Chapter
Evaluating Stops and Exits
Part 3 started with a discussion of the distribution of the trades and how it
changes with alterations to the stop and exit levels of the system. Altering the stops
and exits ever so slightly can alter the characteristics and results of a system very
drastically. Therefore, to be prudent, one should really start the entire research
process anew for every little change made to the system. Also, because even the
smallest of changes will add or wash away trades, alter flat times, and move draw-
down periods around, one cannot use historical real-life trades and performance
summaries as a base for this type of analysis.
Ideally, a trade should only have two possible outcomes: A loser of a specif-
ic size or a winner of a specific size. This is almost never the case, and the num-
ber of possible outcomes still is infinite, which produces the money management
consequences we deal with in Part 4. Nonetheless, making a serious effort to keep
the number of possible outcomes as low as possible is one of the hallmarks of a
good trader. In fact, this analysis showed that a normal distribution of the trades is
a sign of sloppy trading, in which we let the trades behave as they wish once we
have entered the market. It is not the distribution of the individual trades that
should be normal, it is the monthly results, or the results over several similar time
frames, that should be normal.
We also learned that the most important thing isn’t to increase the value
of the average trade all by itself, but rather to increase it in relation to the stan-
dard deviation of all trades. As long as the average profit per trade remains
large enough to make trading worthwhile, it could be a good thing to lower the
average profit per trade as long as the insecurity of the outcome is lowered to a
larger degree. If we manage to do this, we can increase the dollar returns sim-
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