A trading expectancy is an average amount you can expect to win (or lose) per trade with your system when a large number of trades are taken (at least 30 to be statistically significant). In order to calculate expectancy, you need 4 things – your win percentage, your average win, your average loss, and your loss percentage. The expectancy formula as follows.

Here’s how to calculate trade expectancy, then we’ll look at some scenarios.

(Win % x Average Win Size) – (Loss % x Average Loss Size)

Input the percentages as a decimal. For example, 80% is 0.8.

Consider Richard Dennis and the Turtles. Their system often won less than 30% of time, some of the Turtles even won less than 15% of the time, but the strategy still made them money. That’s because their wins were so much bigger than their losers. There is a big difference between winning and profiting.

Let’s assume someone using a similar strategy only wins 20% of the time, but they make $1000 when they win and they lose $100 when they lose.

(0.2 x $1000) – (0.8 x $100) = $200 – $80 = $120

The number is positive, which shows the strategy has a positive expectancy. It is making money. But what does the $120 mean? The expectancy is the average return for each trade, including wins and losses. This trader is expected to win 2 out of 10 trades, resulting in $2000 in gains. They are also expected to lose 8 trades out of 10, resulting in losses of $800. Subtracting the $800 dollars in losses from the $2000 gained, the trader is left with a gain of $1200 over 10 trades. How much did they make on average per trade? $1200 divided by 10 is $120. Therefore, trading expectancy is what we expect to make on each trade, based on our win rate and average gains and losses.

A classic trader mistake is to take small profits hoping to win all the time, but then letting the losing trades get out of hand. Consider a trader who wins 70% of the time, making $150 on average when they win but losing $400 on losing trades.

(0.7 x $150) – (0.3 x $400) = $105 – $120 = -$15

For every trade this trader places they can expect, on average, that $15 will drain from their account. Over 10 trades they can expect to lose $150. With a negative expectancy, the more trades taken the more money that is lost. This trader may win often, but they aren’t profitable.

How can this trader become more profitable? Probably the easiest fix is to try to reduce the size of the losses, potentially with a stop loss order. If this trader can reduce losses to say $200, they will be profitable, even though the wins are only $150. This is because this trader is winning more than they are losing.

(0.7 x $150) – (0.3 x $200) = $105 – $60= $45

By reducing the size of losses, this trader can now expect to make $45, on average, every time they make a trade.

The trader could also refine their method so they are making more on winning trades. This could also swing the strategy into profitable territory. Since the win rate is already quite high at 70%, it will be hard to improve on that. Therefore, effort is best spent on reducing the size of losses or increasing the size of winners.

If your win rate is below 50%, your wins must be larger than your losses in order to produce an overall profit. The lower the win rate, the larger those wins need to be relative to the losses.

If your win rate is above 50%, your wins can be bigger or smaller than your losses. Bigger wins than losses is ideal. The higher the win rate, the larger the losses can be relative to the win size.

In all cases, risk must be controlled. Ideally, keep risk to less than 2% of trading capital.