Trading Thoughts - Value Entries and Improved Performance

I was watching a webinar the other day by Andy Carlen over at TraderKingdom.com called "Tight Stop Trading for Gold, Crude Oil, and E-Mini Russell".  He made a point that had a impact on me and my view of entries.  He briefly discussed the issue of value entries.  The idea is simple, but the effect can have an incredible impact on your trading results and system.

A value entry is an entry at a better price than the initial price when your system signals you to enter.  It seems like many systems traders use only one contract to enter and exit.  If the system has a positive expectancy, value entries provide a method for improving your system metrics in two ways:  reducing your risk on the position and increasing your profit on your position.  Now you may not always be able to enter at a better price than the initial entry price because sometimes the price takes off and never looks back.

Let's look at a quick example.  Let's say you have a system with a winning percentage of 50%, an average win of 10 ticks, an average loss of 5 ticks, and an expectancy of 2.5 ticks.  The system normally only enters and exit with one contract.  Let's say you decide to add value entries.  Through testing you find out that 25% of the time you are able to enter with a second contract at a value entry with a price 1 tick better than the initial entry.  Now assuming you still make the same exits, your average win for the value entry is 11 ticks, your average loss is 4 ticks, and your expectancy for the value entry position is 3.5 ticks.  The value entry will increase the size of your average winner and decrease the size of your average loser.  This is a powerful concept because it adds up over time.

Now this sure seems similar to averaging down, which many professionals will argue is a poor practice.  I would say there is one subtle, yet important difference between averaging down and value entries.  Averaging down is a result of an emotional urge to avoid losers in a futile attempt to justify the correctness of your position, while value entries are a validated/tested money management method to improve your strategy performance.  Value entries are planned while averaging down is more of an impromptu reaction. The difference is all in the plan, remember that.