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What's your favorite risk-return measure?
56 replies, 5058 viewings
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OmniVest User Forums
User-Created Portfolios
What's your favorite risk-return measure?
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Last Activity 7/22/2015 8:11 AM 56 replies, 5058 viewings |
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Steve Mayo Legend  Posts: 414 Joined: 10/11/2012 Location: Austin, TX  User Profile |
How does that differ from these? Expectation of Loss= %Losses (1- hit rate) * average of the period (monthly/weekly) losses Expectation of Gain = %Wins (hit rate) * average of the period gains Volatility-adjusted return{ = avg. period return / stdev of avg period return Risk-adjusted return = avg. period return /% losses * avg period loss Remember, this is the EVALUATION function -- for deciding which permutation to select for walk-forward testing...and it only has the EOD equity to work with. Conversely, the SWITCHING function is standard OmniScript and it can do much more complex calculations. | |||
| gbarber Veteran  Posts: 282 Joined: 12/30/2012 Location: Pearland, TX User Profile |
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| Ger Regular Posts: 62 Joined: 10/11/2012 Location: Austin, TX User Profile |
Apologize for confusing note. My thoughts were very similar to that in your note, except I was looking for a way to give a weighting to the data on the hard right edge. That is, some type of time weighting like EMA rather than a simple average applied over the period. This would probably only work for the switching function evaluation since this requires more than just the EOD equity data. just a thought, Gerry | |||
| Jim Dean Elite  Posts: 1059 Joined: 10/11/2012 Location: L'ville, GA User Profile |
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| OCC Regular Posts: 85 Joined: 3/7/2013 User Profile |
Van Tharpe's SQN encompasses Return/Risk * Opportunity! Comments: Unfortunately, too many academics and pundits forget the basic concept of "opportunity" when measuring reward/risk. Essentially, a fantastic reward/risk system, perhaps with awesome %Win rate, that rarely trades, might not produce anywhere near the same profit rewards as a lower reward/risk system with a greater number of opportunities to trade. I'm a "total absolute return" thinker--and willing to make compromises to realize maximum profits. So, for sake of continuity, I'll repeat here some ideas posted about a year ago on this Forum: SQN (System Quality Number) together with its subset, risk-adjusted EXPECTANCY, would resolve many of the dilemmas about choosing and combining Strategies and Portfolios that bother others who have posted in the OV Forum. Van Tharp developed these metrics, thoroughly explained in his book Definitive Guide to Position Sizing. (Every trader should own it, and reread it at least annually.) For OmniVest, SQN and Expectancy have two excellent applications: 1) RANKING STRATEGIES, PORTFOLIOS In his books, courses, and seminars to develop Super Traders, Van Tharp teaches using SQN to evaluate and rank trading systems. It is a well-conceived statistical tool that encompasses rewards, losses, probabilities, open trade risk, frequency of trading opportunities, and sound statistical reasoning. 2) DEFINING MARKET TYPE Tharp’s free weekly trading newsletter presents monthly SQN rankings of key asset classes and markets worldwide, and explains his statistical methods to rank Market Type. 3) The most exciting application of SQN and Expectancy in OmniVest would be to create an automatic switch to activate (turn ON) PORTFOLIOS on when their current SQN level and trend indicates that it has moved into a favorable and promising Market Type for the purposes for which that Portfolio was designed and tested. Because of the multi-factor dimensions of SQN, such a switch might be more accurate and profitable to capture opportunities when they arise than any other method of activating Market Type customized Portfolios. (i.e., SQN and Expectancy signals could be both more timely, and more sustained, than using Equity Curve triggers.) 4) By using SQN to classify Market Type, as Van Tharp teaches, users could readily do their own research into the development of collections of Strategies into Portfolios that “fit” each environment as closely as possible. 5) Therefore, Nirvana would not have to divert resources to attempt historical testing of Market Type. 6) Users could have constantly updated, current evaluation tools. Thus, users would not have to rely on past fixed periods of research that will eventually become out of date and of diminishing usefulness. Furthermore, they would not have to accept somebody else’s definition of Market Type: they could define their own parameters or thresholds for entry/exit or strategy on/off switches. 7) EVALUATING TRADERS Since Van believes that any “holy grail” of trading (if there is one) lies inside each person, he also urges traders to use SQN and Expectancy to evaluate their real-world performance, assess systems, define trading skills, critique discipline, identify areas of errors that result in sub-optimal performance, and make necessary improvements. [Edited by OCC on 4/14/2014 9:26 PM] | |||
| OCC Regular Posts: 85 Joined: 3/7/2013 User Profile |
SQN (System Quality Number) calculation for systematic TRADES SQN = {[Expectancy / STDEVP(RM)] * SQRT(Number of Trades per Year)} where EXPECTANCY is another useful statistic to add to OmniVest (see below) STDEVP = Standard Deviation of a Population SQRT = Square Root RM = R Multiple = {(Profit or Loss of each Trade) / (Risk for each Trade)} “R” Risk for each Trade = Entry Price – initial Stop Price on that Trade (or, see substitutions in Notes) Notes: i) If Stops are not used (unwise), Risk/Trade = maximum adverse excursion (loss point) between Entry and Exit of each Trade ii) If Risk/Trade is unknown, or not calculable, use absolute value of Average(Losing Events) as “R” value iii) If Number of Trades per Year is unknown, substitute 100, of which the square root equals 10 SQN calculation for a PORTFOLIO or INDEX The Equity Curve defines a Portfolio’s overall “Index” of its performance, as a Index does for the group of securities it includes. Thus, Calculating SQN involves some simple, logical substitutions for variables. [It appears that Van Tharp similarly calculates SQN of Indexes to define overall Market Type classifications.] Notes: i) Define each DAY’s change in the Portfolio’s equity curve (or Index) as a Gain (Up) or Loss (Down) “Event” ii) Use the past N Days as Number of Trades (Van Tharp calculates several, but emphasizes 100 trading days to determine Market Type classifications reported in his research papers, books, and newsletters) iii) Use absolute value of Average(Losing Events), or Down days, as the “R” value Risk/Event iii) Compute Average Winning and Losing “Events” (days), and %Win/Loss probabilities in the Expectancy formula using “Event Days” in place of “Trades”. EXPECTANCY (a/k/a Average “R” in Van Tharp’s writings) EXPECTANCY = {[Average(Winning Events) * %Wins] - [ |Average(Losing Events)| * %Losses ]} divided by Average Risk/Event Notes: i) An “Event” is a “Trade” for a trading system, and Risk/Event is the maximum loss on initial stop. ii) For an Index or Equity Curve, an “Event” is each DAY’s Gain (Up) or Loss (Down) from the prior day. ii) If Risk/Event is unknown, or not calculable, use absolute value of Average(Losing Events) as divisor “R” iii) Importantly, some other definitions of “Expectancy” elsewhere are defective and incomplete, because they omit the devisor (Average Risk/Event). Therefore, they present an unwarranted, optimistically distorted expectations of profits, because they fail to adjust for Risk. | |||
| kmcintyre Elite  Posts: 890 Joined: 10/11/2012 Location: Portland, OR User Profile |
(Although I don't know why Van Tharp hasn't incorporated time into the calculus. It one thing we all have a limited quantity of. Time is money, as they say...) Hopefully OV Pro will give us the ability to develop and backtest SQN. Cheers! Keith $240 from Van. $285 at Amazon. No Kindle version. Ouch! [Edited by kmcintyre on 4/15/2014 1:47 PM] | |||
| Matt B Veteran Posts: 105 Joined: 10/11/2012 Location: Austin User Profile |
I agree completely with using SQN. Matt | |||
| Jim Dean Elite Posts: 1059 Joined: 10/11/2012 Location: L'ville, GA User Profile |
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| Matt B Veteran Posts: 105 Joined: 10/11/2012 Location: Austin User Profile |
Matt [Edited by Matt B on 4/15/2014 5:13 PM] | |||
| JimB Member Posts: 36 Joined: 3/7/2014 Location: Rogers, MN User Profile |
...and that hour will likely be the most expensive nap one will ever have! | |||
| Jim Dean Elite Posts: 1059 Joined: 10/11/2012 Location: L'ville, GA User Profile |
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| Geoff Veteran Posts: 180 Joined: 12/4/2012 Location: Byron Bay NSW Australia User Profile |
[Edited by Geoff on 4/15/2014 11:55 PM] | |||
| Steve2 Elite Posts: 750 Joined: 10/11/2012 Location: Annapolis, MD User Profile |
I have a slightly different way of looking at things. I value consistency of positive returns more than anything else. I believe that if a portfolio simulation can deliver positive returns over all periods of the simulation date range then it has a higher likelihood of delivering positive returns in the future (assuming your simulation period is long enough to cover many different market conditions). To this end, I would like to see the following risk-return measure supported: The user specifies a Period (number of calendar days or number of market days) and whether or not P/L calculations should be Realized or Unrealized. The simulation date range is divided into Periods and for each Period a determination is made as to whether or not the Period is profitable. A count is made of the number of losing Periods and the maximum number of consecutive losing Periods. Portfolios are then ranked by: 1. Minimum number of losing Periods 2. Minimum number of consecutive losing Periods 3. Maximum CAR Steve [Edited by Steve2 on 4/24/2014 1:56 PM] | |||
| Jim Dean Elite Posts: 1059 Joined: 10/11/2012 Location: L'ville, GA User Profile |
I like your approach a lot. It's sensible, and psychologically satisfying. I might well choose to use a Port that has a lower CAR, if the "score" you are describing is high. Suggestion: optionally allow for the various periods-slice results to be forward-weighted somewhat, so that a case with 80% periods profitable with the 20% unprofitable near the left, will show up as worse than 80% profitable, with the 20% profitable near the right. | |||
| Steve2 Elite Posts: 750 Joined: 10/11/2012 Location: Annapolis, MD User Profile |
I think that would be a sensible option to have although I think one of the problems we currently have with long simulation date ranges is that they get unduly influenced on the right by large account sizes. Typically, your percent invested goes down and performance changes, not because of market conditions but due to effects from trading a $100M+ portfolio. I'd really like to see a simulation option that would cap account size on an annual basis. I don't find the ending equity number very useful (except in my dreams)and would much rather see the other metrics influenced only by market conditions. So, I'm always breaking a 14 year sim up into 4 year sims (which is a pain in the neck) to eliminate the impact of account size | |||
| Jim Dean Elite Posts: 1059 Joined: 10/11/2012 Location: L'ville, GA User Profile |
That is, the account size can continue to grow, but the max available Buying Power is not allowed to grow past a certain point. This would effectively solve many issues in comparing strategies, forcing the trade sizes to remain in the realm of reasonableness. In fact, an interesting simulation method would be to cap buying power at the INITIAL account size, and see how things work. That would put all the years in the simulation on the same playing field, and be a much better measure of Risk of Ruin. [Edited by Jim Dean on 4/24/2014 2:43 PM] | |||
| Steve2 Elite Posts: 750 Joined: 10/11/2012 Location: Annapolis, MD User Profile |
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| Jim Dean Elite Posts: 1059 Joined: 10/11/2012 Location: L'ville, GA User Profile |
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| Steve Mayo Legend Posts: 414 Joined: 10/11/2012 Location: Austin, TX User Profile |
Rather than slicing up the return into, say, one-month chunks over 3 years, you roll-forward day-by-day over however many years to calculate all possible one-month returns for every possible starting date. Then, you can calculate min/max/mean/stdev/probability of positive return/probability of negative return. With a decent stat package, you can even do a chi-square analysis to compare the ports ... and probably find that most really aren't statistically distinguishable given the high standard deviation that is inherent in the stock market. [Edited by Steve Mayo on 4/24/2014 3:47 PM] | |||
| Jim Dean Elite Posts: 1059 Joined: 10/11/2012 Location: L'ville, GA User Profile |
I would like a simple "Max Buying Power" input in Account settings. It should be able to be set to any value >= the initial account balance. I want to be able to run comparisons between strats and portfolios where the available funds (ie total dollars active in the account for trading - including existing positions) are the same (or less) every day. This normalizes the comparisons very effectively and very simply. All gains will remain in the account, so the equity curve can rise above that level, without limit. But the money available to trade needs to remain at or below the buying power limit. [Edited by Jim Dean on 4/24/2014 3:52 PM] | |||
| Steve Mayo Legend Posts: 414 Joined: 10/11/2012 Location: Austin, TX User Profile |
Sorry, Jim, I should have clarified I was referring to Steve2's posting about comparing chunked metrics. | |||
| John W Elite Posts: 654 Joined: 10/11/2012 Location: Sydney, NSW, Australia User Profile |
Originally written by 210921 on 4/25/2014 6:50 AM I would like a simple "Max Buying Power" input in Account settings. It should be able to be set to any value >= the initial account balance. QUOTE] I think this is a good suggestion, worthy of consideration. | |||
| Jim Dean Elite Posts: 1059 Joined: 10/11/2012 Location: L'ville, GA User Profile |
http://www.omnitrader.com/currentclients/omnivestforum/thread-view.asp?threadid=6103 That topic does not really fit the title or purpose of this thread. I'm sorry for getting things sidetracked. | |||
| HClemmons Member Posts: 9 Joined: 10/11/2012 User Profile |
Since the average trade return plays a very important role in determining the overall portfolio performance(along with trade allocation percent and number of trades), the process has worked very well. When the same symbol is traded in multiple strategies, I look to the strategy with the highest expected return to determine whether the trade should be taken. Care must be taken with certain strategies, as the expected return may look good, but the variance can be quite high and result in poor trade results. |
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