Thursday, February 12, 2009

A revolution in my methodology

Over the past couple of weeks i've been secretly festering a growing fear in my mind. The fear that my edge was not as robust as it should be. Looking back over my results the real profitable trades in my arsenal were NOT the core of my method. Those trades that were profitable took low risk, high reward setups that may not always get you to that target profit, but when they did they paid bank. And when they didn't they lost me less than two points on most occasions. In contrast, my "Big Three" setups I currently use were getting into trades using large stops and take profits that even with the best case scenario yielded less than 1 risk : 1 reward. I couldn't shake the feeling that I was vulnerable and exposed trading like this. And I think this week pierced the crack in the armor.

The funny thing is i've been following an indicator that I use daily for years now and i've damn near mastered interpreting it. I use it to confirm ALL of my setups currently but I also have watched it enough to know with a good probability when the shift in a swing takes place. I simply have been getting in near the top of these swings. However, that causes a couple problems. First, it requires my stop to be wider, and second the chances of rejection at a double top/bottom is much more dangerous to me because I have full exposed risk when the rejection occurs rather than being safely at par if I were to enter sooner on the swing. The bad? Sometimes your going to get stopped out jumping in before the top or bottom is actually established. However, I really can hit a very good win rate with this. More than that i'm able to hit similar (if not better) overall win rates with LESS RISK and MORE PROFIT than my current entry and management method. In fact I developed this idea about a year ago and traded it with mild success in forex for about six months. But that system had a flaw.

At the time I was trading it the method didn't have two key things. 1: A way to get to par and a way to get out of the trade at a target. 2: I used a proprietary S/R ATR stop indicator (Invivo Stops) to give me a market bias, rather than following market structure. But now that I follow price patterns first and foremost and I can perfectly cross apply the entry trigger, stop management, and take profits from my double top/double bottom and "You're Screwed" setups the difference is night and day.

For those of you who are going to caution me against switching things up here and changing my method I want to make a few things clear. These basic setups are exactly the same as my old setups and I look for the exact same patterns, indicator confirmation, and price behavior. I am simply trying to enter the market to take a different chunk of the swing, and a chunk that statistically has significantly less risk, higher win rate, and thus profitability!

So first let me explain how I currently have been entering two of my trades. I'm going to be using an example from 2006 when the market was crap just to prove that this idea and methodology is robust enough to work throughout all market conditions.

Here is a swing that I would trade and how I would enter the market and manage the position.

And here is how I would take the exact same setup and enter it using the new entry and management.

Same swing, vastly different results. And in the long run of trading day to day the lower risk and the higher rewards are whats is going to keep an upward sloping equity curve.

The other thing that's very important is that currently my entry window is very small. Price has to usually get within one or two ticks to get a valid signal and can't exceed usually one or two ticks without me already in. Price has to close at the EXACT price i'm looking for to get in. With the new entry method I can get in at whatever price so long as the swing hasn't already overextended itself so I can get in many more valid setups that I normally would be able to.

Here's price action from today and 110% every valid entry and exit down to the tick with no interpretation, fudging of the results, etc.

The results thus far would go like this:
  • 6 Trades, 5 Winners
  • 83% Win Rate
  • Largest Loss: -75.00
  • Largest Win: +175.00
  • Net Profit: +512.50 (Is this a sign? The exact amount I lost the other day? lol!)

While I hate changing things up more than most I feel that this is a valid and necessary change if I ever want to accomplish the goals set forth in this blog. I hate the feeling of changing a system, especially one that works (albeit not great) but feel compelled to do so. I can rationalize it simply because its not a "new" system. Its the same one i've been trading, but i'm just choosing to take a different entry on the same signals and manage them differently.

I've done the backtesting as well. The same stuff holds true on ANY timeframe, in ANY market. And i'll be honest, the results from everything i've seen with the revised entries are much much more profitable and much much more consistent that my current entries.

I'll start trading it live tomorrow. I can't wait.

1 comment:

Michael said...

There's nothing wrong with making changes to your system as long as they would have made a positive difference on your past trades and work in the current environment too. It's good that you figured this out now versus later in the year.

I'm looking forward to seeing how it works for you!