Maximum Adverse Excursion (MAE) and Maximum Favorable Excursion (MFE) Explained
How many times have we witnessed in our trading systems how trades move against our position? Many! Well, in this article, we will see how to analyze this behavior in our trades and what conclusions we can draw from them to improve our strategies. What are Maximum Adverse Excursion and Maximum Favorable Excursion?
Maximum Adverse Excursion (MAE) is a term used in trading and refers to the maximum amount of loss experienced by a trade from its entry point to its maximum loss point before the trade finally turns in favor of your position or is closed.
Opposite, Maximum Favorable Excursion (MFE) refers to the maximum amount of profit that is reached during a trade before the price retraces and the trade is finally closed.
John Sweeney, Technical Editor of Technical Analysis of Stocks and Commodities magazine, introduced the concept of Maximum Adverse Excursion, which was designed to help traders determine the appropriate stop level based on historical testing. Essentially, this strategy evaluates each trade to determine the level of drawdown at which trades typically do not recover. All systems have some drawdown, and MAE aims to differentiate between normal and abnormal drawdown levels.
How do you calculate Maximum Adverse Excursion (MAE)?
MAE (Maximum Adverse Excursion) is particularly useful for analyzing a set of trades. This way, an asset’s price behavior is studied after entry.
Let’s take a long position as an example: The entry point is the Open Price, and the difference between this Open Price and the minimum or maximum Low recorded during the operation until it changed in our favor is our Maximum Adverse Excursion.
Conversely, during a Short operation, the Maximum Adverse Excursion will be the difference between our Open Price and the maximum or high reached by the price before turning in the opposite direction.
What is Maximum Favorable Excursion (MFE)?
As you have probably already deduced, Maximum Favorable Excursion (MFE) is another term used in trading. It refers to the maximum amount of profit that is reached during a trade before the price retraces and the trade is finally closed. In other words, it is the maximum amount of money a trader could have earned in a trade if they had exited at the optimal moment.
Examples of Maximum Adverse Excursion (MAE) and Maximum Favorable Excursion (MFA)
Here is a graphical example of MAE:
Here is a graphical example of MFE:
