BarroMetrics Views: Decision Tree Analysis II
On Friday I introduced the Decision Tree Analysis I used to move up my stop. Today, I’ll go over the thinking process that led to the decision.
To do this, I need firstly to explain my spreadsheet:
- The Xls will identify the favoured option by calling it ‘True’ and the other options ‘False’.
- The percentages of pairs e.g. ‘Goes Up’ and ‘Goes Down’ have to equal 100%. Where I don’t make them so, the Xls will make it for me. (See Fig 1).
Ok let’s now look at each of the pairs:
- The three choices facing me were outlined on Friday.
- In the Tree, I have limited to two to keep the blog simple to follow.
- If I stayed in the trade:
- I felt that given the price action of Tuesday and Wednesday (See Forum), the QM had a 70% chance of moving down on Thursday.
- If I stayed in and the market went up, I assessed that there was a 50-50 chance of my hitting the calculated target at 95. If the QM did get to 95, my profit would be $82k. I would suffer no loss if the QM went up.
- If the market went down and I were stopped out, I’d lose $12000 and I have no profit.
- If I exited the trade on Wednesday’s closing price:
- If I exited and the market went up, I’d make $6000 and if it went down, I’d lose (82,000 - 6000) $76K.
- If I exited and the market went down, I’d pocket $6000.00 and lose nothing.
On these assumptions, the better course would be to raise the stops.
On Thursday, the market did fall. The extent of the fall in terms of price and volume generated a new set of assumptions and here the best course was to exit on Thursday’s close. The Forum describes the current strategy.
FIGURE 1 Spreadsheet
FIGURE 2 S&P Cash
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