Using the Expectancy Formula to measure your trading
You must keep a log of both your trading and your SimBroker trading results. Here it is in a nutshell:
The Expectancy Formula:
This formula is discussed in many places and extensively in Van K. Tharp’s work. Here is how to use it to your advantage.
Expectancy = (Probability of Win * Average Win) – (Probability of Loss * Average Loss)
(P w * Ave w) – (Pl * Ave l) = Expectancy Ratio * # Trades * # Contracts * Value = $$$$
An Example of a winning system with an 80% winning percentage and 5.4/1 win/risk ratio:
(80% *5.4) – (20% * 1) = 4.12 * 10 = 41.2 * 2 * $50 = $4,120 possible profit
Example of losing system with higher reward scenario 10/1 win/risk ratio:
(40% * 10) – (60% * 1) = 3.4. * 10 = 34 * 2 * $50 = $3,400 possible profit
A more realistic system with a 50% win/loss ratio and a 2.5/1 reward/risk ratio:
(50% * 2.5) – (50% *1.5) = 1 *10 = 10 *2 *$50 = $1,000 possible profits.
If you use a 2 wins to 1 loss bracket you will find that you only have to be 33% correct to make money. So keep track of all of your trades both SimBroker and live trades. If these are different you will need to adjust your mental approach. A good Expectancy Ratio will give you great confidence in your method.
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