Embracing Risk/Reward Analysis over Forecasting
"Trading Insights" from Confessions Of A Market Maker co-host AllxDayRay!
Today’s Daily Report is Sponsored By Microefutures/EquitiesETC Trading
You’re Not a Forecaster, You’re a Risk/Reward Analyst
“Ray, how does Telsa stock look in the next year”? “Ray, I saw an article saying XYZ stock is going too XYZ price, what do you think?”. Ahh, the dreaded real life conversations people want to have with me about the market; I avoid them at all costs. I keep it vague, brush over most questions or throw in a joke. Most people’s understanding of the market is superficial, and I much rather not discuss the market with a layman unless they are truly curious, then I have no qualms. But that person is rare, most instead want to tell me what they “know” or think. Most “normies”- people not obsessed with the markets- are asking me questions that are essentially asking me to make a prediction. I’m not a forecaster though, I’m a risk/reward analyst.
I believe this concept really struck me on a podcast JJ & I did over two years ago now with a gentleman named Troy Prince- Institutional trader with extensive history trading and managing trade desks in New York and Asia. He said something on the podcast that I knew intellectually but perhaps I didn’t have internalize to the fullest: (Paraphrasing) “You could flip a coin with heads being long, tails being short, on any stock. You have correct risk/rewards parameters you’ll be profitable.”
Interesting take on the surface but truer words have never been spoken. I’m a HUGE proponent in simplifying trading and this accomplishes that goal. And besides simplification, this is the correct way to think. There is something liberating in not having to be right; removes the pressure of doing something incredibly hard- predicting the market or picking where a stock is going to travel. “I don’t know if this stock is going to go up, but if it does it has a likely chance of going to XYZ, which would be a substantial move given my stop and downside risk”; An example of a way I would roughly process a trade scenario. There are a multitude of factors at play in the market that you cannot account for, and neither can the world’s best machine learning. Geopolitical factors, large traders positioning, insiders positioning, overnight news, hedge funds battling it out with each other and an innumerable number of variables at play. Yes, we can have a leaning of where price is headed-based on technical indicators or other forms of data- but we never truly know. And it’s the times where you think you know that are potentially the most dangerous; you get caught off guard or you’re sized too heavily. Just eliminating any thought about prediction and truly analyzing a trade based on its risk/reward puts you in more of an objective position.
Now of course I’m using technical indicators and volume to give me some clues to where price could be headed, so yea, you’re sort of predicting in a sense but that shouldn’t be your focus and it becomes a hindrance to most. Viewing strictly from a risk/reward lens I think breaks the “grasping” of a trade; being married to it and not wanting to give it up. Do you want to be right? Or do you want to make money? Ask yourself why you are really trading.
I need to sometimes force myself to make a trade. “Well, I don’t think this trade works very often, but if it does, I only need to win 1 out 4 times for the trade to yield a profit”- another example of a thought process I’ll go through. It can be very uncomfortable knowing you’re taking a trade that is most likely to fail a high percentage of the time but guess what, it’s the correct play mathematically!
A lot of this talk is theoretical, and the practical skill of analyzing risk/reward in itself is something that needs to be practiced and is far easier to talk about than it is to implement. Get in as much screen time as possible.
-Razor Ramone (aka AllxDayxRay)
Reminder that you can join AllxDayxRay & JJ @vwaptrader1 daily live in the Microefutures Trading Community where they trade live & teach.
Advertising & Sponsorship opportunities are available with our team - reaching over 300,000 across all our platforms. Send inquiries to mTradingmedia@gmail.com