it is healthy again, or
3. Send it back to development
4. Retire the system permanently
I followed Howard’s advice, defined “broken” (#1) then took the SP500 Margin, Retirement and Leverage offline all the while paper trading them behind the scenes (#2). I have now sent them back for retooling (#3), part of which was renaming them Large Cap.
And now we have just come full circle and back to the last two newsletters.
We’re the Plan in “Plan your Trade and Trade your Plan” – TraderJanie
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