A few days ago I asked for help – I had a few questions as I finalized our brand new portfolio management training course.
The response was overwhelming – we had HUNDREDS of responses to our survey, and they have helped us refine our product so it covers EXACTLY what our readers need to know about managing portfolios of trading systems.
Reading your answers to the survey gave me a sense of incompleteness and anger, not towards you of course but towards that part of the trading industry that talks about misleading information, which is often also WRONG information… and wrong information in this business is very dangerous!
So I decided to react by clarifying some, often twisted, concepts. That’s why I just finished a report on some fundamental issues related to portfolio management, issues I believe are key for you all.
Here they are:
The 21 secrets to better manage your Portfolio of Trading Systems
- How should I consider the sum of the DD (Drawdown) of each TS (Trading System) compared to the portfolio DD? If I have 10 TS with max DD of 1% each, is it correct to say that the max DD for the portfolio is 10%?
The worst possible case is of course the sum of all Drawdowns, but that event is highly uncommon.
It all depends on when each TS Drawdown happen. If the strategies’ mix is built taking into account multiple DDs happening at the same time, the cooperation between strategies should result in a portfolio DD much better than then absolute Worst Case Scenario.
- Which portfolio would you build in case of markets with low volatility?
Trading Systems are developed to be able to tackle all market conditions, there are NO appropriate settings for low volatility markets phases because, if it were possible, the problem would then be to identify those phases. Generally speaking, it’s best to have a portfolio with maximum diversification so you can combine strategies that perform well in calm markets with others that perform better in high volatility periods. Of course each strategy, if properly built, should resist in all phases without extreme losses.
- To correctly manage a TS portfolio, do I need to know how to code?
It’s not needed but it helps. There are tools available you can use even if you can’t code and new code doesn’t have to be written. Of course if you learn the skill the job becomes easier.
- Which platforms/tools do I need to analyze and manage a TS portfolio?
You can start with an Excel sheet or use dedicated software. Amibroker has probably the best instrument but it’s not easy to learn. MultiCharts also has a tool to merge strategies, and even if it has some limitations, it offers a good planning tool. Unger Academy uses a proprietary software that, taking the TS daily profits as input, allows a detailed analysis of what could be the best mix to beat the markets.
- If I’m a discretionary trader, can I still apply the theory of portfolio management?
Yes, in theory… In practice, it’s hard to do so without objective data. Also consider that it’s implicitly harder to diversify a portfolio if you trade discretionally, because as human beings the amount of markets and TS that can be analyzed (and traded) in a certain amount of time is limited, hence decreasing the amount of effective diversification.
- Are there mechanical ways to stop a strategy that’s not performing as it should?
Yes, many ways! And no way… Common sense is what should prevail. Consider first you need to have A rule.
As an unrelated example, a rule to check your weight could be to go on a diet this week if you weigh 1 kg more than the previous week. This is a mix of common sense and a (more or less) mathematical formula, that have no scientific base but that does the trick. In trading it’s the same, THE rule to know when a TS should be stopped does not exist, but it’s solid common sense to have A numeric rule so you can make decisions based on that instead of gut feeling of the moment. In any case, rules are generally based on a degradation of performance with respect to the average system performance.
- Is there a minimum and maximum numbers of TS to have in a portfolio?
The minimum could be 2…
There’s no maximum except the one based on how much capital you have at your disposal to trade with.
- With maximum diversification, is it possible to have a portfolio that never loses money?
Unfortunately that’s very very difficult and shouldn’t become an objective (or you’ll get frustrated and lose your motivation). In trading it’s important to have a mid-long term view and thinking on short periods (weeks) it’s a way to proceed that is too random. The only valid rule is to never lose too much so that you can always keep playing!
- Is it possible to use an approach based on starting/stopping a TS based on its equity line?
It’s definitively possible and it’s one of the methods mostly used by many traders.
- Can I use different TS based on different logics on only one instrument?
Yes, absolutely. It’s the best way to proceed. But beware of how the platform works: don’t get confused with the correct amount of contracts which should be placed at the broker’s side. In many cases one strategy can be long, and the other short, so the net position for the broker is flat.
- Is it better to have one TS working on many instruments, or many TS on one instrument…