Why does nobody average down?

[meanreversion]

This is a pretty good thread, I have two points -

1. Pyramiding as the market moves in favour of the original entry can be very effective (i.e. produce a system which makes money), but it usually results in a low win rate. Most traders on this website seem obsessed with achieving a high win rate, even at the expense of attaining good positive expectancy.

2. Can we please stop this worship of "professional" traders. I traded on the sell side for a decade and during my time encountered many "professional" traders who were total fr-cking idiots, either market makers or prop traders. Ask yourself why so few sell side traders end up on the buy side... it's because sell side makes its money from clients - THIS is the strategy (yes, even sell side prop traders take advantage of their bank's client flow). On the buy side, you ARE the client, so another strategy is required.

Hedge funds make much of their money from information flows. They are plugged into all the banks... the banks earn money from hedge funds, either through commission or prime brokerage, thus they feed the info to the hedgies, who then take advantage of it.

Unquestionably there are some very good "professional" traders out there, but I've only encountered a handful (and they are rewarded exceedingly well). The worst examples of trading I've seen on the sell side have all emanated from ego getting wrapped up in a "core" position and the overwhelming desire to be right on every trade (the "medbs syndrome").

 

[Chartsy]

This is a pretty good thread, I have two points -

1. Pyramiding as the market moves in favour of the original entry can be very effective (i.e. produce a system which makes money), but it usually results in a low win rate. Most traders on this website seem obsessed with achieving a high win rate, even at the expense of attaining good positive expectancy.

2. Can we please stop this worship of "professional" traders. I traded on the sell side for a decade and during my time encountered many "professional" traders who were total fr-cking idiots, either market makers or prop traders. Ask yourself why so few sell side traders end up on the buy side... it's because sell side makes its money from clients - THIS is the strategy (yes, even sell side prop traders take advantage of their bank's client flow). On the buy side, you ARE the client, so another strategy is required.

Hedge funds make much of their money from information flows. They are plugged into all the banks... the banks earn money from hedge funds, either through commission or prime brokerage, thus they feed the info to the hedgies, who then take advantage of it.

Unquestionably there are some very good "professional" traders out there, but I've only encountered a handful (and they are rewarded exceedingly well). The worst examples of trading I've seen on the sell side have all emanated from ego getting wrapped up in a "core" position and the overwhelming desire to be right on every trade (the "medbs syndrome").

finally! i'd take 20% win rate and be profitable than 80% and be crap. yeh, read market wizards and you hear bill lipschutz saying that he scales in, he has a low win rate but he says we probably aren't going to win if we try get over 50% win rate.

i pyramid into positions exactly as i average down, as in a short $2/pip ...then X pips down short $4pip etc etc ...

 

[RockyRacoon]

Rocky i agree with what you are saying here, except i usually don't wait for the pullback, i actually say ' right we are ABOUT to have a pullback' and set buy limits etc. I strongly agree with starting small.

I have rules: only average down in a pullback with the trend, even if we are in a range/consolidation

second rule is that if there is no trend and we have a range then i buy support (and sell resistance) except with small size, rather than say oo risk 2% at support, i'll risk 0.2%, and setting buy stops above my support buy.

Yes, great stuff! That's what I am trying to say.

Being as how someone asked "how to scale in", I threw my .02 in there for one way to do it - - like anything else in trading, there are many more ways, but for the average Joe, I think starting very small and scaling in only with the trend is the only way to go IMO.

A whole other way to scale in is adding to winners. I am usually out before I get that chance lol.

But tho it may seem pretty basic, like anything else, it is still something that the trader needs to practice and perfect before being able to really cash in.

Hell, I'm still practicing with a micro acct - but I know that if you're gonna scale in at all, ya gotta start small and ya damn well better be trading in the direction of the trend.

 

[Chartsy]

yeh, i listen to economics and fundamentals a lot and give them a large weighting in my trading, i used to want to catch the reversal. Now i just want to anticipate shifts, not predict, and average down/scale up accordingly into these pullbacks in these fundamentally correct trends. i do not like following a trend i don't understand!

 

[RockyRacoon]

yeh, i listen to economics and fundamentals a lot and give them a large weighting in my trading, i used to want to catch the reversal. Now i just want to anticipate shifts, not predict, and average down/scale up accordingly into these pullbacks in these fundamentally correct trends. i do not like following a trend i don't understand!

Non trending markets chop up nearly all traders, same way as counter trend trading kills nearly all traders.

It remains the typical mentality of traders to catch tops or bottoms then "keep on a ridin' it", which is why most traders lose their ever lovin' arses - at least that mentality sure cleaned my clock too many times to recall - and it remains a small temptation I struggle to overcome every time I power up the charts.

 

[kimo'sabby]

the trouble with averaging is that it can get you on the right side of price but on the wrong side of risk:reward if you don't do it in accordance with a target which suits your own time frame.

 

[meanreversion]

Non trending markets chop up nearly all traders, same way as counter trend trading kills nearly all traders.

It remains the typical mentality of traders to catch tops or bottoms then "keep on a ridin' it", which is why most traders lose their ever lovin' arses - at least that mentality sure cleaned my clock too many times to recall - and it remains a small temptation I struggle to overcome every time I power up the charts.

Trailing stops come in handy for trying to stay with it, but it means you'll always give something back at the end, by definition.

 

[Splitlink]

Trailing stops come in handy for trying to stay with it, but it means you'll always give something back at the end, by definition.

Sorry if I am coming in on something said before but, if you don't use trailing stops you, supposedly, use targets. My problem with that is that I don't know where to put it. A price can go up much more than expected so a trailing stop must be better than setting a target although, it is true, a close one can get you stopped out too early. I'm inclined to play it by sight and when it gets too far away from a TL or average, take profits.

I know one thing. I am never completely satisfied with my results.

 

[meanreversion]

Well supposedly it's the few big winners that can make your year, and you're unlikely to get any of those if you set profit targets, which suggest trailing stops might be the way to go. But where to put them... for shorts, place at the highest high for last 10 days, for longs, lowest low. That's one method. The other is the chandelier stop, where you "hang" a stop 3 ATR below the 10 day high as a stop for a long position.

It's a bit mentally debilitating giving back money ("the bend at the end") as I am finding today, but que sera sera.

 

[bevok]

Firstly haven't looked on the forums for a long time until recently but good to see a few interesting discussions, especially this one. Its a real learning experience and great to hear some different ideas, even ones I don't agree with. There are so many different perspectives and it is true that people can achieve success with a massive variety in personality and approach.

Let your profits run is an old adage, but really is so important in trading profitably i.e. with high expectancy. It frustrates me a little reading some people's comments on here where people are using tactics that will lead them to win small when they win, and lose big when they lose. Your biggest challenge to be honest is overcoming the costs of trading - if you're trading short timeframes (no hard and fast rules but certainly less than a four hour bar) you'll struggle to do this because your average trade is too small to insulate you against losing streaks. If you've got Ed Ponsi's book have a look at chapter 18 which explains it all nicely.

The worst thing though is setting yourself up for poor risk:reward trades, usually because people are trying to win more often than they lose. I won't mention any names because I'm trying to help, not embarass. Someone mentioned a strategy similar to this:

Uptrend
1 lot at 1.400
2 lots at 1.390
2 lots at 1.380
2 lots at 1.360
Stop loss at . . . . 1.340??

For example. Then talked about if it went straight into profit, take a quick win, if it doesn't keep adding because you can't time your entry, but because you're trading with the trend it'll come back. Taking that quick win is exactly what will lose you money. 20 pips win with one lot, versus being prepared to lose 280 pips?

A few people have said "its fine because of money management, total risk will be 3%" or whatever value. Again, a losing proposition. If you're in a decent uptrend, you'll only pick up 1 lot or best case 3 lots, or around 40% of your maximum position size. On the other hand when price really pulls back, and lets you enter a full position you're closest to your stop with more than twice the position on. Can you see what I'm saying? When you're onto a winner, buying strength with price farthest from your stop point (i.e. where you admit the trend has changed) you've got your smallest position, when you're at your point of greatest risk of being wrong you've got your greatest risk. Of course if you pyramid even more as a few have mentioned (i.e. each buy as price retraces is at a greater position size) this skew is accentuated massively.

Put your trades in a spreadsheet. They'll look shocking over the long run. While you're trading you'll see less open loss, and an apparently bigger profit if price does dip and rise, which makes this trading appealing, however its an illusion. Additionally that apparently bigger profit will just make it more likely you'll cut your winner short.

What meanreversion says is true, markets trend and if you have a decent system and a diversified range of markets you will catch some of those big moves. You can never predict them, so you have to watch price come back, then advance. I've been in the Euro since mid April for example. As you can imagine there were plenty of times I wished I took profit, at 1.32, 1.30, recently below 1.21 etc, however each time my patience has been rewarded. Of course there are lots of losers, or small profits (far more than winners), however as long as your plan is tested and you know on average your profit factor is high you just have to let the market do what it will do.

Sorry about the long post, It sounds like some people have worked out the odds and can build positions on small pullbacks successfully (I'd do it by buying the recovery from the pullback rather than setting buy stops below current price in a grid) but I've read a few examples of thinking like the above and it really is the fast road to the poorhouse. If my rule of thumb is "cut your losses short, let your profits run" too many people are following another old saying "you'll never go broke taking a profit". Now that one definately is a load of tosh - if those profits are small relative to risk you almost certainly will go broke (even with a high winrate)!

Sermon over

 

[jojackson]

This is an interesting thread.

A couple of things I would like to add. I'm not sure who said it but if anyone thinks risking a constant percentage of account is a bad idea, they are completely wrong, especially for a newbie. The best thing a new trader can do is limit their risk in a consistent predetermined manner as it teaches discipline and protects them from getting too far behind. This also means that newbies should not average down as that is the path to destruction, ultimately.

This applies more to trend type swing/ longer term trading than intra day trading. But the principle of having a max loss per day should be applied to daytrading also.

The above is all just my opinion of course.

 

[Black Swan]

This is an interesting thread.

A couple of things I would like to add. I'm not sure who said it but if anyone thinks risking a constant percentage of account is a bad idea, they are completely wrong, especially for a newbie. The best thing a new trader can do is limit their risk in a consistent predetermined manner as it teaches discipline and protects them from getting too far behind. This also means that newbies should not average down as that is the path to destruction, ultimately.

This applies more to trend type swing/ longer term trading than intra day trading. But the principle of having a max loss per day should be applied to daytrading also.

The above is all just my opinion of course.

I'm tempted to ask you "is she really going out with him?" but that'd be really lame...

 

[meanreversion]

This is an interesting thread.

A couple of things I would like to add. I'm not sure who said it but if anyone thinks risking a constant percentage of account is a bad idea, they are completely wrong, especially for a newbie. The best thing a new trader can do is limit their risk in a consistent predetermined manner as it teaches discipline and protects them from getting too far behind.

Isn't risking a constant percentage the same as risking in a consistent predetermined manner? Doesn't this sentence contradict itself?

 

[trendie]

Been there. Done that.

The problem I found with averaging was that it was a variation on the need to be right and/or the need to be in the market.
And each added position increased your exposure and risk. In order to average, you are having to add a trade that you never really wanted in the first place. If you wanted the “better” second trade, you should have held out to take the “better” trade, and not taken the lesser first one.
You are either wishing to be right, and willing to stomach greater risk, or you are fearful of missing out on a move, and feel you must have a position just in case its the trending runner you want.

Following on from the fact you have increased your risk, you tend to fall for the other trap of being wedded to the position. You may start to seek more add-on entries since you are committed to this direction, when you should be more concerned at the point the trade has gone wrong.

If you genuinely are building a position, and the strat requires you build by scaling, this idea undermines itself when your first trade is the best one.

If you are adding because the market moves against you, you are averaging a better price. But when the first position is the best one, arent you adding when the market is going in your favour? This implies that the next trade is at a “worse” price, and your average has moved towards the direction?
For example, suppose you bought at 1.5.
Market drops, and you buy again at 1.4.
Market takes off. Your average entry is 1.45. You have got a “better” price.

But, suppose you bought at 1.5
Market shoots off upwards.
If you now add at 1.6, your average is 1.55. If the market falls back, your average price is now a hindrance.

If you average under all circumstances, your average “better” price when it moves against you is offset by those trades when averaging into a winning trade. Nett result is sub-optimal entries.

If you only average if the market goes against you, and not when it moves with you, you are biasing your higher risks when the market goes against you, and lighter positions when you get it right from the outset.

One alternative I considered was closing trades when they came to breakeven, to get the better price.
For example, if I bought at 1.5. And market fell against me, I would buy at 1.45. If price now moved back upto 1.5, I would close the 1.5 buy, leaving me with the 1.45 “better price”, and back to original risk level.
If I bought at 1,5 and fell against me, I would buy at 1.45 and 1.4. I now have 3 positions, average 1.45. If the market made its way back up to 1.45, I would close the 1.45, leaving a nett 2 positions average 1.45. If the market went to 1.5, I would close the 1.5, leaving me with the 1.4 entry, fully in profit, and back to original risk level.
I tried variations of leaving the “last 2 averaged”. in this example, I would hold the 1,4 and 1.45 and close out the 1,5 if it reached back up, leaving me 2 positions average 1.425.
I found it was all a variation of not wanting to take the hit, and the averaging technique was just a psychological need to be right.

Pyramiding is just the flip side of this.
I have yet to find something that actually works using averaging, since by definition the averaged price is a mediocre position. When the trade is running profitably, you may be tempted to ride out some pullbacks when in fact a reversal is taking place. You end up with an averaged mediocre exit condition.

Im with Splitlink in that taking the small hit is emotionally less draining than admitting your first strike wasn’t as accurate as it could have been, and you are contemplating risking more money to shore up a weak position.
Being out also removes the bias of wanting to believe your original trade was right, and you have to add to it.
Being out means you see the market for what it is, rather than where the market is relative to a trade you have running.

There should be a specific reason and as specific a price as possible to justify a specific trade. Being out of the market is an acceptable place to be.

Still looking for some averaging/pyramiding technique that works.
Meantime, I take multiple positions each with its own stop-loss, and based on its own specific indicator-based entry.

Hope you all had a great week, and wish you the best for next week.
(Hope May was a good month for you)

 

[jojackson]

Isn't risking a constant percentage the same as risking in a consistent predetermined manner? Doesn't this sentence contradict itself?

No, read it again.

 

[meanreversion]

Ah yeah, durr totally mis-read it.

Is your name really Joe Jackson?

 

[jojackson]

Ah yeah, durr totally mis-read it.

Is your name really Joe Jackson?

No.

 

[Chartsy]

Been there. Done that.

The problem I found with averaging was that it was a variation on the need to be right and/or the need to be in the market.
And each added position increased your exposure and risk. In order to average, you are having to add a trade that you never really wanted in the first place. If you wanted the “better” second trade, you should have held out to take the “better” trade, and not taken the lesser first one.
You are either wishing to be right, and willing to stomach greater risk, or you are fearful of missing out on a move, and feel you must have a position just in case its the trending runner you want.

Following on from the fact you have increased your risk, you tend to fall for the other trap of being wedded to the position. You may start to seek more add-on entries since you are committed to this direction, when you should be more concerned at the point the trade has gone wrong.

If you genuinely are building a position, and the strat requires you build by scaling, this idea undermines itself when your first trade is the best one.

If you are adding because the market moves against you, you are averaging a better price. But when the first position is the best one, arent you adding when the market is going in your favour? This implies that the next trade is at a “worse” price, and your average has moved towards the direction?
For example, suppose you bought at 1.5.
Market drops, and you buy again at 1.4.
Market takes off. Your average entry is 1.45. You have got a “better” price.

But, suppose you bought at 1.5
Market shoots off upwards.
If you now add at 1.6, your average is 1.55. If the market falls back, your average price is now a hindrance.

If you average under all circumstances, your average “better” price when it moves against you is offset by those trades when averaging into a winning trade. Nett result is sub-optimal entries.

If you only average if the market goes against you, and not when it moves with you, you are biasing your higher risks when the market goes against you, and lighter positions when you get it right from the outset.

One alternative I considered was closing trades when they came to breakeven, to get the better price.
For example, if I bought at 1.5. And market fell against me, I would buy at 1.45. If price now moved back upto 1.5, I would close the 1.5 buy, leaving me with the 1.45 “better price”, and back to original risk level.
If I bought at 1,5 and fell against me, I would buy at 1.45 and 1.4. I now have 3 positions, average 1.45. If the market made its way back up to 1.45, I would close the 1.45, leaving a nett 2 positions average 1.45. If the market went to 1.5, I would close the 1.5, leaving me with the 1.4 entry, fully in profit, and back to original risk level.
I tried variations of leaving the “last 2 averaged”. in this example, I would hold the 1,4 and 1.45 and close out the 1,5 if it reached back up, leaving me 2 positions average 1.425.
I found it was all a variation of not wanting to take the hit, and the averaging technique was just a psychological need to be right.

Pyramiding is just the flip side of this.
I have yet to find something that actually works using averaging, since by definition the averaged price is a mediocre position. When the trade is running profitably, you may be tempted to ride out some pullbacks when in fact a reversal is taking place. You end up with an averaged mediocre exit condition.

Im with Splitlink in that taking the small hit is emotionally less draining than admitting your first strike wasn’t as accurate as it could have been, and you are contemplating risking more money to shore up a weak position.
Being out also removes the bias of wanting to believe your original trade was right, and you have to add to it.
Being out means you see the market for what it is, rather than where the market is relative to a trade you have running.

There should be a specific reason and as specific a price as possible to justify a specific trade. Being out of the market is an acceptable place to be.

Still looking for some averaging/pyramiding technique that works.
Meantime, I take multiple positions each with its own stop-loss, and based on its own specific indicator-based entry.

Hope you all had a great week, and wish you the best for next week.
(Hope May was a good month for you)

I don't see how it is higher risk than normal? it is just a way of scaling in, breaking up the size of the order you WOULD have been using, into smaller pieces. As to being wedded to a trade, maybe so, but that can happen anywhere! About average prices: if you average down by using the same lot size, then yes your price will be mediocre. However when you pyramid obviously you add heavier lots at the start and and lightly as it goes on. And when you average down your bigger size will be at the bottom, that way the average price is brought down further.

Anyway, if you can't get the general direction right then it won't matter; any form of money management can't save you. Averaging down is just scaling in, pyramiding and averaging are just ways of breaking up orders to:reduce need for perfect entries (perfect entries can be tough when position trading)

 

[kimo'sabby]

Been there. Done that.

The problem I found with averaging was that it was a variation on the need to be right and/or the need to be in the market.
And each added position increased your exposure and risk. In order to average, you are having to add a trade that you never really wanted in the first place. If you wanted the “better” second trade, you should have held out to take the “better” trade, and not taken the lesser first one.
You are either wishing to be right, and willing to stomach greater risk, or you are fearful of missing out on a move, and feel you must have a position just in case its the trending runner you want.

Following on from the fact you have increased your risk, you tend to fall for the other trap of being wedded to the position. You may start to seek more add-on entries since you are committed to this direction, when you should be more concerned at the point the trade has gone wrong.

If you genuinely are building a position, and the strat requires you build by scaling, this idea undermines itself when your first trade is the best one.

If you are adding because the market moves against you, you are averaging a better price. But when the first position is the best one, arent you adding when the market is going in your favour? This implies that the next trade is at a “worse” price, and your average has moved towards the direction?
For example, suppose you bought at 1.5.
Market drops, and you buy again at 1.4.
Market takes off. Your average entry is 1.45. You have got a “better” price.

But, suppose you bought at 1.5
Market shoots off upwards.
If you now add at 1.6, your average is 1.55. If the market falls back, your average price is now a hindrance.

If you average under all circumstances, your average “better” price when it moves against you is offset by those trades when averaging into a winning trade. Nett result is sub-optimal entries.

If you only average if the market goes against you, and not when it moves with you, you are biasing your higher risks when the market goes against you, and lighter positions when you get it right from the outset.

One alternative I considered was closing trades when they came to breakeven, to get the better price.
For example, if I bought at 1.5. And market fell against me, I would buy at 1.45. If price now moved back upto 1.5, I would close the 1.5 buy, leaving me with the 1.45 “better price”, and back to original risk level.
If I bought at 1,5 and fell against me, I would buy at 1.45 and 1.4. I now have 3 positions, average 1.45. If the market made its way back up to 1.45, I would close the 1.45, leaving a nett 2 positions average 1.45. If the market went to 1.5, I would close the 1.5, leaving me with the 1.4 entry, fully in profit, and back to original risk level.
I tried variations of leaving the “last 2 averaged”. in this example, I would hold the 1,4 and 1.45 and close out the 1,5 if it reached back up, leaving me 2 positions average 1.425.
I found it was all a variation of not wanting to take the hit, and the averaging technique was just a psychological need to be right.

Pyramiding is just the flip side of this.
I have yet to find something that actually works using averaging, since by definition the averaged price is a mediocre position. When the trade is running profitably, you may be tempted to ride out some pullbacks when in fact a reversal is taking place. You end up with an averaged mediocre exit condition.

Im with Splitlink in that taking the small hit is emotionally less draining than admitting your first strike wasn’t as accurate as it could have been, and you are contemplating risking more money to shore up a weak position.
Being out also removes the bias of wanting to believe your original trade was right, and you have to add to it.
Being out means you see the market for what it is, rather than where the market is relative to a trade you have running.

There should be a specific reason and as specific a price as possible to justify a specific trade. Being out of the market is an acceptable place to be.

Still looking for some averaging/pyramiding technique that works.
Meantime, I take multiple positions each with its own stop-loss, and based on its own specific indicator-based entry.

Hope you all had a great week, and wish you the best for next week.
(Hope May was a good month for you)

In principle i agree with your post, and it's a well detailed post, if you don't mind me saying so. One other point that you could have mentioned is that reckless averaging can have a person chasing the market like a headless chicken.

Individual speculative trading is a matter of guaging, so there is no universal equation that will sum-up all of the actions made by each individual trader.

Averaging will either work for a trader or it will not, but this will all depend on how good they are at guaging the market.

 

[meanreversion]

trendie, I think you're thinking about this far too much (same as I do with my golf swing). If the market goes from 1.5 at some stage in time to an ultimate point of 2.5, you will want to be on that trend. If the breakout level is 1.55 and you buy there, then add at 1.6 and 1.65 as the trade moves in your favour, this means you'll get a nice return for the big move.

If you buy at 1.55 but that turns out to be a false break, you've only spent one chip.

Or maybe you buy at 1.55 then 1.60 and 1.65 before the market pukes, and you've spent 3 chips. It can happen.

But the only way you can possibly know if this approach is statistically valid is by programming it and backtesting. Sometimes what seems "sensible" is not profitable.

Buying on the way up is the strategy I use, and it has been profitable this year. Buying on the way down - I've never seen good results for this, so I don't use it. I think it appeals to the mind in that you're improving your average, but surely the only thing that matters is your expectancy, not whether you're averaging at a "good" or "bad" rate.