Before anyone reads this… first, a disclaimer… These are my own random ideas and half formed thoughts. Let’s be clear that if you decide they have merit and you might want to copy what I manage to vaguely explain then it’s your own responsibility entirely. I’m assuming you’re an adult so don’t expect anyone to trade these ideas and them blame me for something going AWOL. This is mainly to help me attempt to clearly communicate the ideas in my brain to myself. You have been warned…
So… over the past couple of weeks I’ve been thinking and researching about for a longer term strategy that means I can actually work at my job, not get fired and not attempt to deal with emotional over-exuberance while making trading decisions.
It’s been something of a struggle to say the least.
However, based on a number of threads and extremely limited testing I’m thinking there may be some indications of some cautious progress. This post already feels like it might be quite a long one so possibly go find tea before proceeding… Got it? Onwards!
Look mum, I’ve got a strategy
Part 1 – Follow the yellow brick trend
So lets begin with the fundamentals. Trend following and how to define one… I’m going to use a shorting example below.
Well on a daily chart for almost everything it’s dead obvious. Everything is down against the Swiss Franc, Gold is going up and the Euro is all over the shop. Aussie dollar is up versus the US dollar etc. Daily trend? Up or Down etc. If it’s sideways I’m going to leave it alone cause I’ve no clues about that right now…
With this in mind I’m attempting to take advantage of the crowd (consensus) and only trade in one direction for each instrument. It doesn’t matter what it is. Lets use EURCHF as an example. The trend is down. Therefore I only want to short it… Why?
Well I definitely want to take advantage of the 10-25% advantage you get from going with the trend. Of course I don’t know that whenever I’m in a position it’ll go down (for shorts) but having the ‘crowd’ on your side is all the advantage I’m looking for at this stage.
Yes, but Rob, what about all those ‘up’ (opposite direction) trades you’re going to miss?! True, I’m sure I’ll miss a couple of really long runners but think about it for a moment. The price is dropping and you’re essentially suggesting that you can spot when a proper retracement is going to begin then hang on as all that downward pressure is temporarily restrained, there’s a gain over a number of days, suddenly everyone gets out and you spot the exit point?
Hmmm… sounds a little optimistic to me. I’m going to take less trades but they should be less risky and, over the long term, more profitable for less mental effort. Last point on this – there are always other instruments to trade. Price is price is price. My belief is what should work in stocks, should work in FX, should work in stocks. The basic psychology of the people in the market is the same.
It’s possible lots of people will disagree with this opinion and yes, I’ll agree there are environmental and news related factors that need considering for each. However, fundamentally all the data is displayed the same way so one strategy in FX should work the same in indices. It’s only your track record in making money from each instrument that should really count. I’m digressing a bit 😉
Part 2 – Timeframe
Daily? Too long for FX… 4hours? I’ve not got enough patience, frankly… 15 minute? Too short and I consistently lose money… Hourly? Yes.
Why hourly for me?
- I don’t have to keep too keen an eye on what’s going on
- Requires development of patience on my part
- Strong enough ‘signal’ i.e. if a bar falls consistently and far for an hour it’s unlikely to stop on a pinhead and reverse straight away (forgiving)
- Moving stops about seems pretty straight forward
- Allows me to get out if the impact of news send the position into reverse… not a big consideration but worth keeping in mind
- Allows the development of strong trends on easy to read charts
I did look at 4 hour charts for FX but it’s just too long for me. In a market that ranges quite wide but can be volatile it’s just a little bit too ‘committed’ for me to be comfortable with at the moment.
Being simple myself 😉 I need to be able to understand what it is I’m attempting to do. So in non-technical terms I’m trying to hitch a ride on the coat-tails of the market when the overall trend resumes… A lot of the next piece of thinking comes from things that Richard Farleigh came out with about trading as well as points from Malcolm Pryor in his book ‘Winning Spread Betting Strategies’.
Now… How do you tell when a trend resumes? Look at the price. Yeah, right, that helps a lot! Cheers! Ok… You need to have the confidence that the market is backing your opinion. How is the market going to tell you about this? Price movement. What’s the most un-‘disguised’ or clearest way you can see this sentiment? Moving averages based on certain periods… Does it matter which ones? Possibly not but there needs to be a slow one and a fast one.
Malcolm Pryor uses 10, 20 and 40 period EMA’s. So let’s use those then. He’s applying these on weekly charts but I’m not that patient, as I mentioned before.
So with EURCHF I’m going short when the 10EMA drops down through the 40EMA…
Enough of the market should have moved enough of the way down so that two things happen…
- The price drops for at least another period (1hr) so that I can move my stop to break-even
- People pile in to the resumption of the trend further reinforcing the likelyhood of 1. happening
This ties in with using hourly charts because people need time to notice things happening, you’ve got the time to get out if you’ve royally ‘effed up and lastly it actually doesn’t seem to happen very often when the price drops over an hour period then immediately reverses taking you right out.
Notice how I’m also trying not to lose cash here!
On this basis my stop movement is pretty aggressive. As my example from yesterday will show… possibly a little too much…
Part 4 – Stop loss placement
This is what levels are for. DO NOT ENTER a trade where the stop loss you need to place is a thousand light years from your entry point and negates your risk reward criteria. Unless you have a large trading account stay the heck away from Crude Oil 😉
From an aggressive perspective you could place your stop above the previous high if you’re shorting… Then once the price has fallen for a couple of hours go to just below entry – enough to buy a latte… Then, depending what happens next you could close the trade early or do a dance as the price continues to plummet.
I’m actually considering using a time stop here, rather than a figure or percentage. This comes from Simon Townshend who uses a 4 period stop as a way of retaining cash. In other words if the trade isn’t going your way after 4 hours, days or whatever you’re trading on then get out.
Or maybe look at the half way point of the last longest bar as the point where you might want to start considering whether to get out. I might also pick an arbitrary figure – 50 points say. I need more data before deciding this. Maybe it’s just the second or third bar then out after you enter the trade… I really don’t know yet.
Part 5 – Exit Criteria
Apart from your stop getting taken out the next thing to consider is whether to have an actual signal on the chart to indicate it’s time to get out of a trade…
I’m looking for a bit more real world experience before I try to decide this part. There are a number of reasons for this. The exit point depends on the behaviour of the price relative to the support/resistance levels surrounding it.
Also depends on your own number targets, the amount of time you can dedicate to monitor the position, if it’s fairly sideways and only pausing before resuming it’s drop or if it’s now bouncing back to eat your profits. This is a judgement that needs to be made based on experience. I need more problems like this 😉
So here’s breakdown of my EURCHF trade from Wednesday (22nd)
Happened to be looking and spotted EURCHF heading down off some resistance. With this overall trend down this is on the ‘right side’ of the crowd. Initially I made a mistake and entered long by clicking on the wrong button!! 😦 Cancel and reverse it for a small loss (dumbass!)
Right… in the trade proper now from 12,085 shorting with the trend and my stop is somewhere above 12,150… the drop continues beautifully and about 2 and a half(?) hours later I see the price bounding up again and I get out for about 36 points…
However, all my mistakes are in exiting this trade early… Apart from the price going back up I don’t really have a reason to get out. The EMA’s still indicate the trend is down. There’s another strictly price based indicator I created that shows the trend is still down… Hence my comment earlier about needing an exit strategy 😉
Here’s the proof from today…
Yep, had I had some balls, more faith and an actual exit plan I’d be pretty much £200 better off at the middle of this afternoon!
Still, rather than self recrimination – let’s look at the positives…
- I learnt some stuff
- I didn’t lose money doing so
- I have a good entry strategy
- I looked at this today across a number of other markets and it looks promising 😉
Will be paying attention to this in the future as I intend to trade this approach for another 29 trades and record my aggregate results. The only valid testing is ‘real world’ with real money.
The challenge isn’t the entry point, it’s managing your ‘self’ between that and exiting. More practice is needed but I’m happy and looking forward to testing 🙂