Hey, everybody, it’s Michael Martin trying a little something different today. So I wanted to demonstrate what I mean when I say asymmetry and how if you don’t set it up right from the first time, you inadvertently put an enormous amount of pressure on yourself to have to be accurate with your trading and you might not even know that you’re doing it. So let’s look at any particular chart.
I didn’t put the ticker here because it’s not, it’s not, it’s not germane. It doesn’t matter. So when I think about the asymmetry, like say you’re a breakout buyer or, you know, for some reason you are looking at, say, you know, pullbacks and we’re right at that pullback.
So you can find yourself either looking at this breakout here or buying, you know, the retracement as we start to make green bars here. Either way works for me. I don’t care how you do it, but the point I’m trying to demonstrate is that when you start to think like, okay, here’s an observable point, here’s an observable point.
And so when I start to think about the upside, when you think about what your risk is, like maybe your protective stop would be here or maybe it would be here. What I’d like you to start to think about is, okay, when I see where my entry might be anywhere in this type of a zone, then this part becomes my R, right? You can put that in red too. Like that’s what I’m going to lose.
That’s my risk unit. So then this space all the way up here has to be somewhere between 3 and 5R. And that’s what I mean by measuring.
And if you can’t see that, you know, ahead of time, then that to me is a go, no go kind of situation. Like there’s no point in putting on the trade if you can’t see where the thing’s before. Now I’ve always, you know, I keep it kind of simple.
Like these here are observable points. We can see that that’s where the market’s been. So I know it can get there again.
Now it doesn’t mean it’s going to get there, but I’ve already seen that it’s been there. Right now, if you’re dealing with historic highs, then it answers the question because we are, we’re already, you know, at the, at there’s infinite amount of returns. So when I want, when I, when you start looking at charts, I want you to start to see like, okay, here’s my one here.
Like here’s my R. That’s my one. And when you think about ratios, like I think of a ratio like this, here’s five to one. Well, this is really your R and this has to be the potential, potentiality of what you can get.
So you can make this, this measurement and see like, okay, compared to my, to my R, you know, is it, is it worthwhile to put on the trade? And if you don’t see the asymmetry in your favor, you don’t have to put the trade on, right? Because here’s, here’s what happens. Let’s look at some math. When you think about the equation, that’s the top line on expected value, you could see it’s you’re winning percent and typically people use your average winner.
And from that you’re losing percent and then your average loser. And when you multiply that all out and then subtract the difference, you have expectancy. So when you have one to one and you have, you know, a lot of traders have an accuracy of like 40%, you can see from the get go, like this model’s never going to work.
You have perfect symmetry. When you think about, you know, here to here, this is one to one, right? I can make one, I could lose one. So at 50, 50, it’s a break even.
And you can see like now for this number, this number really has to be more like 70, right? 70 times one minus 0.30, you know, times one is my R, right? So now you have 0.7 minus 0.3 and your expected value. Because here it’s less than zero. So the only way, if you’re not going to look for, you know, the symmetry between these two numbers here, when you look at the chart, you inadvertently mean that this number has to be gigantic in order for you to make any money and you might not even know it.
So this can stop you putting on, you know, I say, how do you make money in trading? Well, first of all, stop putting on suboptimal trades. I mean, I remember this week we talked about, I think it was, I think it was just yesterday we were talking about holding winners in delayed gratification. You also can meet a lot of your needs before you even put the trades on by saying like, this doesn’t meet my standard.
When I’m looking for dating partners, I need to see X, Y, Z, you know, perfection doesn’t exist, but I need to know that if I’m going to make, because I only bring my A game on a personal note. I don’t have a B game. I have my shit together.
So I only bring an A game and I expect reciprocity. So naturally I wouldn’t think to go dating somebody who has, you know, less to offer than me. What’s the point? I’m not a masochist, right? And how would that look mathematically, right? That would be like one to four, you know, that would be like this.
And now it makes no sense. You have a one to four payoff. That’s a lot of dating right there, you know, so I don’t do that.
And this is what happens. It’s like the old saying is like, if you settle for less, then you get less than you settled for. So now you have 0.4 and now you have from that, you know, minus 2.4, whoops, it’s, yeah, 2.4. So when in God’s green earth can that ever make money? You’re just destined for trouble.
So that’s why it’s like, if you can’t see the asymmetry from the beginning, like whatever setups you’re looking at, then don’t put the trade on. You might need to find another pattern that would work better for you, right? Because most people, when you think about asymmetry and you’re right, 40% of the time, you know, the payoffs can be quite handsome. Here I wrote a five to one payoff.
Five is what you make. One is red. That’s why it’s in red.
It’s what you can lose, right? So this becomes easy. This is two, two, like I said, and this is 0.6. So your expected value is 1.4, which is more than your bet size, right? Now here’s what’s interesting. You notice like here, you know, this is, this is real.
If you don’t choose the right level of asymmetry, you know, here in the blue, right? Where that’s, if this is one to one, we’ll go back there. You automatically see that then this number here has to be, meaning this number here has to be above 0.5, which means your accuracy, you know, in order for it to make sense, you know, you’re looking at 70% plus accuracy to have positive expected value. And that just becomes very difficult to do.
Some of you might have an extraordinary great sense of timing, but that’s very few of you. If you’re just starting out, it becomes very difficult. Now you can do it probably with computers and high frequency trading, like that’s what that’s, this is the math behind it.
This is the math behind every casino in America. So when you think about this, you know, this model, right, it becomes a lot cleaner and you can see how people can learn to make money. It’s pretty simple.
40%, you got to learn to emotionally deal with this part. How do you, how do you learn, right? That was the, that was the tough part for me coming out of a world of accuracy. How can I learn to be wrong the majority of the time here and still learn to make money here? That’s the old argument of accuracy versus expectation.
This is a pure play on expected value. But so I think you can see the math. The key is when you’re looking at the chart, if you can’t see the payoff, you know, because look, if you see, if you’re looking for five to ones all the time, I think that makes three to one much more feasible.
If you’re looking for 10 to one and you’re only putting on those types of trades. And again, it doesn’t matter. You could be risking 10 cents here to make a dollar.
That’s 10 to one. It doesn’t matter to me your timeframe. This could be one minute bars for all I care.
But that’s how the big money is made. And all, you know, all the day traders who’ve done very well, some of the guys who were in, you know, the market wizards books, it all comes down to understanding this math and knowing like, OK, I’m going to take the risk. I’m doing all the work.
What’s in it for me? It’s OK to ask that question. And scalpers live by this, too. If you risk in 10 cents, you have to make 30, 40, 50.
Sometimes they run. Sometimes you get a chance where you, you know, you can get the first piece here and then you can catch the next move. Right.
So. Then you add more and then it pays off and then you have these gigantic asymmetric wins that end up being a huge part of your bottom line at the end of the year, as well as being the capital that pays for all the paper cut loses losers that you’re going to get. Now, watch what happens when you start applying some dollar signs to this and your accuracy drops because the market just sucks.
And all of a sudden, you know, you don’t have any. You know, you your your trading style is not aligned with the market. Right.
So I’m not saying that you’re changing things, but the market can sometimes go against you and change its nature, change its character. And you look at this situation where here you’re only accurate, but one in five instances, which is tough. Right.
That means four out of five you’re losing. Hopefully you’re just losing paper cuts. But this number turns out to be, you know, a hundred dollars.
And this number turns out to be eighty dollars. So then your expected value turns out to be 20. So look, I’ve said this before in another podcast without being a without having illustrated it.
I even said this number. I said it’s 20 bucks with a terrible win with a terrible win rate, which probably has nothing necessarily to do with you, but everything to do with the market environment that we’re in. So.
What happens with this? Well, obviously you can’t make a living at it. I guess you could do it 10 times a day. Right.
And still make your 200 bucks. That’s decent. The 50 K a year.
I’ll take it. Right. It’s legit.
What the bigger point that I’m making, though, is that the market could turn to crap where you’re losing. The majority of the time, 80 percent, four out of five trades you’re losing. That’s hard emotionally.
But the point is, is that this number is not going to lead to the double D’s. The drawdowns. So it can save you by finding the asymmetry right between here and here, which we saw here.
Right. We’re looking for this gigantic asymmetric situation. We bypass all the math and the need to be accurate with this nonsense.
And we trust that because we’ve chosen the asymmetric way. We still find ourselves making money, even very, very tough markets again, can’t make a living necessarily at it, because you might find that you have fewer setups. So it’s not like you could even do it 10 times a day, 10 times, 10 trades a day is a lot.
You know, unless you’re on a desk and you’re working in a professional environment. So this is what I mean when I say if you if you seek the asymmetric style payoff, payoff, you take an enormous amount of pressure off yourself here to be accurate. Right.
But then also like what happens if the market goes berserk and you start losing money because of things that you can’t control? At least you have you’re making some positive cash flow. Right. But Mike.
My accuracy is not even showing up. OK, perfect. Let’s take a look at this.
Let’s say that you’re really going to end to the toilet. Your accuracy drops to 10. Right.
And 10 times 500 minus 90 percent losing of 100. Right now, the number the numbers. Aren’t necessarily great.
And you can see that this is 90. And in this case, you’re going to lose 40 on average. The point is, is that you’re minimizing your drawdown.
Right. And that is really the name of the game, because when you win, sometimes you’re not going to know why you win. It’s great when you can follow the same model all the time.
Right. It’s great when that can happen. But unfortunately, things are going to turn before you might.
There might be some global macro stuff going on and you’re not even aware what the hell that even means. But the key is, is that you start to lose less money when you start to focus on the asymmetry. You can lose less like, yeah, if you’re going to win only one, 10, one times and 10 tries, that’s a time to kind of sit on your hands.
But you also know that when I’ve said this, you start to cut your you start to cut your position sizing. Or you cut your R in half so that this number, you know, becomes 50. And then this number becomes 45, whoops, just becomes 45, and then this number becomes five, for example.
Now, this number is going to get cut, too, so it’s not exactly that way. I understand that. But the point that I’m making, which I’ve kind of flogged to death here, is that when you find the asymmetry in things, you take the pressure off yourself to need to be accurate.
And you also take the pressure off yourself when the markets go, go to pot and you no longer have the accuracy rate because something’s changed in the market. You start to you’ll you’ll still make some money and put less, you know, it won’t necessarily it’ll change the shape of your equity curve, but it’s you’re not going to lose money. And then what you don’t lose, you don’t have to earn back.
And then you stay. You say like, OK, market’s choppy right now. It’s hard to trade.
I’m just going to sit pat. I’m going to cut my position sizing here and watch my equity curve and see how things come to pass. And then this way it gives you a nice emotional touchdown to how things are going while you trade.
And, you know, your equity curve is better off for it. And two, you don’t lose your mind because once you start losing your mind, you go on tilt and you get aggravated. You start taking flyers.
You start selling puts and doing crazy stuff that aren’t really part of who you are. Right. So this really kind of keeps your game together when you when you are kind of trying to figure out like who you are as a trader.
This math really protects you on many ways and you might not even know it. Anyway, I appreciate the comments and the questions. Go to TraderMindset.com. You can get your free copy of the Inner Voice of Trading audiobook.
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Have a great weekend. I’ll see you Monday.
