Crawling before walking again

As the family schedule stabilizes somewhat until it gets disrupted even more later this month, I'm reflecting back on my limited time for trading and realized that I've had some interesting progress.  I last wrote about taking a new direction to evaluate and create various trading strategies using TradeStation, and the ability to get nearly instant feedback via backtesting has been very enlightening.

Here are a few areas I've researched in the past few weeks:

• Probability of breaking overnight levels - FT71 has frequently stated that either the overnight/Globex high or low levels in the ES will be broken over 90% of the time.  Although I've heard the 96% figure, I wrote a test that indicated the probability to be around 92%, based on 6 months of tick data.  Close enough to give me confidence that this particular event of touching one or the other overnight level is nearly a sure thing.
  
• Electronic Local's trading methodology - I've attempted to recreate some of his trading systems he discusses on his blog, and along the way, my work took me on a tangent that resulted in some automated systems with good potential with both the ES as well as the AUDUSD and EURUSD forex pairs.  Another setup he discusses is very similar to a Diamond Setup pattern I really like, as well as how to trade the gap open fill.
  
• Gap opens - In addition to EL's blog, Trader-X's blog is where I really learned to appreciate gap open setups.  I've created a system to determine the probability of a gap fill based on the number of points the RTH ES opens from the prior day. Certain gap open setups, after backtesting over 10 years if data, have resulted in a surprisingly consistent and profitable outcomes.  I've also discovered a great website http://www.thegapguy.com that covers gap fill strategies and statistics.  One interesting takeaway from that website I'll investigate further is incorporating the location of the gap open in relation to the prior day to determine even more refined probabilities.
  

So where does this all take me?

I'm very likely headed down the path of becoming more automated with my trading.  I've always believed that a great discretionary trader can make much more than an automated trading system, and Electronic Local has also written about that topic.  Note the emphasis on great trader, which is far from common or ordinary.  I'm pretty certain a great discretionary trader can make more in a few days (or even a day) than a solid algo can do on average over a month.

As a discretionary trader, it's quite obvious I'm not there yet

I'm the first to admit that my execution skills and inability to get beyond revenge and rogue trades has cost me plenty, so I'm still working on those challenges.  Therefore, having some algos auto trading in the background, chipping away at generating some consistent profits might be a new direction as I continue to develop as a trader.  The level of progress I make executing with patience and discipline as a discretionary trader, will determine how much focus systems trading will become.

Systems results -- theory vs. reality

In the meantime, I'm currently tracking a few different automated algos and trying to determine the real life potential.  What I have found is that what looks good in backtesting, will not do quite as well in SIM -- which means that when traded live, performance will suffer a bit more.  I'm utilizing limit orders for profit and entry orders.  But the stop market orders are always a bit of a wildcard, especially if the trading system is turned on overnight during certain hours when the markets are thinly traded.

Crawling but making progress

So although I feel like I'm back to crawling these days, I'm still learning a lot through the process of researching, developing, and testing automated trading systems.  There is good spillover effects for my discretionary trading.  The work has helped me to gain even more confidence with certain trading setups, as well as putting to rest certain setups that just don't do as well as I had thought.  Now if they could simply make a pill that makes me avoid revenge and rogue trades...

It's also good to see how everything is building up on all the great knowledge I have gained from Trader-X, SMB Training, Diamond Setups, and others who have heavily influenced my trading.  I'm slowly moving ahead, becoming more comfortable with the slower pace, and will continue to work on creating and refining a trading system and process that fits my personality and style.  But I do admit, there's still an element of chasing success...

Hopefully, I'll be back to walking and perhaps running again in the next month or two, at least once summer is over.  Until then, I'll keep chipping away.

Inspired to better understand the probabilities

I've utilized my limited time recently by going back and re-exploring mechanical trading programming from well over a decade ago.  For the longest time, I have passed by this area of trading with the not-so-accurate attitude of "been there, done that, not interested."

Automated systematic trading is a broad, complicated and complex field that I will never be able to fully grasp, especially on the institutional side.  Now days, this field of trading has fancier names -- such as algorithmic, algo, black-box, robot, HFT, and so on. 

For the individual retail trader, I'm still confident that a very good discretionary trader will be able to consistently outperform a solid mechanical trading system.  This is one of the primary reasons why I've always wanted to become a good discretionary trader and moved away from mechanical systems development.

Then why am I re-exploring developing mechanical systems?

I have been recently inspired by Electronic Local's blog, which is authored by a former pit trader on the LIFFE exchange who made the transition to become an upstairs trader.  I spent the past week going through his entire blog, and can report back that he has been very generous explaining his trading system.  I especially appreciate his "how to learn to trade" process.  Although he now sells training courses, just the free content on his blog is a gold mine for those who want to learn how to day trade the ES, forex, DAX, and other liquid trading products. 

The initial purpose of EL's blog was to document his journey of training his daughter how to become a consistently profitable (CP) trader.  It just happened to be that his daughter was from the IT field, so it wasn't long before she started to utilize technology to help her take what her father taught her and codify it as much as she could into a mechanical trading system.

Interesting use of trading systems

Soon, EL realized that by incorporating the basic overview of his trading methodology into a mechanical trading system had some compelling advantages.  He realized that there isn't a way to distill and program all of his discretionary trading knowledge into a mechanical system.  However, he could setup a "hybrid" methodology where the mechanical system can effortlessly monitor several markets, and alert him or even automatically enter a trade.

Once a position is established in the market, he can quickly scratch the trade if the picture didn't feel right.  He also discovered that he can manage/scale out of the trade much more effectively vs. a static set of mechanical  rules.  One reason is that there just hasn't been a way yet to code his ability determine market "context" from his years of trading experience.  Therefore, the hybrid trading method will enable him to cover and trade more markets, with less work.

EL has stressed many times in his blog, your experience and ability to determine market context is critical if you want to go beyond the performance of a typical mechanical system and approach that of a good discretionary trader.  For example, using the most appropriate algo for the current market conditions is key.  So if you pick a trend following algo on a low volume chop day -- well, I think we know what the outcome will be.

I like the hybrid approach, which seems to take the strengths from both technology and humans to leverage the best of both worlds.  Another approach would be the totally automated approach to utilize several different styles of algos covering various markets, which would be similar to having having your own group of prop traders (or multi-portfolio managers), each with differing strengths and weaknesses.  Ideally, this would smooth out the profit equity curve over time.

Dusting off my programming hat to better understand probabilities

I've spent over the past week dusting off my EasyLanguage programming hat, and have realized that my learning curve has gotten quite steep again.  I actually like this new challenge.  In a short period of time, I've been able to reproduce some of his basic systems in TradeStation and have also been discovering some very interesting observations. 

Another advantage of this return back to programming has been my ability to test out various setups and patterns used in my discretionary trading.  There have been a few examples of setups based on indicators or price patterns that I thought would be profitable over time, but my recent tests have shown them to be lackluster. 

By recently learning those trading setup probabilities, I'm sure I have saved myself countless $'s in losses over the long term.  It's an interesting direction I'm headed -- coming up with various trading concepts, theories, and hunches, testing them, and then determining whether it would work in a mechanical and/or a discretionary trading system.  Being able to code, test and understand my trading setup probabilities has given me a greater sense of confidence.

Where to from here?

It's interesting how EL's "inside out" setups (pullback in the direction of the trend), as well as the "outside in" setups (catching tops/bottoms) leverage and builds nicely upon what I have learned over the past year.  I've only scratched the surface so far with my exploration of systems development, but I believe this will be quite an interesting path on my way to becoming a better and consistently profitable trader. 

Although my summer non-trading schedule is getting even crazier, I hope to report some interesting updates soon...