• tlivingstonblog

Expectancy: Know the Truth About Your Trading

Updated: Nov 19

I treat my trading like a business. It's not a hobby for me. It's not a game. I don't play the market. My intention is to make money, not play games or to gamble. If I was interested in those endeavors, I'd venture over to Vegas. Think of a successful restaurant you love to visit. How do you imagine they go about their business? Do you think they just randomly buy ingredients? Do you think they just haphazardly choose the hours to operate? Do you think they just call up their supplier at the last minute to prepare for dinner time? To be successful, you need to know what’s going on. You need to know your numbers so that you can take the proper course of action. I guarantee you a profitable restaurant can tell you their margins, how much chicken they should order each week, how much fish they ordered last week, and how much they are spending on countless other things. To be efficient, you have to have an understanding of what’s going on so you can plan for the future.

It’s the same with trading. I would make a bet that less than 10% of traders actually know what is going on with their trading. They have no set plan and even if they did they have no accurate system to keep track of statistics. This means they truly have no clue what is going on and most importantly are not aware of the steps they need to take to transform their trading. Once you have the numbers behind your trading, that is where the magic takes place.

Expectancy is a concept traders use to help them determine what type of returns they can anticipate in the long run if they adhere to a certain system. The key is that while you could never predict each individual outcome, in the long-term over a period of hundreds of trades, you have a general understanding of what you can expect from each trade.

I had heard of expectancy for years, but did not think much of it until I heard Mark Minervini speak about it one afternoon. When I realized how diligent he was with his record keeping, I knew I had to emulate him as closely as possible. I sat down one weekend and created a spreadsheet to analyze my numbers. It was a very powerful exercise for me as I realized a few minor tweaks in my trading could yield massive results in the long run. For instance, my average loss was 6.7%. Just getting this down to 5% or lower would lead to massively larger returns in the long run. On another occasion, I realized I was trading with a 20% winning percentage during a choppy market environment. Seeing the numbers made things real for me. I discovered I had to take a step back and wait for proper market conditions. To calculate your expectancy, you need to keep track of your trades for the next few months. From there, you need to know your probability of winning, probability of losing, and your average winner and average loser. Don’t worry. Here's a link to an Excel spreadsheet to help you get started with the process.

Knowing your statistics can make a world of difference. Let’s take a look at Trader A.

He looks at his results and realizes that he has a 30% winning percentage, his average win is 12% and his average loss is 7%. When he looks at his statistics, he realizes why he is so frustrated with his trading-he is running a system that mathematically is not going to get him anywhere. It’s not that the market is rigged, or the Universe is out to get him-it’s simply that the math behind his process just doesn’t work.



However, with a few simple tweaks, he can turn his entire trading around. Let’s say for instance, he kept everything the same but improved his winning percentage. Now, he only takes the best setups and only trades when the market is in a strong uptrend. His winning percentage jumps to 45%. Maybe, he also decides to cut his losses at 6% and tries to hold his winners for an average of a 14% gain. His expectancy looks a lot better here. If he can keep this up, in the long run he will be a profitable trader.



Or let’s look at Trader B. He feels so frustrated, almost like a rat running on a wheel. He’s putting in a lot of effort and making lots of trades, but just not going anywhere. He decides to track his next 25 trades. He has a 30% winning percentage, an average win of 16%, and an average loss of 8%. What would happen if he just was able to get his average loss to 5%? What a difference that would make in his trading! Now, he at least gets himself into the profitability category. What if he also realized that he was selling his winners too soon? What if he could get his average winner up to 18%? Maybe he realizes he has been buying extended stocks or selling too soon. It doesn’t really matter. The key is if he can get slightly smaller losses and slightly bigger gains, it can make a real difference in his profitability. If he goes a step further and decides to improve his entry points and up his probability of winning to say 35%, the results are astonishing! Just these minor tweaks such as using a slightly tighter stop loss or holding your winners a little longer, or even adhering to stricter entry points can make a real difference in his equity curve.




Although it can be painful to review losing trades or to see your numbers if you have been trading poorly, this is the only way to turn things around. I was a personal trainer in my early 20s. I used to tell people, “Here’s what I want you to do. For the next week, you can eat whatever you want, just do me a slight favor: write down whatever you eat in a notebook and show it to me next week.” You know what is fascinating? This would make a huge difference in people’s results because they did not want to write down that they have a bag of potato chips, or a cake, or a Snickers' bar while out shopping. Just stopping to jot down what is really going on can make a big difference. It's a slight pause between stimulus and response that makes you take a look at what you are really doing. When you are trading and know you have to record your results, this can have the same effect on you. For instance, I was always a very jumpy trader. I had difficultly holding a winner. But after I did this exercise, I realized I can’t sell winners at 10% gains and expect to go anywhere. Within my system, it's just not going to allow me to make major profits. I had to play for larger winners.

Remember, all successful business owners know what is going on. They keep accurate records. It is an essential part of running a profitable business. You as a trader are running a business as well, and you have to treat your trading like a business. Just as the restaurant knows its’ margins, average order, average seating time, cost of its’ products, and other statistics, you need to understand what is going on with your trading so you can make the changes need to improve your returns. I could just look at someone’s results on a spreadsheet like the one above and within ten seconds I could tell them what they are doing right and what minor changes they can make to radically improve their trading. And you could too. It’s not that complicated. The key is to do the work of keeping accurate records.

People often ask me what I'm doing. What are you buying? What sector do you think is hot? Where should I invest my money? What's your target for bitcoin? The key is actually to know what you are doing. This is where the breakthroughs happen. Keeping records like this is almost like turning a light on in a dark room. You can finally see clearly what's been going on.

Once you get your data, you can take the steps needed to improve your system. For instance, if you realized your winning percentage was only 15%, you can take a step back to analyze what is going wrong. Are you trading in a choppy market or against the general trend? Are you getting sloppy with your entry points? Are you picking stocks that are not true leaders? Are you an action junky who just can’t live without the excitement of the markets?

What about your losers? Maybe you notice your average loss is 9%. What’s going on here? Are you stubbornly holding onto losing positions hoping they will turn back? Did you just experience a 20% gap down over earnings? Are chasing extended stocks and thus having to use wider than normal stop losses?

Take a look at your winners as well. Are you giving back too much of your gains? Do you let 50% winners draw down to 10% gains? Are you cutting winners short by taking a 8% profit on a 80% move? I don’t know what’s going on with your trading, but the million dollar question is do you know? Do you know what is really going on with your trading? Do you know what steps you can take to improve your profitability? If you do and make the proper adjustments, a million dollars may just lay in your future.


Risk right. Sit tight.

-Tom


To download a free version of the Excel spreadsheet referenced earlier, visit my course page.

To learn more about swing trading strategies, stock market trading, and how to trade cryptocurrencies, visit my course page.


Disclaimer: This information is issued solely for informational and educational purposes and does not constitute an offer to sell or a solicitation of an offer to buy securities. None of the information contained in this post constitutes a recommendation that any particular security, portfolio of securities, transaction, or investment strategy is suitable for any specific person. From time to time, the content creator or its affiliates may hold positions or other interests in securities mentioned in this blog or the associated Twitter and Instagram feeds. The stock or stocks presented are not to be considered a recommendation to buy any stock or stocks. This material does not take into account your particular investment objectives. Investors should consult their own financial or investment adviser before trading or acting upon any information provided. Past performance is not indicative of future results.