What P&L Swings Can I Expect as a Trader?

Many beginner traders don’t realize how variable the p&l of a high-performing trading strategy really is.

Here’s an example… I simulated ten different 5 year GBM processes with expected annual returns of  20% and annualized volatility of 10%. (If you speak Sharpe Ratios, I’m simulating a strategy within known Sharpe 2 characteristics.)

I plotted the path with the highest ending equity (green), median (black) and lowest (red). We know that all the paths are from exactly the same process, with the same known return distribution.

  • You might think of the green line as trading a strategy with a known large edge and being lucky.
  • You might think of the red line as trading a strategy with a known large edge and being unlucky.

What do you notice?

Even when you were really lucky, you were underwater for 130 days.

When you were unlucky, you were underwater for 508 days (about 2 years)

Let that sink in: you have a strategy with a known Sharpe 2 edge, and you might reasonably expect be underwater for at least 2 years if your luck falls in the bottom decile.

The reality of trading is even more uncertain because you never know what your edge is, see:

This is why we diversify across return sources, strategies, alphas.

We don’t simply diversify to access the well-understood vol-reducing diversification benefits.

We also because, by spreading our bets, we decrease, the chance that we are trading without an edge.

If you are serious about this game, you need to understand this dynamic deeply. And try to structure your life, income, expenses so this level of trading p&l variance is appropriate. The “carry” of a salary, management fees, consulting work, or side gig can help you navigate this.


Want to Do some Simulations Yourself?

You can access the simulator here.


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