Some questions about scaling

I’m currently trading ‘Turning Points’ in demo mode. In the trade permissions dialogue it says “On C2, Turning Points has $186,854” Which if I understand right is the amount currently simulated on C2 (although I really don’t know what relevance that has to my personal account).

In the section “$ used in your real account” you enter the amount from your account you want to allocate to a particular system. It then shows what percentage of $186,584 this represents (again, don’t know what that’s got to do with me).

Now since I’m only running a demo on Open Ecry with a $50K balance, I tried entering some unrealistic amounts like $50 (which is too small to open a position on any contract) and $500K (which is more than what’s in my account). The system accepted both these values. I don’t know what the consequences of these two situations would be.

From this I gather that it’s my responsibility to make sure I enter values that are in line with my trading account size. It also implies that I have to manually make adjustments every so often to allow compounding. Eg. If I use one trading system and my account balance goes from $50K to $60K one month, unless I change the amount allocated to the trading system from $50K to $60K, I won’t effectively be compounding my gains?

C2 doesn’t know how much is in your brokerage account, and so we have to take your word for it. If you tell C2 to trade millions of dollars worth of futures contracts, but you have only $10,000, fairly soon you’ll get a frantic call from your broker.

Now, let me explain how C2’s Autotrading scaling works. C2 gives each system vendor some amount of capital. Nowadays that number is chosen by the system vendor, but it’s typically $100,000.

When a system vendor enters orders into C2, C2 acts just like a broker; it makes sure the hypothetical system within C2 has enough margin / capital in the account to support the trade. If not, the trade isn’t permitted. Furthermore, C2 checks margin levels in real-time, during the course of the day. If a system account doesn’t have enough margin, it gets a margin call, and positions will be unceremoniously closed with or without vendor approval.

This policy gives you, the AutoTrader, some comfort. You know that the system vendor can’t “spend” more than the dollars in his account. In other words, if you had exactly the same amount of cash in your real-life broker account, and you followed the trades on C2 exactly (i.e. at a one-to-one scaling, so that the quantities you trade were exactly like the quantities traded on C2) then you could be reasonably sure you wouldn’t get a margin call. Further, you could know with reasonable certainty that if the system vendor blew up and lost all his money, then you would lose all the money in your account, too.

“Well,” you say, "that’s very good, but in my Open E Cry account, I have only $50,000. I don’t have the full $186,000 dollars that is in the C2 account of the system named Turning Points."

The solution is to use a scaling factor. Let’s say that you want to “allocate” only $30,000 of your account to the Turning Points system. You simply type that number ($30,000) into C2. C2 magically determines that this translates into a 16% scaling factor. A 16% scaling factor means that, if Turning Points places an order to Buy 50 contracts of June Corn, you will buy 8 contracts within your real-life brokerage account.

It further means that if Turning Points blows up and loses all its money, you will lose $30,000 in your account. (* Of course, this is not guaranteed. You can certainly lose more, but the preceding statement is the goal our software tries to achieve.)

Now, let me raise a two related issues.

First, regarding compounding. In theory, what’s nice about the method described above is that your account will grow or diminish proportionally with the system(s) you subscribe to. So that means that you won’t need to make daily adjustments to your scaling factor.

That’s the theory, anyway. The reality is a bit more nuanced, because – and this is the second point I want to make – futures contracts are not infinitely divisible. Ultimately, you can’t trade less than one contract. In other words, if Turning Points issues an order to Buy 2 contracts, and you want to trade using 16% scaling, ideally you’d place an order in your broker account to buy .32 contracts of corn. But of course you can’t buy .32 contracts. So C2 buys the minimum quantity: 1 contract.

The implication is two-fold. First, that - while scaling is good - in practice you won’t exactly match the scaling you desire, and so occasional rebalancing of your Autotrading preferences will be a good idea.

Second, that this problem becomes more obvious as you choose smaller and smaller scaling preferences. You may want to AutoTrade a system using 1/2 of one percent (i.e. 0.5%) scaling – and you are allowed to type that in – but for some systems, Mick Jagger’s maxim applies: You can’t always get what you want.

Hope this helps.