50K’ view of how to fix your trading
33 winning trades in a row with an average win of $30…my streak before that was 14 wins in a row with an average win of $50…my trading system was fixed.
About two months before I spent about a week, dedicating an hour here and there to trying to understand why I had failed at the previous two years of options trading. 2014 and 2015 devastated my trading account. I lost 29% of my account over those two years, but in the span of 10 months in 2016, I had made back nearly 100% of my losses.
How? I built and refined an analytical process based on the data available to me from my trading journal and turned that analysis into an actionable plan. It wasn’t easy, but it was sure worth it!
This is the second in a series of posts on how to “180 Your Trading”. Over the span of this series I’ll walk you through my process step-by-step so you can take advantage of all the data you’ve collected on your own trading. I highly recommend you take a quick look at the first post in this series if you haven’t yet.
This post will give you a big picture overview of the method and identify some of the tools and data you’ll need available to use the process yourself. Let’s get going!
Start with the end in mind
I could throw in any one of a multitude of analogies here about starting with the end in mind. But with analytic projects you REALLY need to start with the end in mind otherwise you end up wasting a ton of time. It’ll save you from doing useless data gathering, keep you focused on what calculations you need to perform (which we want to minimize because I hate math), and allows you to focus on answering specific questions to drive you towards an actionable plan.
So, how do you start with the end when it comes to analyzing your trading? A hint…we just did it. You have to ask questions. Building out a list of questions you want answered will drive and focus your process so you’re not wasting effort. This part should come pretty easily for most people because you probably made the decision to do the analysis because something was wrong with your trading system.
When I looked at the results of 2014 and 2015 my driving question was, “Why is my trading failing?” Now, let’s be honest…that’s a pretty broad question. But it was good enough to get me moving forward. We’ll make sure your questions are a little more refined, but any question you can think of is a great starting point.
Ok. We’ve got a question to answer…now what?
Collect – Create a data foundation
We need to create a good data foundation to start finding a solution to our question. This foundation will empower our future calculations and allows us to draw conclusions to fix our trading. How do you create a data foundation though?
Personally, I’d recommend keeping a good trading journal. Keeping your journal up to date as you make trades can save you the burden of going back and collecting all the data at once. I currently use the Trading Journal Spreadsheet, but I started with a homemade Excel journal. There are also services out there which will automatically pull your data from your trading platform for you. This can save you a ton of time transcribing data. One of these is Trading Diary Pro, but I haven’t used this one personally, however one of your fellow readers recommended it to me.
I’m sure some of you are wondering, how much data is enough? When is it too much? I definitely believe there’s an absolute minimum we’re going to need for the type of analysis I’m going to lead you through. I’ll cover this requirement and “data overload” in more detail in the write-up on collecting your data.
Now that we’ve collected data like little hoarders and are sitting on a mountain of data…call me a nerd, but I get an image of Gollum from Lord of the Rings sitting on a mound of numbers uttering, “My precious!”…the next step is to put it through the correct calculations to start making sense of it.
Process – Putting the data into a useable format
Processing all this data requires us to know what format it needs to be in, this is where our questions we previously asked come in to help focus our effort. Specific types of questions will require different data to help illuminate what’s going on with our trading. The analysis I’m going to teach you starts with Expectancy.
Expectancy is the genesis for all our analysis because it tells us the basic health of our trading system and can be a point of comparison between systems. Unfortunately, this part of the process will require a little bit of math. I know…I’m not a fan of math myself, but we’ll learn to welcome in this strange creature and let it guide us in our analysis. Trust me, I’ll keep it simple and to the point and show you a number of examples along the way.
When we dive off the deep end into processing data, you’ll also get a quick reference guide on how to work out some of the most common calculations. I’ll also provide a road map linking typical type of questions to the required calculations so you’re not wondering which to apply. But don’t let those aides be a total crutch! The intent of this process is to teach you how to think about your trading and figure out to make it work better for you!
Speaking of thinking, let’s get on to my favorite part of the process!
Analyze – Time to put your brain to work
With all this data and questions to answer we now have the opportunity to put our brain to work and figure out, “What does all this tell me?”
Your analysis will be led by the questions you formulated at the beginning of the process. Most questions will start with understanding the parts of the Expectancy formula and what they tell you about your trading system. Are your wins too small? Too infrequent? Or maybe your losses are too big. What information you dive into all depends on the questions you need to answer.
Beyond doing the work of analysis, there are two key traps we have to be aware of; analysis paralysis and analytic wandering.
Analysis paralysis is like the quicksand of analysis. You’ve gotten into the analytic process and you can’t (or refuse) to get out. In my experience there’s a couple of reasons for this, which I’ll dive into but more importantly I’ll cover how to identify when you’re stuck and how to get yourself out.
Closely related, but not quite the same is what I call Analytic Wandering. On the surface, it can look like analysis paralysis because it leaves you stuck in the analysis process, but from my experience they come from two different sources. Don’t worry, I’ll teach you how to build yourself an analytic “yellow brick road” to keep you focused on the task at hand.
At the end of the analysis process, you should have a clear understanding of what was wrong with your trading system and a good idea of how to fix it. The last part required to 180 Your Trading is to put all this thinking and analysis into action!
Action – Putting it all to work
It’s time to put all that hard thinking to work for you. We do this through rebuilding your trading plan. Depending on how much work you put into the Analysis phase of this process will determine how quickly or slowly you move through creating a new trading plan. The results of the Analysis phase should have clearly laid out what needs to change with your plan. If you don’t have this clear understanding, go back and put your brain back to work on analyzing your data again.
Another key factor in translating your analysis into action is your understanding of how options work. If you’re fairly new to options trading it may take a little bit of additional research on how to turn your theory into application. I’ll make sure to cover down on how to translate analysis into action for some of the most common issues you’ll see.
The last part is to start trading! Implementing our new trade plan allows us to see how this system works for us. While we’re putting it to work and recording it in our trade journal we’re also collecting more information which will allow us to do this all over again!
De Ja Vu – Why would we do this again?
Wait! You want me to do it all again? Yes!
The reality is your new trading system is just that…new. You won’t know how well it’s working for you or if you fixed your problem unless you analyze it as well. I know you’re probably thinking now, “Ok, so when does this thing stop?” Well, that’s a tricky question.
This process is iterative, meaning you can keep going back and doing it again, and again, and again…you get the idea. But the idea here is you’re in control. You get to decide when enough is good enough. If you’re happy with the trading system you have, there’s no one who’s going to come kick down your door telling you to “Do more analysis!”
But the option (no pun intended) is always there for you to do the work and either fix or tweak your system. Or maybe you want to put this trading plan on the shelf and try something new! Go for it and compare the two systems to see which suits you best.
It’s all up to you.
Ok, by now you should have a sense of what you’re about to get yourself into and you’re ready to dive in. We’ll start with the end in mind and jump into building questions we want our analysis to answer.
I’m super excited to hear from you guys about this process or your own process. How do you currently analyze your trade system? Just leave me a comment below, shoot me a note on Twitter (@optionstudent) or hit me up with an email at Nakedoptiontrader@gmail.com.