Thursday, November 3, 2016

Kissing the frog - Trading System evaluation

The Prince of the Markets

Once upon a time, not so long ago, there was a Prince (in reality, a pauper) called Augubhai, who was attracted to every Trading System that caught his eye - as though the Trading System were a Princess. He would embrace the Princess whole-heartedly, close his eyes and kiss her - only to realize that the Princess was a frog, when he opened his eyes.

Disappointed, but not disheartened, he would muster vim, and with renewed vigor, he would resume his search for his ideal Princess. And then he would embrace her whole-heartedly, close his eyes and kiss her - only to realize that it was a frog - like always.

The Prince was smart fellow (in reality, a stupid fellow - but this is a fairy tale). One day, while thinking with the core logical part of his left brain - just as logically as Archimedes did long, long ago - he had an eureka moment. He realized that every time he kissed a Princess, it turned out to be a frog. So, logically, if he kissed a frog, it should turn into a Princess. It was so logical a postulate, that he was surprised that it took such a long time for a smart fellow (in reality, stupid) like him to discover it.

The reality of the Markets

But the Prince finally realized that his postulate was not working. As they say, the reality of the markets is different from the reality of logic and reason and Archimedes. As they also say, it is yucky, and not easy to kiss frogs. Kissing frogs did not turn them into Princesses - at least, not too often. Kissing frogs needs you to discard irrational exuberance that this one will be a Princess. But you also need that little hope - a low probability hope - that there would be a Princess somewhere out there. This hope is not like a exuberance of a lottery buyer, because kissing frogs is much harder than buying the lottery.

The Prince stopped trading every random Trading Systems that seemed visually, logically and/or emotionally pleasing. Trading Systems that appeared to be visually, logically and/or emotionally pleasing seemed to be Princesses, but in reality, most were frogs. The records of the Prince trying out random Trading Systems, day after day, month after month, year after year can be found in the Princess Diaries in the Traderji forum:

Persistence and Perseverance

Now the Prince takes a hard look at Trading Systems before trading them, backtesting and scenario testing them, before actually trading them with money. After all, these Trading Systems are mostly frogs, and frogs rarely turn into Princesses. The spirit of what the Prince does now is similar to what he describes in these pages at Traderji:

The Prince has even frog-zoned the Opening Range Breakout system, at least for now. Even the Range Compression Trading System that he traded earlier this year is out of his embrace. These systems were really beautiful, enticing.... closer to being Princeses than frogs. But Princesses need more refinement and polish, and maybe with some refinement these Trading Systems may turn out to be real Princesses.

Hope... hopefully, not irrational

Fairy tales do not have sad endings... and neither does this one. The Prince actually did kiss a frog that turned out to be a Princess. That is the Trading System that the Prince trades currently. With the application of the Kelly Criterion, the Prince thinks that he will soon amass wealth and riches far beyond his imagination. But the due to past experiences, the Prince has the nagging fear that this Princess would also turn into a frog one day. To mitigate the fear, the Prince continues to evaluate other Trading Systems, continues to kiss frogs in the hope of finding more Princesses to enhance his harem.

One probable reason why the Prince went on the Princess kissing spree earlier, was because he did not have a Princess, and was desperate to find one by any means. Now that he already has a Princess, he is now more choosy and strategic about kissing frogs.... well, at least this is what his psychologist thinks.

Fairy tales have morals. What do you think is the moral of this story?

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