Redundant Trade Signals (Part 2)

I have been discussing the implications of allowing redundant signals to trigger additional positions once already in a trade.  In http://www.optionfanatic.com/2012/11/02/redundant-trade-signals-part-1, I presented results for x=3 and n=5 with redundant signals allowed and compared this to results in Table 1 from http://www.optionfanatic.com/2012/11/01/trading-system-2-consecutive-directional-close-part-2.  I’d like to conclude this discussion with a point about position sizing.

Taking additional trades with multiple signals makes the position sizing consideration much more difficult.  Before, no more than $100K of risk would ever be present.  With multiple signals, however, up to five positions may be open.  Am I comfortable with up to $500K of risk being on the table or do I need to decrease position size?  With greater risk, it makes sense that greater reward (net profit %) and greater DD could both be incurred.  Perhaps max DD is still the best proxy for risk and what position size should be based on.

Performance calculations are also more difficult with multiple open positions.  If you are able to trade five open positions at once then returns must be calculated on $500K (in the denominator) whether or not five positions were open during that time period.  The capital must be ready to be deployed if it is needed.

Considerations about position size and redundant signals are examples of what make system development so difficult.  Trying to balance profit potential with risk and exposure with position size can truly be a mind-boggling experience.  I sometimes feel like I am chasing my own tail!  Ultimately, I will stick with the subjective function (RAR/MDD) to choose the system for me and then position size from there.  Every trader needs to do the same thing tailored to his/her own preferences.

In my next post I will continue analysis of the Consecutive Directional Close trading system.