Setup: Connect 2 and Extend

I didn't expect to write anything tonight, but I saw a setup today that compelled me enough to put forth the effort.  I usually don't go into much details with trades generated from Diamond Setups, out of respect for the fact that it's a proprietary system.  And I don't take many non-Diamond Setups trades.  But there are a few setups that I still take on the rare occasions when they do come up.

I just can't help it, I usually pull the trigger on those non-DS setups, knowing that I'll get dinged on my execution score -- simply because they are based on setups I've researched or taken over time and they just call out to me.  Perhaps I should just update my trading plan to include these types of setups so they're not considered an exception?

I didn't have a formal name for this setup, but I'll just call it "Connect 2 and Extend", since it's based primarily on connecting two points and extending the trendline.  It's relatively simple, although like nearly all setups, there is some "art" associated with it.

Here's basic recipe (generally works on all timeframes):

• Connect 2 significant swing highs/lows and extend the trendline to the right
• Look for points where the extended trendline intersects with another point of interest, such as a moving average, vwap, Fib, another trendline, etc.
• When the fast stochastics (8,3,3) is above 80 or below 30, and price is hitting the confluence of the extended trendline and at least one other support/resistance, enter at a price as close to the trendline as possible
• The stop is generally placed a tick above/below the trigger bar
• Profit target for ES would be +2.00 for the first target (or use whatever scaling out method that works for your style)

Here's an example of the setup that took place today.  I did *NOT* take this trade today, since I was not trading this afternoon.  At the time of the trigger, here's what the screen looked like:

ESM2 - 3/20/2012 - Setup view

And after the fact, you can see how well both the support/resistance level right around 1398 was respected, as well as the upward sloping trendline.  Depending on your level of aggressiveness, there were multiples places to enter trades today based on the trendline, although the only one that meets the criteria for this setup is identified in the chart above as well as the blue arrow in the chart below.

ESM2 - 3/20/2012 - Results view

I also use to this method to enter trades based on the 15 min or daily forex charts, and it has also worked with stocks.  What's really great is when this setup lines up with the Diamond Setups once in a blue moon on the ES -- then the outcome is usually quite magical.

This is why I'm still on SIM

Yet another example of Murphy's Law.  I write extensively about something and feel as though I have it nailed down.  And then the next day, I get burned by what I had thought I learned so well and told the world about. 

Yes, I traded the ES...against the trend.

Here's a snapshot of today's market with my notes. 
   SH = Swing High (that preceded the critical swing low or LOD)
   SL = Swing Low (that preceded the critical swing high or HOD)

My only excuse?  My prior examples were based on the trend changing from DOWN to UP.  Today, it changed from UP to DOWN.  So I couldn't recognize the change as well [cough, cough].  But after today's example, there will be no more excuses.

This is one of those days where I'm glad I'm trading on SIM.

* * * * *

Wednesday, November 16
Total gross profits:  -$300.00   -6.00 ES points
[SIM adjusted gross profits:  -$687.50] 
Total trades:  22  [1 scratch, 14 losses]
Accuracy:  33.3%
Contracts per trade: 1

NOTES: Volatile overnight session leading to a gap down opening with a little over an hour of range trading.  The gap eventually filled before lunch, and then the markets went choppy during the lunch hour.  After a run to new highs, the ES stair stepped down, and finally dropped sharply into the close (hey, just like my cumulative P&L chart!). 

I had a late start today, so I took a little longer than usual to get caught up.  And up until about 3:00 PM, I was only down slightly for the day, which was OK since I thought today was one of the more difficult days to trade.  Even though I had identified the trend to be up, for some reason, it didn't help much.

As shown in the trend chart example earlier, after 3:00 PM, there were multiple signs that the trend had changed, including the break key trendlines, vwap, support levels, in addition to a 1-2-3 top formation.  And when I began taking multiple stop losses in a row trying to scalp +2s as the volatility increased with the market drop late in the afternoon, I became impatient and started looking to get back and recover my losses, trying to BUY in order to prove to the markets that I was right (red flags are waving here).  The 33% accuracy rate clearly indicates that my trade selection was poor. 

Key Takeaways
If the volatility of the markets become unusually high and various support and resistance levels are being broken like hot knife through butter, then take extra steps to identify the trend and to WAIT PATIENTLY for a high probability setup in the direction of the trend.

Or better yet...

Also realize when markets are volatile, I DO NOT have to trade.  It feels like 22 trades is a bit too much for a (shorter than usual for me) day like today.  I need to keep a clear mind, and reenter only if the odds are strongly in my favor.  Otherwise, wait until the markets return to normal conditions where I know I have an edge.

Next time, I'll be much better prepared.

Making SIM Results More Real - An Experiment

On one track...
I have the plans to help me achieve the state of peak performance.  That's going to take me a lot of time to reprogram my brain, but based on a great comment from Flowtastical, it can be really as simple as: 

Study your best trades and execute them better.  That is peak performance.

On the other track...
I'm still trying to "make it my own" trading the ES with the DS system.  And since I'm back to trading on SIM (simulation account) to really nail down what my style should be, one thing that has been bothering me is the lack of confidence I have with fills on SIM with limit orders.

SIM fantasy fills - to good to be true
When you use limit orders to enter and exit a position, you usually get a fill even if it doesn't trade through your price -- I call those "SIM fantasy fills."  So today, I began a day of experimentation trading the DS system with more of an aggressive scalping style (12 to 30+ trades a day) so that I could generate as many trades to evaluate.

The goal - make SIM results more realistic
Since I was a bit taken aback by the differences between SIM results vs. live trading in my last foray, I wanted to able to find a way to trade my SIM account so that it would better match real life results.  Next time, I don't want to be so surprised about my live P&L differences vs. SIM.

Adjustments made when trading SIM
For my experiment, my profit target was set to +2.00 and stop loss was -2.00.  However, as I started to complain about how the SIM fantasy fills were too easy and not like reality, CLETrader (the resident expert in the DS room on scalping strategy) recommended some of the following revisions to my bracket order on SIM:

• Move my profit target limit order to +2.25 (and including the bullet below = +2.50)
• Place my limit entry at a 0.25 favorable (more difficult to fill) level
• Stop loss would remain at the original price
• A $5 commission added per round trip

The adjustments accomplished a few tasks

• The original entry limit order would have been filled in real life
  
• However, every order, regardless of outcome, will have overstated profit by a tick.  This needed to be adjusted in the final results.
• The original profit limit order would have been filled in real life
• However, the trades the hit the profit target order will have overstated profit by a tick.  This needed to be adjusted in the final results.

The downside - manual calculation work necessary
The only difficult part of this task is the additional overhead necessary to calculate and apply the adjustment for every individual trade manually or semi-manually via Excel to generate the revised results.  But to me, this is a task worth doing in order to give better confidence whether the trades would have filled (or not) in real life.

An error in my experiment
In hindsight, I applied the incorrect values to my bracket orders today, and didn't modify my profit target limit order by another tick.  In some cases, this did make a difference on whether I got the fill or not.

Experimentation results
Please note that I was NOT trading a specific strategy consistently throughout the day (although it was more scalping related), and in addition, note the error explained just above which also impacts the results.  So this "experiment" has a lot of holes, and the actual P&L is somewhat meaningless.

Cumulative P&L

However, focus on the gap between the raw SIM results (red dashed line) vs. the adjusted live results (blue line).  A quick glance helps to explains one of the reasons why some users (mostly active daytraders who primarily use limit orders) of SIM are shocked by their results when they start trading live.  As the day progressed, the chart illustrates how small adjustments began to compound the difference between Adjusted Live and SIM results significantly.

I had 36 trades (I'm really tired now!) with a not that great 51.6% accuracy, which goes to show how I wasn't on track with the DS system which usually gets 70-80% accuracy.  Average gain was $96 and average loss was $87 (both raw SIM output), so we're talking about some tight margins on this particular day. 

One more interesting highlights is how the raw SIM data ended the day showing a gross profit, whereas the adjusted data showed a significant net loss.  With a relatively large volume of trades, the commissions and adjustments quickly overcame any gross profits.

The takeaway
When trading (especially active traders) via SIM utilizing primarily limit order entries/exits with an even risk/reward ratio, it is very useful to make adjustments to your final SIM results to avoid a false sense of confidence and success.

The method discussed here of adjusting the entry orders, in addition to penalizing the results of the trades, is likely to error against the trader's P&L greater than reality.  However, if reality ends up being a little easier because of this approach to trading on SIM, I consider that a successful outcome.

EURCHF - swing trade example

A big challenge for me while in a trade is knowing when to hold 'em, and when to fold 'em.  Sure, if you have your set targets and stops in place, it should be easy, right?  But how often have you tightened up your stop, just to lock in a little profit or reduce your risk exposure...only to have it hit your stop the penny, and then resume going back in the right direction?

Swing trading as an exercise to let go
So one of the "exercises" I'm working on is to learn how to let a trade ride, until it tells me to get out.  Let the trade shake, rattle, and roll all it wants, that is, until a key level breaks, a reversal pattern shows up, or it hits my stop and/or profit target.  For me, swing trading helps me to let go of the second by second "details" that's required in day trading.

Why forex?
Back in the early '90s, I spent a little time trading the Swiss Franc futures when they were quite active on the CME, so I have an affinity for the Franc.  I've barely kept an eye on the Forex charts on and off for a few years, but it's only recently that I've had the time to revisit the currencies.  But more importantly, by trading the forex, I'm separating those trades from my equity trades, so there's greater mental segregation.

Some general observations on forex vs. stocks

• In general, Fib levels and trend lines still work well (just the way they always have)
• The 15 min charts are a good compromise to filter out noise
• Some elements of the Trader-X methods work (Fibs & candlesticks), but I've had to make some adjustments
• Unlike stocks, there's one indicator I use which is the fast stochastics (8, 3, 3).
• You can trade very big size

The trade
The EURCHF came up on the daily charts as having broken some critical trendlines.  I was stopped out of a couple earlier trade earlier with small losses, but this one more than made up for it.  Here's what the daily charts looks like:

 Entered on 8/4/11 based on the following conditions:

• On daily chart, there was a breakdown below the lower trendline (see chart above)
• On 15 min chart, descending trendline acted as resistance, price failed at this level
• 5ema crossed below 100ma
• Stochastics hooked over
• Red candle formed
• Stop was above the high of the trigger bar

EURCHF - 15m - at time of entry on 8/4/2011

Exited on 8/11/11 based on the following conditions

• Prior day high was broken
• Descending trendline of highs over past 4 days was broken
• The .618 retracement of the last swing on 60 min chart was broken
• 5ema crossed over the 100ema on 15 min chart earlier in the day (potential trend reversal)
• Multiple high swing highs and lows were in place

EURCHF- 60 min 8/11/2011 partial day

EURCHF - 15 min 8/11/2011 partial day

What I could have done better

• When it hit near parity 1.00 (panic low) on 8/9, I should have considered scaling out partial
• My stop should have been closer to the point of breakout (I wanted to give it a lot of room, perhaps it was too much)
• Even better, my gut was telling me an hour before getting stopped out that a reversal is taking place, and that I should be long. But I didn't want to do a stop and reverse for the purposes of this exercise.

Summary
Each mini-contract required a little less than $300, and at the peak, I was up over $1300 per contract, and I eventually closed out a little less than half of that.  A reminder to me that there is HUGE leverage in forex, and you really need to focus on risk.

It's interesting to go through an exercise such as this, since it's different in many ways from the usual day trade, and obviously quite different when compared to long term investments.  I am at the stage of trying to experience various types of trading styles and conditions in order to grow as a trader, so from that perspective, mission accomplished.  I've also realized that if necessary, I can be disciplined to hold a position over various bumpy rides for a week. 

But from this exercise, I realize that there's still A LOT more I need to learn about myself before I can become a consistently profitable trader.

Example: $VALE - consolidation and break below whole number

$VALE had an interesting setup this morning.  Love these setups where the price gaps down, has a sharp move down, and then consolidates and goes sideways into a tight channel, just above a whole number.

In this particular example, the 5ema and vwap were also declining sharply to join the party. A break of the 6th red bar was the setup bar with a stop above $31.13.

VALE - 5min

Since everyone is looking for the break of the whole number just before shorting or exiting their long positions, getting in just prior to the break is usually preferred, although there's additional risk that it will never break.

As expected, there was a fade on the breakdown, likely from those buy the new low algos, but it didn't work very well for them this time.  And once they realized $31 became resistance, perhaps their exits also helped the stock move down even faster.

VALE - 5min partial day

Currently (10:35 AM ET), there has been a pretty nice move, and I would have likely exited 1/2 the trade at the $30.50 level.  Time will tell whether this ends up being a runner.