Be prepare for the worst case scenarios

It is true that as humans we tend to simplify the things around us and risk management and trading are certainly not the exception. When developing trading strategies we first come up with some worst case trading scenarios based on formal statistical methodologies (such as Monte Carlo simulations) and these first levels form the basis of our evaluation of a trading strategy’s expected statistical characteristics.

When you develop your trading system if you do so correctly there is an in-depth statistical evaluation of strategies that helps you understand how the trading system works and what you might and might not expect going forward into live trading territory. The most important part of this first statistical evaluation is without a doubt the worst case scenarios which help us determine when a trading strategy has gone outside of what is considered “normal” under the historical analysis we’ve made.

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