EXPECTANCY
A casino makes its profits by insuring they always have the odds in their own favor. They make sure they have something called positive expectancy in all the games they offer. Over the short term the casino is aware of the risk of losing, but in the long run they are absolutely certain they will be profitable. It’s almost exactly the same thing when it comes to trading.
A trader, trading with positive expectancy, will be profitable over the long run as long as he has the discipline to stick to his plan and strategy. In that case he has nothing to worry about. He is just a slave to the laws of mathematics and probability.
Simply put, expectancy is the product of the profit percentage per win and the win rate minus the product of the loss percentage per loss and the loss rate. An example:
| Win percentage: |
7% |
| Win rate: |
55% |
| Loss percentage: |
5% |
| Loss rate: |
45% |
| Expectancy (7% x 55%) - (5% x 45%): |
1.6% |
Of course you should never use a trading system with negative expectancy. Just as with Black Jack or Roulette it may work for a little while, but in the long run you are doomed to become a loser and there’s absolutely nothing you can do about it. The expectancy must be positive in order for a trader to be a long term winner, because just as at the casino table, you cannot beat the house over a long series of bets or trades. Instead, you should try to become the house yourself.
