Choosing Your Toolset Unless youre purchasing a trading system, youll have to come to grips with the never ending issue of what tools to use in your trading. Whether you build a mechanical trading system or decide to be a discretionary trader, there are literally hundreds of tools for you to review, test, and configure/combine into something useable. Its never-ending because theres ALWAYS SOMETHING you can tweak or replace. Every system you ever put together will have occasional losing streaks leaving you wondering if its time to start enhancing your system. Truth be told, most pro traders use simple tools and work on their mechanics, like exactly when and at what price to enter after a signal, profit objective or trailing stop etc. But it takes a long time before you can get to that level of understanding. Till then youre like a kid in a candy store continuously distracted by the trading-tool flavor of the day. I bring this issue up because early in my trading career I saw a problem with the toolset that I and my trading partners were using - we were trying to predict what the market would do next using tools that were only good for telling us what the market had already done. An analogy would be using a hammer when you needed a screwdriver - and boy, did we get screwed using the wrong tools. As do most traders. The tools of course were the traditional technical indicators like moving averages, momentum indicators, MACD, etc. The standard toolbox that comes with most charting software. So whether youre building your first trading model or youre a veteran who wants to reconfigure, let me share some of what Ive learned about selecting and configuring a trading tools. Before evaluating tools you need to adopt a Style and an Entry preference. Decide whether your style is to be trend-follower or a trend-change trader. Whichever you select, you next need to decide your entry method, whether reactive or predictive. The first selection causes a lot of confusion as most trading education will tell you that being a trend follower is the only realistic way to make money consistently. Theyll add that its impossible to consistently pick tops and bottoms. And Ill tell you this is just ridiculous advice. The problem with trend following in a nutshell is that youll always be getting in late and start your trade with a large stop loss. By definition a trend follower has to wait for a trend to be in progress, and in todays efficient markets the bulk of a swing often happens before your tools will tell you about the trend. But I digress - theres many trading styles and if trend-following appeals go for it. The trend-change trader, often called a top and bottom picker, or a swing trader, has to have more discipline then the trend follower - after all, each time you enter a trade the confirmed trend is going the other way - implying you better be good with your stop-loss placement. Once you decide the above style, you need to consider the two primary entry methods: reactive or predictive. Reactive trading is when an event happens in a market and you simply hop on the current market swing. The event could be a news story, economic report, rumor from an analyst - or it could be the market making new highs-lows, or breaking major trendlines. Some event which is easily spotted by the masses. The market reacts, you get in a trade, and hope you get out before the inevitable correction. Reactive entry best supports trend-following. Predictive trading is simply assuming (guessing?) that at a particular price or time the current market swing will end, and a new one begin. Predictive methods usually have you placing your order in the market before price gets there. Youll usually be using some sort of forecast, be it cycles or economic / agricultural models made by analysts employed in the profession. This entry best supports the trend-change style. Now you need to spend some time thinking about your two selections as they influence - possibly dictate - your selection of trading tools. Lets review in generic terms: either you want to follow existing trends or pick when trend reverse; next, either you want to wait for price to confirm your entry or youre picking the reversal price. For trading veterans just spending some time thinking about this will aid you in cataloging the tools youre familiar with. And when you new tools/methods are introduced to you youll have a better sense if its worth your time learning about them. But if youre a new trader - is there any profession thats more frustrating for newbies? - heres a few ideas (any examples are for going long, reverse for shorts). Trend Follower - Reactive Entry: ideal for intermediate and long term trading. Tools that support Tide-Wave-Ripple trading are best, like momentum indicators. Long-term Cycle forecasts are used here the most. As are volatility-breakout system tools like bands (Bollinger, Keltner, Envelope, etc). Trend Follower - Predictive Entry: used in two cases. A) Buying breakouts from trading ranges in the direction of the prior trend and B) buying minor corrections. All forms of Support/Resistance levels, moving averages, Momentum indicators, momentum divergence. As this strategy is most used for buying corrections of the major trend Market Geometry tools and all forms of timing (MktGeo, financial astrology, short-term cycle forecats) are also useful. Trend Change - Reactive Entry: wait for a specific time or price to be reached and then enter a trade after price exceeds a prior high or moving average. Market geometry, financial astrology, cycle forecasts, or momentum divergence for predicting trend changes. Wait for price to break a resistance for entry, or wait for price to exceed the highest high of the prior x bars, or use MovAvgs. Trend Change - Predictive; wait for a specific time or price to be reached and then enter within a few ticks of the lowest price or a support level. Market geometry, financial astrology or cycle forecasts for predicting trend changes. Very simple entry - buy near support.
Posted on: Sat, 26 Oct 2013 15:13:36 +0000
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