Performance Metrics can be Deceiving

Yesterday I took a look at the trading account I started tracking on Covestor in August 2007. What is being tracked is a combination of a couple of IRAs which total about $70,500 at inception -- not a huge amount, but was using it to test some strategies and start creating an online track record. Now starting in about the middle of 2008 I didn't put as much emphasis on this account; one, there weren't that many opportunities to be long stocks during period, and two, there was so much turmoil going on in the markets from July forward, I was spending every second I could on my core trading account. That account has significantly more funds in it and involves going both long and short, while I can only go long in the IRA.

I took a closer look today at this account, because I noticed that my stated rate of return for the tracking on this account as -30% (-22% annualized). I haven't checked it, but it sounds close enough given the calculation methodology. But what is interesting about this situation is that I actually have a positive return on this account. I didn't calculate the exact internal rate of return, but I started with $70,500, made a withdrawal (excess contribution) of about $7,000 in October 2008, and my current balance is about $69,200 (no other deposits or withdrawals). So a quick estimate of the return for the year and five month period is in the neighborhood of 7 percent. Not hall of fame material, but also not particularly bad for an account that traded long only during one of the worst periods in recent history.

Why the seeming discrepancy? Given interest rates, we know that interest on cash wasn't a factor. The main reason is that the traditional investing measures such as Covestor will track the rate of return assuming you are fully invested, ignoring cash balances (which makes sense, because these funds are expected to be fully invested since they are competing with the market indices in general). Whereas being a short-term systems trader, my methods depend much more on the money management and timing aspects -- I am in cash quite a bit, trading less of the account when I have less of an edge, and am scaling into more positions with more of the account when I have more of an edge. So when bad days occur, I am less invested than when good days occur.

This review was also a good reminder for me also that having the cash on hand to be able to scale in to opportune situations is very important to my trading style.

tmantrader