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BookingAlpha Option Trading Advisory

Tuesday, November 20, 2012

Trading with realistic expectations

A few days ago I had some emails back and forth with a reader talking about profit expectations when trading. Obviously I will protect his anonymity and I won't quote his exact words either so as not to make it personal. In the end, I believe it is valuable to share some thoughts with you folks, specially in this controversial topic as we can all benefit from a healthy discussion.

The reader was talking about my performance this year (+36.47% portfolio growth after commissions) and basically his argument was that such a return is not worth it, specially for smaller accounts that you can not live off. He knew, first hand, about other successful traders who were able to win big, and whom he trusted. He asked for some guidance in me disclosing systems that could double his account every month, systems which I probably knew about, due to my blogging for so long, but of course such a good system, if I had one, I wouldn't share it for free publicly. He mentioned that he was not asking to double his account every week, because he had realistic expectations! So, his goal was to only double it every month.

Well, I don't have a system that doubles your account size every month. Such a system doesn't exist. And he mentioned that he would then focus on investigating other sites and stop wasting time on mine if that's all I had to offer.

First let's play with the numbers for a while to analyze this. Doubling your account every month represents a 100% monthly return.

Imagine you start with $1000 dollars and you obtain a 100% monthly return.
12 months later your account balance is $4 096 000. That's more than 4 millions dollars in one year trading.
24 months later your account balance is 16 777 216 000, yep, you saw it right, that's 16 billions in 2 years trading, starting with a $1000 dollar account. At that point you can feed your dogs with $100 dollar bills. You can donate two dollars to every single human being on this planet and still be a billionaire.

100% monthly returns are not possible.

Even 10% consistent, long term monthly returns are not possible. You can have a system that returns 10% or more in  a given month, even 20%. But that's a statistical anomaly that you can't expect to happen consistently every month for years.

With a 10% monthly returns a $1000 dollar account grows to $92 709 068.82 in 10 years. That's 92 million dollars. No body will ever turn $1000 into 92 millions in 10 years trading. No one.

If you want to talk about realistic returns in terms of monthly returns then we can analyze the following compounding examples:

1% monthly return represents a compounded 12.68% yearly return, perfectly possible.
2% monthly return represents a compounded 26.82% yearly return, great result and still possible.
3% monthly return represents a compounded 42.58% yearly return. Excellent return, this is elite, but still achievable. It has been done.
4% monthly return represents a compounded 60.10% yearly return. And that is out of this world. It has been achieved by some traders one year, but that number is not consistently achievable year after year.

So, the top is right there, around 3% - 4% per month. Again, I'm talking about consistent average returns on the whole portfolio. Returns of over 10% a month are achievable, heck I'm a nobody and scored a couple 6% and a 7% this year. But consistently averaging that monthly return is what I'm talking about. And consistently averaging anything above 3% per month is by all means elite.

Many websites reflect past track records with a lot of 7%, 8%, even 10% per month, but all of them reflect the return on particular trades and not on the overall portfolio. This leads to a lot of confusion and false expectations in newbie traders.

It is understandable why so many people have unrealistic expectations. The industry is full of marketers, brokers, news letter advisories making hollow promises to lure new capital into their pockets. There are too many cheap advertisements promising the moon out there and portraying trading as the ultimate money generating machine. But, the sooner you realize what realistic profit expectations are, the sooner you will stop chasing the holy grail that will make you a millionaire in a couple months, and the sooner you will be on your way to profitable long term trading.

Trading can indeed be profitable, very profitable. But it is not the lottery, it won't make you reach in a few months. You will need decent returns, and years of compounding, and obviously discipline to keep doing it for such a long period of time.

This article is very related to another one I wrote in early September 2012, How much capital do you need to trade for a living? It is a good read to complement what I have said here today.

Thanks for reading folks! And happy trading! (With realistic expectations :) of course )

Related articles:
Measuring Portfolio's  Performance
How much capital do you need to trade for a living?
Design of a EURUSD Donchian breakout strategy 
Covered Call vs Buy and Hold. Performance comparison
A simple strategy that beats most traders

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  1. I like this summary and realization what is real and necessary to be succesful - consistent results.. I made during this year in one month above 10% , but when I didn't make it next month ( but the result was still positive ) , it was for me quite difficult to understand what is happening. I prepared well for this year also with expectations and with real targets (15% p.a.), but results with such a superb values could be also dangerous, when you are not used to achieve it. And it happened, it had for me negative impact in oncoming months than I put up back myself into normal..just my hint from reality :)

  2. Exactly Robert! You have to be aware of what is reallistic, so that you dont get affected, or mentally depressed when you dont see your account growing 10% every month. Thanks for the comment!

  3. Yes very true in trading our expectation should be such that which can be achievable in real.

  4. Hey Henrik,

    What's your opinion about the SteadyOptions audited track record up to this day?


    1. Hi Victor,

      Kim Kleiman is a legit trader with a solid service. I trust the track record.
      But, notice that he reports ROI, not portfolio growth. So, you won't see those returns reflected as account growth. If you have a ROI of 200% and you deploy 10% of your account on a play, in reality it is a 20% account growth. For more information on different ways to report performance check out my article


    2. Henrik,

      As far as I know, Kim's track record shows returns on the whole account. And he always allocates 10% for each trade, hence a 30% winner or loser equals to 3% for the account, and his monthly returns already account that... So in fact what we are seeing, are true returns well over 100% per year (also look at the portfolio value, below in the same link).

      What do you think?


    3. Once again, what do I think? Like I said, a legit trader. That's why I have a permanent link on the left column of this site linking to him, although I don't make a dime from it. It is just to make the good sites stand out in the middle of a sea of garbage that the trading arena is.

      As for his returns in particular, why not question the man himself directly and stop guessing?

    4. I'm sorry if my question seemed to be repetition. I was just talking about the possibility of having that kind of returns while trading options as he does, with well-controlled risk.

      Strategy: Non-Directional strategies (straddles, calendars, Iron Condors etc.).
      Trades per month: 10-15 plus adjustments.
      Number of open positions: 4-6 options trades - spreads only.
      Performance targets: 5-7% monthly net return on the whole account (although they often obtain more than 10%, with very few losing months: no more than 2 per year and much smaller than the winning ones).
      Maintenance: Fairly high, tailored for active traders.
      Impact of commissions: About 2% per month.

      "There are many services that trade exclusively one strategy, like credit spreads. While they might make decent returns 9-10 months per year, 1-3 bad months when the markets make sharp moves can wipe out months of returns... At SteadyOptions, we offer a complete portfolio approach. We use a diversified approach by trading a mix of non-directional market neutral strategies and balancing the portfolio Greeks. In order to hedge our theta positive gamma negative trades (like Condors and Calendars), we will always have gamma positive trades like straddles or strangles".

      Everything seems logical/achievable and legit... And yes, I have already talked with him. It is supposed to be as I stated... So again, regarding his profits and future potential, what could you tell me about it?... A little insight and informed opinion of yours part would be super valuable :-)


    5. This comment has been removed by the author.

    6. I mean... is it realistic at all, expecting to achieve something like that in a constant basis, for the long-term? Do you find it possible, considering we have that statistical data as a sound proof of someone actually doing it, along with many followers of his service? =O

    7. The thing is, I have never been a subscriber of his service so I don't know the particulars on how he would handle extreme situations. His returns look spectacular but I obviously can't tell you whether that is sustainable or not going forward. That's why I suggested that the very hard, the toughest questions should be asked to him.

    8. Hey Henrik,

      True, I need to inquire it further directly with him. But at the same time, I wanted to take the opportunity to ask you about it, because you seem to have a lot of experience trading options.

      By the way, here's his statement:
      Apparently being tracked with the same service that you use: