CHAPTER 29
Consistent Strategies
The fourth and final part of the book started by discussing the paradox between a
near-random market and a profitable but seemingly random system. With the mar-
kets being as close to random as they are, a good trading system must make the
most out of the nonrandom periods, while keeping you in the game during the ran-
dom periods. The more nonrandom information we make use of, the less useful
information is left, up to the point where only random market noise is left. The
more random noise is left in relation to unused information, the closer to random-
ly our system will behave.
Therefore, as long as the system has a decent mathematical expectancy, the
more nonrandom information the system makes use of, the more difficult it will
be to predict the outcome of any of its trades. However, not knowing if the out-
come of the next trade will be a winner or a loser makes it all the more important
to adhere to your stops and exit signals to keep all the trades as similar to each
other as possible. If you follow a consistent trading approach, the more trades that
conform to a certain profit–loss size and trade length, the more you can chalk up
your success to skill instead of luck.
Furthermore, although you can’t be sure of the outcome of the next trade, by
adhering to your stops and exits, you can decide what the maximum loss will be
by always risking the same relative amount in relation to the available capital on
each trade. One way to calculate the proper amount to risk is to use the Kelly for-
mula. Once the Kelly value (K) is determined, you can determine how many shares
to buy and how much capital must go towards this trade. The larger the K, the more
money you can put into one trade; the smaller the K, the less money you should
put into one trade. Also, the tighter the stop loss, the more of your capital you need379Copyright 2003 by The McGraw-Hill Companies, Inc. Click Here for Terms of Use.