by Shaun Overton
Trading forex with a Martingale money management system will almost inevitably lead to blowing up an account. I’ve written about this inevitable outcomes repeatedly over the past six months. At the risk of beating a dead horse, I figured that visual proof would alleviate any lingering hopes once and for all.
Recall that Martingale systems aim to never lose money. Instead of accepting losses and moving on, a Martingale betting strategy doubles the previous bet. Whenever a win finally does occur, all losses up until that point are wiped out. The trade also gains the same amount of profit that the original trade hoped to capture.
The experiment assumes that the trader uses fixed fractional money management set at 1% of the account value. Recall from earlier experiments that a 1% risk value will almost never blow up an account after 200 trades. The percent accuracy for the trades remains at 50%, which is perfectly random. The random number file has been upgraded to include 10 million random numbers instead of the previous half a million.
The goal of the exercise is to focus on the risk of ruin rather than the profits accrued. As time goes on, the likelihood of ruin increases with the number of trades placed. A trade is each time a new transaction enters. It does not matter whether or not the last trade was a winner or a loser.
Fifty trades on most Martingale systems corresponds to anything from several days to several weeks. The level of aggression used in the trade level (i.e., the pip distance used to open a new trade) is what most strongly affects the amount of time required to reach fifty trades.
Placing 50 trades shows what most traders know. The returns look fairly nice at that point. A return of 20% on the account shows a 40% probability of occurring. The risk of wiping out the account looks meek at 8.5%.
Increasing the number of trades to 200, which corresponds to several weeks or months, the odds of outright failure skyrocket to 35%. The lucky traders that have not yet blown up show returns ranging from 20% all the way to 300%. The total risk is more apparent, although many traders fall victim to the lure of quick, large returns. If it all looks too easy at this point in time, that’s because it is.
Going out to 1,000 trades, which I roughly ballpark as the amount of trades an average expert advisor might complete in 9 months to a year, is where the inevitable result is obvious. The odds of reaching a zero balance reach 95%. A tiny handful of traders are floating huge returns. As the number of trades increases from 1,000 to 2,000 to 10,000, the tiny fraction of accounts left eventually dwindles down to zero.