RISK

123enen · 25 March 2006

I'm just a simple man.
No one could ever accuse me of being a profound philosopher.

To me, risk (in terms of share buying) is simply the fear of losing money.
To some people that would be a low amount of money and to others
maybe more, depending on their financail situation.

It's about the impact your decision has on your peace of mind.
So people do practical things to minimise risks. They do things that will increase their level of confidence in the decision they are about to make.

They may do fundamental research on a company, they may seek advice from mentors,they may trade only when a stock moves within an upward range. Additionally, they may set a number of parameters to help them make entry decisions and important exit decisions.

As they do all this, they become more confident and feel less sense of risk, that is they feel there is less chance of losing amounts of money that would disrupt their peace of mind.

To me there has to be the probability of tangible loss for risk to exist.
Losing an opportunity to buy into a stock because one waited for the price to get lower than it did is not an issue of risk.
No harm was done - just a lost opportunity. No tangible loss occured.
Another opportunity will come along.

It's Snake Pliskin · 25 March 2006

Do you honestly think trading various portfolios/or futures/or shares/or different groups of shares is Risk Management or even a form of risk management?

Only you know Tech! :nono:

Now Ive had enough of the lack of support from ASF and have mailed them accordingly--I'm also sick of Patronising from people who have little more than basic knowledge.
So I will watch with amusement as the un educated---educate

No wonder people don`t want to contribute. I may do the same. ASF keep up the good work.

nizar · 25 March 2006

Snake Pliskin said:
For example: having positions whose performance has no effect on other positions.

What one does not want to listen to and believe is that while one is going down it`s ok because the other is going up. Foolish and costly in my opinion. c:

Well said.

There has to be no correlation btw the 2 stocks/investments that u hold for the sake of diversification. eg. no correlation btw nikkei and s&p500...

ALso 2nd point very valid. I read something like this in a book about Warren Buffet's investing methods. Him and Soros basically dont believe in diversification. If they find a good investment, they put a considerable amount into it. If you spread the money around for the sake of diversification, u can't make the really huge gains.

stevo · 25 March 2006

It's nice if risk can be quantified.

It's about the probabilities of something happening. What is the probability that I will lose money on the next trade, over the next year, or over the next 100 or 1000 trades? How would a strategy have performed over the last 10 years.

If a strategy failed in the past then the strategy is highly unlikely to perform in the future.

For me measuring risk, or determining the probabilities of success is about;
1. determining if the strategies I am considering using are likely to be profitable. I can really only do this through testing.
2. Finding a strategy (or range of strategies) that have worked in the past, in out of sample testing, and eventually in actual trading.
3. determining a position sizing approach to capitalise on the strategy.
4. Monitoring results going forward.
5. Milking the strategy for all I can get given my trading business goals.

Where is the risk if you have done your homework properly? Thousands of hours testing and retesting strategies, analysing results, throwing out months of work because it doesn't make the grade, to come up with an approach to the market that tilts the probabilities of success very strongly (at the 99.95% significance level) in my favour.

What are the probabilities of failure if you don't do your homework?

stevo

http://drawdown.blogspot.com/

Julia · 25 March 2006

123enen said:
I'm just a simple man.
No one could ever accuse me of being a profound philosopher.

To me, risk (in terms of share buying) is simply the fear of losing money.
To some people that would be a low amount of money and to others
maybe more, depending on their financail situation.

It's about the impact your decision has on your peace of mind.
So people do practical things to minimise risks. They do things that will increase their level of confidence in the decision they are about to make.

They may do fundamental research on a company, they may seek advice from mentors,they may trade only when a stock moves within an upward range. Additionally, they may set a number of parameters to help them make entry decisions and important exit decisions.

As they do all this, they become more confident and feel less sense of risk, that is they feel there is less chance of losing amounts of money that would disrupt their peace of mind.

To me there has to be the probability of tangible loss for risk to exist.
Losing an opportunity to buy into a stock because one waited for the price to get lower than it did is not an issue of risk.
No harm was done - just a lost opportunity. No tangible loss occured.
Another opportunity will come along.

123enen

Agree 100%. If what we are looking for is a clear definition of risk from a philosophical point of view, I don't imagine it could be better expressed.
So much to be said for not over-complicating the issue.

Tech
Not sure whether you were looking for the philosophical thoughts on this or the more sharply defined methods of assessing risk from purely a share market point of view?

Julia

123enen · 25 March 2006

tech/a said:
Recognising,understanding,quantifying and making Risk work for rather than against you

Not sure how you can make risk work for you. Surely if you could do that then there would not be any risk.

bullmarket · 26 March 2006

Hi stevo

stevo said:
It's nice if risk can be quantified.

It's about the probabilities of something happening. What is the probability that I will lose money on the next trade, over the next year, or over the next 100 or 1000 trades? How would a strategy have performed over the last 10 years.

If a strategy failed in the past then the strategy is highly unlikely to perform in the future.

For me measuring risk, or determining the probabilities of success is about;
1. determining if the strategies I am considering using are likely to be profitable. I can really only do this through testing.
2. Finding a strategy (or range of strategies) that have worked in the past, in out of sample testing, and eventually in actual trading.
3. determining a position sizing approach to capitalise on the strategy.
4. Monitoring results going forward.
5. Milking the strategy for all I can get given my trading business goals.

Where is the risk if you have done your homework properly? Thousands of hours testing and retesting strategies, analysing results, throwing out months of work because it doesn't make the grade, to come up with an approach to the market that tilts the probabilities of success very strongly (at the 99.95% significance level) in my favour.

What are the probabilities of failure if you don't do your homework?

stevo

:iagree: 100% with your post and I think you hit the nail right on its head with your definition of risk.

The points you mentioned are basically the premise I used when I decided to use the concepts I described in an earlier post in this thread regarding assigning weights, equal or otherwise, to one's criteria for both buy and sell signals. I also agree with you, as I have said in other threads, that one's strategy should be tested and fine tuned if necessary by paper trading or whatever other simulation techniques you might have until the strategy's goals are achieved consistantly, however long that may take.

imo the more signals (obviously without going to ridiculous extremes) you have saying buy or sell the higher the probability is that in at least the short term the signal is correct and hence the lower the risk is to making a loss in the short term in the investment/trade.

Overall I have been happy with the returns I have received over the years using the concepts I described in earlier posts in this and other threads but that by no means suggests that what I do will be appropriate for all.....obviously it has been and will be for some and will not be for others.

cheers

bullmarket

Porper · 26 March 2006

tech/a said:
When you mention Risk most peoples eyes glaze over. I know mine did.

But whether youre in Business,Property,Just going about daily life or trading---RISK is constantly there.

For me its a pet topic,some years ago I learnt the risk of not understanding RISK.

Recognising,understanding,quantifying and making Risk work for rather than against you will be the single most positive thing you can do for your endeavours in creating financial security.

I wont have the time nessesary to devote to the topic this weekend but will return to discuss when I can. In the meantime I'm hopefull that this may generate some constructive discussion.

One well heeled quote I dont agree with!!

Risk nowadays can be pre-set, especially with guaranteed stops.

I have never been a fan of divesification, to me it just means that you will never make a big capital gain.Always diluting your big winners.Thinking negatively, yes it will dilute your losers, but so what.

If I had $50,000 to trade with I could buy $50,000 worth of XYZ stock with a stop loss of 2% so the most I can lose is $1,000.This is my total risk.If the stock as hoped goes up, you could place the stop at breakeven very quickly, this then is a no risk trade (impossible to lose money, only breakeven or gain).You could then buy more stock (compound) as the price ticks up, this can be calculated with a trailing stop to again, never have any risk of losing any capital.

I am not advocating using all funds on one share, but the theory is still the same.Risk is always there but in this market we can calculate risk exactly if we wish.

nizar · 26 March 2006

Porper said:
Risk nowadays can be pre-set, especially with guaranteed stops.

I have never been a fan of divesification, to me it just means that you will never make a big capital gain.Always diluting your big winners.Thinking negatively, yes it will dilute your losers, but so what.

If I had $50,000 to trade with I could buy $50,000 worth of XYZ stock with a stop loss of 2% so the most I can lose is $1,000.This is my total risk.If the stock as hoped goes up, you could place the stop at breakeven very quickly, this then is a no risk trade (impossible to lose money, only breakeven or gain).You could then buy more stock (compound) as the price ticks up, this can be calculated with a trailing stop to again, never have any risk of losing any capital.

I am not advocating using all funds on one share, but the theory is still the same.Risk is always there but in this market we can calculate risk exactly if we wish.

Well written

JUst one question though, is it possible for a stock to plummet so much that your stop doesnt get hit?

bullmarket · 26 March 2006

Hi porper

Porper said:
Risk nowadays can be pre-set, especially with guaranteed stops.

I have never been a fan of divesification, to me it just means that you will never make a big capital gain.Always diluting your big winners.Thinking negatively, yes it will dilute your losers, but so what.

If I had $50,000 to trade with I could buy $50,000 worth of XYZ stock with a stop loss of 2% so the most I can lose is $1,000.This is my total risk.If the stock as hoped goes up, you could place the stop at breakeven very quickly, this then is a no risk trade (impossible to lose money, only breakeven or gain).You could then buy more stock (compound) as the price ticks up, this can be calculated with a trailing stop to again, never have any risk of losing any capital.

I am not advocating using all funds on one share, but the theory is still the same.Risk is always there but in this market we can calculate risk exactly if we wish.

I can see what you're getting at and my interpretation of your post is that:

The higher the risk = the higher POTENTIAL reward and not necessarily guaranteed reward which I believe most will agree with.

Imo investing the whole $50k in one XYZ stock is technically a higher risk investment than spreading it over say 5 stocks with the same potential prospects as stock XYZ. Even by putting $25k into two similar stocks means you can still have the same potential total gain if they both shoot up or you can still have a nett gain if one shoots up and the other falls to your 2% stop loss level. And if they both fall to your 2% S/L level then your loss is the same as you would have suffered had you only invested in one stock.

So I suppose how far one diversifies firstly depends on how much capital they have and secondly on how much of that capital they want to expose to one stock, sector, market, asset class or global region.

eg.....in the current ASX share market game mrs bullmarket and I are holding a total of 7 stocks which are netting a positive gain atm (some stocks are up, some are down) at about the national average. Sure, our nett gain would be much higher if we invested the whole $50k for the game in the best performing stock.

However, one point you make that I disagree with is:

If the stock as hoped goes up, you could place the stop at breakeven very quickly, this then is a no risk trade (impossible to lose money, only breakeven or gain).

I disagree it is impossible to lose money in this case because I see paper losses as real losses......others for their own reasons don't see paper losses as being real and that's fine, each to their own on this one But I accept paper losses could be much more relevant to a day or short term trader than say a long term investor.

eg.....if your $50k trade entry rises say 5% or whatever and you then watch it fall back to your original $50 and close out then sure, you haven't lost any original capital but imo you have still lost that 5% rise of which you had the option to close out on if you chose to, everything else being equal.

Imo, what you are saying in the above extract is that if on Eddie's show a contestant gets the $1M question wrong and then drops back to $32k that he/she hasn't lost $468k when in fact they had the option to take the $500k.
Imo that contestant in one instance had $500k secured in their pocket and then blew it and effectively lost it.

cheers

bullmarket

bullmarket · 26 March 2006

Hi nizar

nizar said:
Well written

JUst one question though, is it possible for a stock to plummet so much that your stop doesnt get hit?

just in case porper doesn't get a chance to reply, with Commsec conditional orders it is theoretically possible in rapidly falling stocks that your stop loss order will not get executed even after your trigger price is reached....ie...you could be very unlucky in that once the trades fall below your trigger price the highest subsequent bids could still be below your set 'execution' price and so your sell order would not be executed unless the bids came back up to your sell/execution price.

cheers

bullmarket

Porper · 26 March 2006

bullmarket said:
Hi nizar

just in case porper doesn't get a chance to reply, with Commsec conditional orders it is theoretically possible in rapidly falling stocks that your stop loss order will not get executed even after your trigger price is reached....ie...you could be very unlucky in that once the trades fall below your trigger price the highest subsequent bids could still be below your set 'execution' price and so your sell order would not be executed unless the bids came back up to your sell/execution price.

cheers

bullmarket

Maybe I didn't explain well enough, but with regards to the stop losses being guaranteed, I was infact referring to CFD'S where the stop is 100% guaranteed.So if your stop was set at one dollar and overnight a profit warning is sent out to the market and it opens next day at 0.70c, you will still get out at one dollar.

With normal trading I am not sure whether you can trade with guaranteed stops, in new Zealand you certainly can't.

Porper · 26 March 2006

bullmarket said:
Hi porper

I can see what you're getting at and my interpretation of your post is that:

The higher the risk = the higher POTENTIAL reward and not necessarily guaranteed reward which I believe most will agree with.

However, one point you make that I disagree with is:

I disagree it is impossible to lose money in this case because I see paper losses as real losses......others for their own reasons don't see paper losses as being real and that's fine, each to their own on this one But I accept paper losses could be much more relevant to a day or short term trader than say a long term investor.

cheers

bullmarket

Hello Bullmarket,

I don't see that investing all your capital in one company with a stop loss of 2% is any riskier than investing all your capital in 20 companies with a 2% stop loss on each.The set risk is the same(The hard dollars).Again I am not advocating this as a trading style, just that the numbers will be the same, in theory anyway.

As for your second point about paper losses being real, I think this is very subjective because none of us will get out at the very top in the long term, so as far as I understand you are stating that we all lose money when we sell.(potential profits).To me, while the trade is on, this would just be normal drawdown, when we close the trade, it goes back to risk/reward and basic profit or loss.No point thinking about what might have been, we would all drive ourselves crazy :screwy:

I still stand by my point about moving the stop to breakeven as soon as possible becomes a no risk trade.The more we can do this, the less losses we have (which isn't overly important) but we are giving ourselves the chance of only making profits in the long term.

It's Snake Pliskin · 26 March 2006

I still stand by my point about moving the stop to breakeven as soon as possible becomes a no risk trade.The more we can do this, the fewer losses we have (which isn't overly important) but we are giving ourselves the chance of only making profits in the long term.

Good words Porper!

It's Snake Pliskin · 26 March 2006

Bullmarket,

Imo, what you are saying in the above extract is that if on Eddie's show a contestant gets the $1M question wrong and then drops back to $32k that he/she hasn't lost $468k when in fact they had the option to take the $500k.

A poor analogy of risk as we are talking about the markets here. It is quite possible to get that money back in the markets, as you would know being an investor.

Enjoy the time with the wife. :blover:
Snake

It's Snake Pliskin · 26 March 2006

Porper said:
Maybe I didn't explain well enough, but with regards to the stop losses being guaranteed, I was infact referring to CFD'S where the stop is 100% guaranteed.So if your stop was set at one dollar and overnight a profit warning is sent out to the market and it opens next day at 0.70c, you will still get out at one dollar.

With normal trading I am not sure whether you can trade with guaranteed stops, in new Zealand you certainly can't.

Macquarie calls them a guaranteed stop loss. Very impressive Macquarie I must say.

bullmarket · 26 March 2006

Hi porper

no problem, but I think you are taking the example I gave far too literally because of course I accept that no-one sells at the very top on every occasion.

The point I was making is that imo if you watch a share price fall back all the way to break even and then close out the trade when you had opportunities to close out at any time whilst still in profit then I see that paper loss as a 'real' loss as in the similar circumstances I described re Eddie's show.

As I said in my earlier post whether people see paper losses as real or not is up to each individual and so we'll just have to agree to disagree on the 'reality' of paper losses.

cheers

Hi Snake

You have quoted me out of context and that extract was clearly not an analogy on my part of risk at all.

The extract was clearly an example of how I see paper losses in reply to porper's view of paper losses....nothing more, nothing less

Hopefully my above reply to porper will clarify the purpose of my Eddie example for you but if you see it as meaning something else then so be it.

cheers

bullmarket

Porper · 26 March 2006

bullmarket said:
Hi porper

no problem, but I think you are taking the example I gave far too literally because of course I accept that no-one sells at the very top on every occasion.

The point I was making is that imo if you watch a share price fall back all the way to break even and then close out the trade when you had opportunities to close out at any time whilst still in profit then I see that paper loss as a 'real' loss as in the similar circumstances I described re Eddie's show.

bullmarket

Bullmarket, I am not saying set the stop at break even and to leave it there, that would be irresponsible to the extreme.What I am saying is once this is done, we are in a risk free trade, then it is up to us to manage the price action as we feel fit, whether that be a trailing stop, count back or whatever.

As for taking profits, well I don't consider myself an expert,I get it wrong as often as I get it right.If anybody says they consistently get out near the top, I would love to talk to them and find their method, or call them a wee fibber !!

Anyway, must go and peel the spuds and sprouts or Mrs Porper will peel me

Julia · 26 March 2006

bullmarket said:
Hi porper

The point I was making is that imo if you watch a share price fall back all the way to break even and then close out the trade when you had opportunities to close out at any time whilst still in profit then I see that paper loss as a 'real' loss as in the similar circumstances I described re Eddie's show.

bullmarket: That sounds simply silly to me. If you applied that principle of paper loss as representing real loss then, unless you have some pretty extraordinary talents (?) you are going to feel frustrated a lot of the time. If you were a trader, or even a n investor who buys and sells reasonably frequently (which we know you are not) how often do you think you would pick the top.?

I understood Porper's entirely logical suggestion was simply a means of avoiding a loss by setting a breakeven point. Really don't know why you couldn't just accept that.

bullmarket said:
As I said in my earlier post whether people see paper losses as real or not is up to each individual and so we'll just have to agree to disagree on the 'reality' of paper losses.

cheers

Hi Snake

You have quoted me out of context and that extract was clearly not an analogy on my part of risk at all.

Maybe I'm missing something here, but it didn't appear to me that Snake had quoted you out of context.

Julia

bullmarket · 26 March 2006

Hi Julia

no problem - others have understood what I was saying in my Eddie analogy in relation to how I see paper losses

So if you or Snake don't understand or agree with what I was saying then I don't have a problem with that simply because others have at least understood and whether they agree or not is entirely up to them. I just gave my view on paper losses and a supporting example.

As someone else said in another thread recently - if we all agreed on everything all the time this would be a pretty boring place

cheers

bullmarket

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