THE HAnDbook of TECHnICAl AnAlysIsrelationship between the passive Components
It is important to understand the relationship between passive components dur-
ing the passive stage of the money management process. Tradesizing is a function
of risksizing and stopsizing, while R/r ratio sizing is a function of risksizing and
reward sizing (i.e., average profit‐taking size). The average profit per trade, or
expectancy, is a function of the minimum winning percentage, R/r ratio sizing,
and tradesizing. The total profit is a function of expectancy and total number of
trades. See Figure 28.13.
We also observe that to achieve a profitable trading system, not all the pas-
sive components are maximized. Maximizing some of these components may ad-
versely affect the profitability of the system. Here is a list of actions allowed for
each passive component:
■ (^) Capital Sizing: maximize capital
■ (^) Risk Sizing: minimize $risk
■ (^) Stop Sizing: optimize stopsize
■ (^) Trade Sizing: optimize tradesize
■ (^) Reward Sizing: maximize $Reward
■ (^) R/r Ratio Sizing: maximize R/r ratio
It is important to note that we should optimize the stopsize to account for the
volatility of the price action. As for tradesizing, there exists a range of tradesizes
whereby smaller or larger tradesizes above and below an optimal fraction of the
invested capital will start to impact the system adversely. Hence tradesizes should
be optimized around this optimal value.
Difference between effective trading and gambling
There are four major differences between effective money management, real trad-
ing, and reckless gambling:
figure 28.13 Sequence of Determination during the Dynamic Money Management
Stage.