Test Your Strategy and Know your Expectancy

Test Your Strategy and Know your Expectancy

As traders, our job is to find high probability setups and execute on them without letting our emotions get in the way. That is really it. But to get here, you have understand that trading is all about risk control and knowing the probabilities. And it is only thru thorough testing and validation of our forex trading strategies, can we be confident in trading and sticking with it over the long haul. 

Just like any good Poker Player knows their probability of winning a hand, we must know what the probabilities are for any given trade within our trading setups arsenal. So how do we go about this? Well plain and simple, we have to do the necessary testing of our strategy on historical data. We can achieve our testing goals either thru a backtesting software if you are using a trading system wherein the parameters are straightforward and can be inputted and tested.

On the other hand, if you are a discretionary forex trader, then you can accomplish the backtesting thru a manual process. You have to go back in time thru the price history applying the strategy, and making a manual log of winning and losing trades, and the corresponding amounts.

There is another great advantage in doing this, in that it will help you to recognize your trading patterns and setups in a way that will improve your chart pattern recognition skills when you eventually graduate to Live trading. Once you have logged all the trades and done a through test of at least 100 trades, then its time to analyze your results and figure out your trade expectancy. Below you will find the formula to calculate expectancy

Expectancy = (Probability of Win * Average Win) – (Probability of Loss * Average Loss)

As an example let’s say that your forex trading strategy produces winning trades 50% of the time. And your average winning trade is $ 400 while your average losing trade is $ 250 So based on this the per trade expectancy would be $ 75 calculated as below:
(0.5 * $400) – (0.5 * $250) = $ 75

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