Wednesday, February 14, 2007

A loss worth thinking about. What's your view?

Daily Result: £509.70

Well it finally had to happen. The good start to the month couldn't continue forever. It's just a shame the loss that finally arrived was so big. I've not had time to double check but I think it's only the third maximum-sized loss I allow myself on any single event since I started the blog.

Did the money on the ODI between India and Sri Lanka. Just had a nightmare from the first over which continued more or less throughout the game. Pretty easy to see where I lost perhaps £330 of the final figure and no real complaints. Sure there were some mistakes but nothing drastic. Just got on the wrong side of a market a couple of times that moved unexpectedly fast. It's always going to happen sooner or later. I'll look at how and why I got on the wrong side and try and learn from it. The real area of interest though is what happened, and my thought process, as I reached my max loss limit.

Regular readers will know I operate to a strict money management system - part of which is I'm not prepared to lose more than £500 on a single event. I do this to help maintain discipline and keep any big losses to manageable levels. Today I hit the £500 limit. In the past that's been it. I've simply closed out and shut down. The damage is done and I'm not prepared to make it any worse. And, to be fair, that's pretty much what I did today. So I followed my rules and I guess that's a positive from today.

But the truth is today it just killed me to do it. And the reason was the price I had to take to get out was just crazy. I just thought it was so wrong. So much so that I thought it a *huge* value bet the other way. ie, instead of having to lay India at 1.71 after the fall of the 4th wicket (to level off around £500 red the pair) in normal circumstances I'd have been trigger happy trying to back them at such a big price! The trouble was the 35/40 tick or so leap in their price at the fall of the wicket not only caught me off guard - because it was far larger than I expected - but it also took me to my maximum loss threshold.

So there was a dilemma. And a decision had to be made fast. Follow my rules, take what I think is appalling value and bail out for my maximum allowable loss. Or let the position run, even increase it, and trust my insitinct on the market. Take the value position. Well, a quick decision was needed and galling as it was I bailed. Basically if another wicket fell immediately I'd have faced a loss bigger than I was willing to accept. And what's the point in having rules if you're not going to keep them when the going gets tough? So I took the loss on the chin. Swore a bit, went to get a coffee and nibbled on a Valentine's chocolate!


Of course, when I got back a few minutes later the price was already in the 1.5x range. And within 10 minutes or so it was back to where it had been. Even though the scoring rate had slowed. Basically the market had hugely overreacted to the wicket and I'd been caught high and dry having to get out at what I considered a crazy price in order to stick to my own money management rules.

Which all raises an interesting question. It's a dangerous game to chase losses. And my bankroll rules are there to be followed. Not broken. But does there come a point when the value on offer to bail out is so poor you can justify breaking the rule? Especially if it's not a long shot that is unlikely to come in even if it is value. But an odds on shot that is value. And that is likely to come in. (in terms of probability)

I don't know. I've been busy since I bailed for the loss and haven't had the time to think it all through properly yet. I suspect it will be interesting to have a proper look at the issues and decision process in relation to the ideas expressed in Prospect Theory, as per the recent comment on the blog, (thanks again!). I just thought I should get today's blog entry up quickly as I have to go and get everything ready for Valentine's Night shortly. Either way I've been considering for a while that I may have a temporary trial at raising my stakes during the Cricket World Cup and need to have the issue, and answer, clear in mind before I do. Would hate to reach the same dilemma again without a clear plan of action.

So what do you think? Should I have bailed as I did or let it run because of the incredibly poor value price I had to take in order to get out in order to stick to my maximum loss? All views welcome. :-)

9 comments:

Mark Iverson said...

Hi BT,

No doubt about it...you did the right thing

but....

I think your problem may have started before you made the first trade.

I use a 60% rule on any event I trade. By this I mean I try to only trade the during the first 60% of the event

e.g. If it's a 50 over (per side) cricket match then I'll only trade the first 60 overs of the match.

After this the volatility of the market becomes too great and even though theres a large potential of gain, my risk management rules warn me off as the chance of losing more than I'm prepared to becomes a possibility.

I understand from your post your loss came in the last 40% of the match so maybe by incorporating the 60% rule it will lower your risk?

Just my thoughts!

Good luck anyway.

Mark

Ray said...

Hi BT,
I am sorry about your loss. The answer to your question from my point of view is that to set yourself too rigid a set of rules does not allow you to trade out of a situation at times, like today. I have certain parameters when trading but if I see that a price is wrong I will go behond them just to get the value. It really depends on your style of trading as to wether or not you should have very strict rules. I hope you make your loss back quickly, good luck.
Ray

Anonymous said...

Well done. You should be pleased that you stuck to your rules. Just check you winnings to date to confirm you have things right for this project. Must have been galling to have then see India win. Would you feel so unsure if they had lost ? I suspect you would have been congratulating yourself. Good luck for the coming months.

Anonymous said...

You traded well - no question! You are getting right to the heart of good trading when you talk about stops. Here's a few thoughts about stops and why they are vital to good trading...

1. They allow you to reset mentally and return to thinking clearly and logically. It's simply not posible to do this when you have a position which is not working. You will 'talk your own book' and fool yourself into thinking its right to ignore your stop - don't!

2. Stops reduce your volatility of daily returns. This is key key key! Reduce your daily vol and you can trade larger sizes for the same risk. Your stops will no doubt lose money in absolute terms, but that's not what they are there for! They are there to keep you in the game and reduce your vol to an acceptable limit.

3. Most importanTly - A RULE THAT IS NOT KEPT RUTHLESSLY IS NOT A RULE AT ALL! If you don't stick to your rules then you basically don't have ANY risk management strategy - and you should expect to go broke!

4. Never look back! Once you are out of a trade don't continue to follow it - you will go mental if you continue to think what might have been!

5. Never try to 'make your money back' - this is a losers mentality and not condusive to good trading. Accept losses as part of trading and move on.

Hope this helps, you are trading well fromt he sounds of things.

The Edge

p.s. Love your blog by the way

Anonymous said...

During the CB Series Jamie Cox, now an Aussie selector, said something which made a lot of sense, to the extent that I jotted it down quickly. I've since lost that scrap of paper but the sense of it was that the Australian team "doesn't pay too much attention to the fact of winning or losing a particular game. Instead they're interested in getting the process right, and the results will follow from that."

There's a quite good column written by Gregg Easterbrook about NFL called Tuesday Morning Quarterback - it used to be at NFL.com and is now back at ESPN.com on 'Page 2.' He often takes teams to task for trying to get too fancy in their plays or change a winning style by parodying them as pretty young girls, brought to a party by their hard-working, responsible dates, whose heads are turned by the cads and charmers. Sure, the cads may look good but they lack the solid virtues of the ordinary, honest date. "Dance with the one what brung ya."

Looked at in the context of your lifetime blog P & L your discipline certainly has contributed to impressive results. Sure, it hurts to hit the stoploss and that pain is doubled when you're giving up perceived value at the same time. But time changes the nature of risk and you have to be all about the long term. IAMNAS.

The process you follow, to make trades, take risk and manage your money is working. "Dance with the one what brung ya."

Anonymous said...

**Of course, when I got back a few minutes later the price was already in the 1.5x range. And within 10 minutes or so it was back to where it had been. Even though the scoring rate had slowed. Basically the market had hugely overreacted to the wicket and I'd been caught high and dry having to get out at what I considered a crazy price in order to stick to my own money management rules.**

A ten minute passage of play can make a huge difference, regardless of scoring rates. You can't say that because another wicket didn't fall that the market was wrong to spike to 1.7x before falling back to 1.5x. 1.72 to 1.57 is only a 6.5% adjustment - from 57% to 63.5%. Is the market wrong to price in the collapse potential of another immediate wicket, then see it gradually discount out as the threat recedes?

Anonymous said...

If the market was inefficient when you hit your stop loss how could you be certain that it would then become efficient? Hindsight, as they say, is a wonderful thing!

JamesA

Anonymous said...

For what it's worth i think you pretty much got it spot on. Yes you missed out on a little value (same value that allowed me to get out of this odi level, rather than a biggish red) But at the same time something wasnt working for you here.
Now it could have been bad luck that saw you in the position you were in or it could have been your mindset on this particular day affecting your ability to trade profitably.
Either way it didnt harm you to walk away, it wont take long to claw that loss back, another day when things are going for you. There's likely to be plenty more similar valuable situations that your come across in the future. (Probably your very next odi)

personally i think you should be patting yourself on the back for keeping your discipline!!

Great blog, i check in every day to see how you are getting on and i have found some of your thoughts and ideas have benefitted my own trading over the months. A big thankyou!

The Betfair Trader said...

Thanks very much for all the comments and opinions guys. Good to see and read. Some quick thoughts / replies...

On reflection I believe I made the right decision. At least I will do it again if placed in the same situation. Despite the poor value stops are there for a reason and The Edge's comments explain it particularly well. That said it was an unusual situation. With the value (or my perception of it) being so poor at *precisely* the same point I hit my max loss stop limit. This is something Ray gets at and suggests too rigid a set of rules can be a hindrance. This is the situation I found myself in. Rigid rules were telling me to do one thing while my reading of the match / odds was telling me to do the opposite. The thing I have to question though is when facing such a big loss was my reading correct? I believe it was. But was under pressure and needed a quick answer. That's not best situation to take a big decision in so sticking to pre-thoughout rules and strategies that work was the right decision. Afterall, I have the benefit of hindsight now and knowing that India won the match. Another quick wicket and I'd have been asking myself why I hadn't quit at my stop.

Mark> Yes I did lose around £150 red each side after the 60 overs mark. The rest had been lost before :-( You're obviously right that the nearer the end of an event the more volatile it can become. And I do often just sit out and watch an exciting end to a match rather than risking further involvement. I do wonder if a 60% mark is a little too early though for some events. I like to follow a team with momentum and this often comes later than the 60% mark though can often be a low (ish) risk play. guess it just depends on the individual event circumstances.

Anonymous 11.45> I agree 100%. You can't say because another wicket didn't fall the market was wrong to spike at 1.7. Though I'm sure you'll agree that the market often overreacts to wickets in cricket. And I thought that's what happened here. Even before the next man was in it was falling. In fact I believe I bailed at the top of the spike!! (And just to be clear the market was back to where it was 10 minutes or so later, and not back to 1.5x. Apologies if that's not clear - though your point obviously stands.)

James A> Not quite sure what you mean? Assuming it's an efficient market equals 100% book? I'd say in running cricket markets are often inefficient, and rarely more so than after a wicket when there are often over / under rounds all over the place as it settles. It's those situations that often offer the best value. So I would expect it to be more efficient once it settles down again. The big question I guess still remains was the spike too high? I thought it was. Others obviously disagreed.

Anonymous 11.36> "Dance with the one that brung ya." That's fantastic! I like it a lot. A great saying when put into context. Going to put it on a post it to remind myself when I'm trading!!