Trading Regime Analysis – The Probability of Volatility : [PDF Download]

PDF Title:Trading Regime Analysis
Author:Murray Gunn
Publisher:John Wiley & Sons
Total Page:441 Pages
PDF Size:13.2 MB
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“The martingale system of money management is based on the betting premise that each time you lose you should double the bet size because eventually you will wi and recoup all your losses.

While this is mathematically true it is unrealistic in the real world because it assumes that you have infinite resources at your disposal. Many people have found out the hard way that using this money management strategy can be ruinous when markets have extreme trending moves.

In the words of the statisticians, this is when the market goes to the tails of the (normal) distribution, when the rare events occur. You see, the martingale strategy of money management relies upon the market staying within the fat part of the normal distribution (i.e. that it will mostly mean revert and not have any large, extended trends).

As alluded to earlier, the move to the tails happens more often than we think, and when it does it is the trend followers who make money and the mean reverters (those who expect the market to mean revert) who get clobbered.

An anti-martingale money management method, however, takes the opposite view and increases the bet size as things are going well. The philosophy here is that you will be adding risk when things are going well so that should increase your equity exponentially.

This, of course, means that when you get the inevitable loss it will occur when you have your biggest bet on (at least in nominal terms).”

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