Sharpe Ratio: +34%
MAR Ratio: +48%
Average Win / Average Loss: +35%
The significant difference was due to a better and more efficient way of identifying trends as it greatly decreased whipsaws. Equity curve was a lot more smoother.
Enough with the filter stuff and coming back to the fundamentals of trend following. My first system used a 4 ATR stop from start to stop. I gave little attention to selecting the numbers but then the idea behind this was to ensure winning trades get their way instead of cutting profits short. Attached below is monthly return distribution.
|New Filter System|
As you can see, the distribution has a shape like a positive skew. There are outliers to the right and it is more than 2 times the left most bar.This conforms to the definition of trend following as winners are bigger than losers. How can I efficiently let my winners run further while cutting my losses shorter?
The idea here is to not focus on entries and the accuracy of your system. The main problem for me in the transition from discretionary trading to quantitative trading is the bad habit of wanting to make as much money as possible through being right as much as possible. Just when I wanted to tighten my initial stop so to reduce my initial risk giving room for more contracts for my big winners, it so happened that it greatly increased the drawdown. Why? Well its simple, tighten stops for trend following system usually means increase stop outs when market volatility increases unexpectedly. There must be sufficient room for winners to be able perform. Below is the result of widening both initial and trail stop.
As you can see, although the distribution lost all the double digit outliers on the right, the central mean shifted more to the right which means better returns coupled with reduced variation.
What I learned…
1. stop focusing so much on the entries
2. start focusing on letting winners run and cutting losers short
3. trade with the long term trend