Equity Curve Examples

Jul 18, 2007: 4:10 PM CST

I have provided you some examples of variables I used to demonstrate the need to use an Equity Curve Simulator to help you envision your possible trading results over time.

First, I am using a Reward/Risk Ratio (or an “Ave Win to Ave Loss”) of 1.5 (The average winner is 1.5x the average loser… maybe it’s $1,500 win to $1,000 loss on average each time). I am assuming a % Win (or % correct) ratio of .5 (meaning 50% of my trades were winners). For clarity, I will simplify this from now on in the following format:

Win/Loss Ratio: 1.5
Winning %: 50%

eg-1.jpg

Notice that on all trials (you can run this multiple times – I am running four trials), my equity grew each simulation. On two simulations, my equity grew by greater than 100% (this is over 453 trades).

For the next parameter, let’s assume the following:

Win/Loss Ratio: 3 (3 to 1)
Winning %: 30% (two out of three trades resulted in losses)

eq-2.jpg

In this instance, the results were a bit varied. I ran the simulator quite a few times and observed positive results in almost all trials. In this example, three trials result in outcomes that generate a 100% return on equity, while one outcome ‘breaks even.’ Rarely – though possibly – these parameters will result in a negative equity. Nevertheless, with winners being three times larger than losers, we can still achieve great profits when a paltry 30% of our trades result in profit.

Now let’s try this simulation:

Win/Loss ratio: .5 (meaning that Average Winning trades are 1/2 the size of Average losing trades… stated differently, our losers are twice the size of our winners)
Win %: 50% (1 out of 2 trades fail)

What do you expect will happen this time?

eq-4.jpg

You guessed right. We started up with the 100 box and ended below 0. This means we went totally broke after 453 trades (in fact, almost all simulations with these parameters end in the negative values!).

What this tells us is that if you let your results be dictated by mere chance (or even if your results are worse than chance), you will go broke if your losers are larger than your winners (over a period of time). In fact, there really weren’t many ‘upswings’ in equity in this simulation – it was almost all downhill from the start.

Why not try the following parameters yourself and see what happens:

Win/Loss Ratio: 10 (10 to 1)
Winning %: 15%

Win Loss Ratio: 5 (5 to 1)
Winning % : 25%

Win/Loss Ratio: 5 (5 to 1)
Winning %: 65%

Win/Loss Ratio: 2
Winning %: 60%

Try out your own combinations. You may be surprised.

5 Comments

5 Responses to “Equity Curve Examples”

  1. ArizonaChartist Says:

    Great simulator, Corey! Is this something you constructed?

  2. ArizonaChartist Says:

    After looking it over some more, I have a couple of questions;

    1) Is 453 the number of round trips? Example, 1 buy of XYZ + 1 sell of XYZ = 1 round trip. I assume so but want to make certain.
    2) What position sizing assumption is made?

    Thanks again!

  3. Corey Says:

    Thank you for your comment!

    No, I did not construct the simulator – I wish I had, though! It is courtesy a site called Technical Trades.net and that site gives credit to hquotes.com, yet I was unable to find the simulator on hquotes.com so I referenced TechnicalTrades.

    Regarding the second comment, I believe it is a rudimentary simulator, and really only allows you to focus on Ave Win/Ave Loser and your %Win rate. Based on these values, the simulator provides you a simulated equity curve and also generates your Kelly Criterion and your Mathematical Expectancy.

    From what I can tell, it does not allow you to adjust your position size, meaning you are assumed to risk the same amount per trade. I would like this to be modified as well.

    Regarding 453, the simulator at the bottom right runs your parameters through “453 bars” which, I assume, means 453 round-trip trades (or – more properly – mathematical simulations).

    I’m sure there are better simulators online but I wanted to highlight this one because of its simplicity and ease of use. It might indeed be oversimplified!

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