Picking up from my last Educational post, Segment A...
Pip Potential (PP) is a key component for me as it allows me to statistically determine how far a trade will run. In all my trades, I want, at the very least, a 3-1 risk to reward ratio (RRR). Basically I want to make $3 for every $1 I risk. Please understand and, this is very important to long term success, if you use a 3-1 RRR, or better, you can have a win rate of approximately 35% and still be profitable. YES, only 35% and still be Profitable!!! That is how you stack the odds in your favor :)
Determining how far a trade is likely to run can be done a number of ways, you can use the daily ATR, pivot points, support/resistance or, as I do statistically. Any way you do it, you NEED to do it. Unfortunately, I know several traders who get into trades without thinking about where they are going to get out and that is problematic in the long term. (I always reference the long term because that is where you need to focus on, not 1 trade but rather 100 or 1000 or 10K trades...that is how your trading success will be determined).
All off the above can be revealed through back testing :)
If you think about your maximum draw down you can determine your stoploss, similarly, if you determine how far a trade will, probably, run you can determine your profit target. Combine the 2 and you have your Risk to reward ratio (RRR) and from that you can determine, if you should even take the trade. Personally, I never, ever, buy into resistance or sell into support. it may turn out to be a great trade but for me the Risk outweighs the reward.
I hope this helps and please comment and ask questions or even make suggestions as to a topic you would like me to address.
In my next post, I will cover how to determine High probability set-ups.
DO you have any references about statistically calculating how long a trade might run?
AGold54
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@JSNtrades, if you are asking has anybody ever published something is regards to it, not that I am aware of. So I do not have any references, which makes me either a pioneer or a fool...lol
JSNtrades
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@AGold54, It sounds as though you are a pioneer then. I've been a part-time statistician so your comment piqued my interest. Maybe you could write an article about it!
AGold54
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@JSNtrades, Thanks :) I am in the process of writing a book, laying out my methodology in detail along with real market application.
JSNtrades
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@AGold54, Even better! How will I know when it's available?
AGold54
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@JSNtrades, I will make an announcement of some sort. But will be sure to let you know. Thank you fr the interest :)
Skucchal
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Terrific idea. Sometimes, I am happy with even a 1:1 RRR especially when scalping on a minute chart where I deploy strategies that have a 80% probability of a win. High win rates with even a 50:50 RRR ultimately give a positive expectancy. 3:1 RRR are hugely profitable though on longer term time frames.
AGold54
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@Skucchal, There is no doubt, that as a scalper, realistically, you want at least 1-1 (including spread and commissions), so generally if you have a 3 pips sl, you need 4 pips to cover that and to be profitable you have to a high win rate. Moreover, imho, scalping is the hardest type of trading there is, not that there is an easy type and I am quite proficient at it. Just need to always remember why you are trading... to make Money. I can take 3-5 trades per week and make a ridiculous return. I don't need a lot of trades, just high probability set-ups with Good to great RRR :)