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>You have to be right about this.
[snip]
>The greater the time frame, the greater the price scale, the greater the
>average true range of each bar, and thus the greater the risk (and reward)
>of each trading opportunity. So, as Kase also says in seminars, the smaller
>the bucket of speculating capital you have, the shorter the time frame you
>should trade.
But there are other factors to consider too.
If you trade shorter time frames, you trade much more frequently and have
much smaller objectives for your average profits. So commissions and
slippage play a much greater role in your ultimate success or failure.
Plus you are going to killed by the sheer mathematics of ruin. No matter
what your trading system, it's unlikely you'll do much better than 55% or
65% winners trading a short time frame. You'll be making hundreds--maybe
THOUSANDS--of trades per year. How long will you last when you hit the
near-inevitable run of 10 or 20 losing trades in a row? And if you have
limited capital but devote yourself fulltime to trading that capital, how
will you live off the profits that might be yours if you invested so
conservatively that you could survive a run of 20 losing trades?
Conversely, are you still going to be limiting your risk to 2%-4% of your
capital after you hit a string of 20 WINNING trades in a row?
When you hit the run of 20 winning trades, you feel like King Kong. Even if
you are "conservative" and risk only 20%-30% of your profits after that
point, your risk of ruin increases substantially.
It's that mathematics of ruin that account for so many busted traders--not
anything inherently wrong in their methods.
The book that influenced me most was Chester W. Keltner's book on trading,
out of print for years. Keltner wrote about old-time trading systems that
he had to examine for the old trading contests that were run by some
publications back in the 20's. He gave three rules for a good technical
trading system. (I'll rephrase from memory--someone borrowed my copy of
the book a decade ago and I haven't seen it since. <g>)
1) The system must be profitable on back testing. (Sure--why use a system
that FAILS on back testing? You need a really good reason to think the
nature of the market has changed. It might have changed so systems that
don't work in the past will work today--but that's not the way to bet.)
2) The system must be based on sound principle. (There has to be some IDEA
behind the system that makes sense--not just a computer spitting out
results and finding something that worked...some idea that is based on
human psychology or market factors or SOMETHING that makes sense to you.)
3) The system must not be overly optimized. (We know that--it's easy enough
to curve fit. You need a robust system that remains profitable over a range
of the values for the variables you use.)
To that I'd add a few of my own:
4) The system must fit your personality and life-style. I couldn't trade a
system that required me to look at the market fulltime but trade once a
month. That would bore me to death, even if I KNEW that would be a more
profitable approach than the one I use. I wouldn't follow it. A system is
no good FOR YOU unless you are able to apply it in your own trading.
5) The system must be based on market volatility, not raw price moves. (I
had methods in the early '70s that gave me consistent profits in Soybeans,
designed to capture 3.5 cents on each move, which generally developed in a
five day period then. Sound ridiculous? Obviously the methods collapsed in
the late seventies when the market would have ranges of fifty cents or a
dollar or more daily and my 1.75 cent stop would be executed in a minute
after my trade was taken. Yet the same sort of logic is being used in some
of the systems I see mentioned here, with absolute dollar amounts of risk
established or absolute points used for stops. Let the market tell you how
much risk you should take and where the stops should be put; in your back
testing, use volatility to determine those numbers, not raw price levels,
or dollar values or margin considerations.)
6) The system must be based on the market, not your position in the market.
Your system shouldn't give a sell single for stop considerations based on
your entry point if it would give you a buy signal if you were not in the
market at all at the same time. Your position should be irrelevant to your
actions. If you have to ignore signals or do the opposite because of margin
considerations, you're undercapitalized. You shouldn't be selling if your
own methods tell you to buy. Your system, of course, has to deal with such
situations and anticipate them.
Jeff Needleman <needje@xxxxxxxxxx>
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