Examining a Forex Equity Curve
What Can We Learn From An Equity Curve
When we choose a forex trader to use as a third party signal provider we want someone with a smooth steady uptrend in their equity curve. The aim of this article is to point the reader in the right direction for things to look out for when examining a potential signal provider' s equity curve.
The first thing we want to look out for is a trader who made all of their profits in one place (graph to the right). As you can see from the equity graph to the right, this trader made nearly all of his profits in a day or 2. This generally means that the trader took huge risk to make an attractive profit on paper and attract investors. What you don't see is that if these risky trades are not successful, the trader simply abandons the account and starts a new account with the same goal in mind.
Remember, I'm not saying that a huge win in a short period of time is a bad thing. I'm just commenting that this particular trader has nothing to lose when this gain is made and there is no reason for him to not just abandon the account if the trade goes bad. Some traders start with nice gains and are very good traders. This is just something to look out for.
The next type of trader we look out for is the trader who has regular dramatic losses (graph below). In the graph below you can see the repeated dramatic losses this trader takes. The reasons for this could be a number of things. When a trade goes wrong for this trader the wheels may just come off and his system may go out the window. More often then not though (and it is the case with this trader) they pyramid losses. What this means is that they constantly keep adding to losing positions in hopes that they were originally right about the trade and they will be able to make huge profits. As you can see the effect is most often the exact opposite.
As a trader you should know to only add to your winning positions. I would think if you were going to let someone else trade with your capital you would want to be sure that they knew this very basic rule.
At the time of this writing this particular trader has over 20 systems up and running with more than 500 people trading his signals. Under 20% of his systems are winners over all and I suspect within a short while that number will drop to 0%. Adding to losing positions in part of his system. Its only a matter of time before this fatal flaw catches up with him. Make sure that you're not around trading signals like this when it finally does.
When you see a graph that looks like it goes in a pretty steady up trend (below) with few major draw downs you have probably found a trader that is at least worth a closer look. There very well may be other reasons not to trade this particular signal provider, but at least now you have a trader that you can stick in your demo account and gather more information.
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