website header 2

website header 2

Monday, February 20, 2017


“Rules? … I got no rules … I don’t need your stinkin’ rules!”

It doesn’t matter what market you trade on the MT4, there is only ONE RULE; “there ain’t no friggin’ rules”! Get into an argument or disagreement over a price fill on a stop and/or a price fill on a limit order with the LP bank, and you’ll soon realize all of us have no leverage on the process whatsoever, and that whatever happened is going to stay “happened” whether you like it or not.

All we ever have in trading are the shifting sands of probability theory and its sister Statistics, whose job it is, is to inform us of probabilistic outcomes via a market’s history. And herein lies the rub; no matter how much data history I have, no matter how deep in scope and size the market is, no matter the decades of past performance, and no matter what anybody thinks or says, no trading model / algorithm / or system can ever tell me with P=1 [certainty] where the next price is going; what it properly tells me is that my probability algorithm works not by validating a profit premise [profit likely from a trade], but by embracing scenarios where the outcome is unlikely [loss likely from a trade]!

When rare events occur in any market, how do we measure their significance and talk about the impact? Easy peezee; the “Quant” guys show up and start talking about “sigma” events. [Sigma being the number of standard deviations (SDEV) from a predetermined mean, usually the close in prices each day from previous days, but not always; it can be over any time frame.]

Directly below is a “normalized” bell curve, with the attendant probabilities defined by the distance from the mean every data point in the observable set is, as measured by SDEV.

[click to enlarge]

As you can see, the probability that any observable data is within 3σ [3 sigma, or 3 SDEV] of the mean is 99.7%.

Let’s “flip” this around some and look at how rare “sigmas” away from the mean actually are; directly below the frequency of ½ sigma to 7 sigma events.

So, to be clear, I could take any amount of data [from USDJPY, gold, or the SP500] from any time periods [Month, day, week, M4, etc.], and then take that data and find approximate means of prices of the observable set in my study, and I could then determine how likely a price move would be forthcoming in the future … right? No, you’re wrong!

The correct way to interpret a 7σ move [given the info above in the table] is to say, “Well now hang on a sec here Skippy … a 7σ event happens once every billion years [or if you’re studying HR1 data or M30 data, once every billion of those]… and I happen to be here in my puny life span to witness it? … I happen to be trading a market that has a history of a few decades, and now you’re trying to tell me this happens once a billion years? … it doesn’t matter what the probability was, what matters is I think your model is faulty and you need to go back to the drawing board”!

In 1987, I stood right in the heart of the SP500 futures pit and witnessed history “up close & personal” with the great crash of ’87; and when it unfolded the way it did, my saving grace was realizing very quickly everybody had entered the “twilight zone”. Take everything your algorithm & models are saying and toss it out the window, cuz you are sailing in “uncharted waters”. So instead of standing there thinking [like so many did], “gosh, the chance of this happening is near zero, so I guess I should buy more”, my reaction was instantaneously realizing we were past anything remotely “normal” and that everything I used to make money was immediately USELESS! In other words, the algorithm crashed! [Just for the record: the 1987 crash in the SP500 futures was an amazing 36 σ event!]

So, the algorithm is not designed to predict where a market is headed; if I did that, no matter what info it spitted out with their attendant probabilities, it doesn’t tell me anything about my risk, all the while every time it doesn’t work eroding the hypothesis [premise] upon which it was built. If it lost 4 trades in a row [or more], how confident are you on the next trade to pile money into it? And after this happens, where can you say with “supreme” confidence it’s gonna work, and how confident are you of that probability it’s going in your profit direction 10+ PIPS?

The algorithm is designed upon the hypothesis of telling me where it isn’t going to go; for example, when I get a buy signal, it’s telling me at that instant with all the market historical information at hand, when the M1 turns green, price isn’t going to go down UNTIL I AM IN A PROFIT POSITION. At that point it can do anything; it can chop, go up more, and go down. Point is, I now have what everybody wants and desires; namely, a position I’m up money in and can then decide what to do with any PROFITS. Sure, there are times when you get in and treat the trade as a scalp and 2 milliseconds after you get out it rockets in your profit direction and you sit there and wonder what group of market Gods in the nth dimension are LOL; welcome to the human race.

It’s a subtle but very important mathematical point; I can actually test my algorithm hypothesis because it is easily measured to see on every trade 2 criteria; 1) how much IN FACT did market price go against the position, and 2) did it put me in a profit position to benefit? With every trade, I can actually get answers to these 2 questions.

As I have argued repeatedly over the years, had it beaten into my head and tattooed on the inside of my eyelids by my mentor Bert all those years ago, “choose the form of your destruction … and then go beat the hell out of it”! You don’t sit there and ask the trading Gods, “Umm yea, gimme something that works and makes me a lot of money so I don’t have to be in the Pudding Business … you know, something easy and stress free”.

As Spock once said on the original hit Sci-Fi TV series ‘Star Trek’, “The universe is a cruel place”; so is trading. When you attempt to go from “wish” straight through to the manifestation of the wish, you end up like the kid directly below.

“Be careful of what you LITERALLY WISH FOR, cuz you could get it!

And so, since we live 100% of our trading lives inside probability wave functions, it is not wise to ask for things the trading Gods [Genies if you will] cannot, and never will deliver. Instead, ask “what isn’t going to happen”? Because when you’re in the deep end of the pool with all the other trading professionals, “profit goal” isn’t going to help you cuz everybody in the pool has this; “what do you bring to the pool party that is different”? Tell me what isn’t going to happen, cuz through mathematical “induction” [not deduction which most are familiar] the algorithm works not so much by confirming a hypothesis considered to be “likely” [profits from a trade], but by adopting a hypothesis considered unlikely [losses from a trade].

Now, you make a career of trading, you tend to see just about everything there is to see; and to be sure our 3 trading markets [USDJPY, gold, & SP500] have had their collective moments of complete insanity. So, having said this, are you going to “model” USDJPY to take into account the market today going from 113 to 86, or 113 to 140? I’m thinkin’ probably not. My point is this; at some market breaking moment, you got to wake up and smell the coffee and realize that “normal” [normalized bell curve probability expectations] market behavior is not in operational mode and simply back away and leave it alone until it returns to “normal” conditions. This reason alone is why the signal algorithm has no risk model greater than RM=4; cuz past RM=4 you’ve entered the tail end of the bell curve where there are no “normal” rules of behavior about price, that have the slightest confidence interval you can make trading decisions and expect to make money.

The great scenario that plays out in trading and that always is of enormous benefit to you is that “opportunity” is infinite; profit incentive is always there when the market is open and trading, and if you miss any it will always be there again tomorrow. This is why I tell people who want to be traders never to worry about missing a move; “it’s gonna be there SHORTLY”!

Today the market’s are closed in the U.S. for President’s Day, and as such is usually the case for Monday Holidays, traders the world over are making it a 4 day weekend; both USDJPY & gold, as expected, haven’t even made it out of their respective algorithm trade rule of HVALUES greater than 40 PIPS & $5 per Oz., respectively. Even if this were a regular trading day, with no Holiday, there wouldn’t be any trades anyway; remember, in both markets, the profit ratio [PR] [PR = HVALUE / LVALUE] plunges into the “1’s” when those respective levels are not met, thereby telling you profit opportunities are very restricted. When those respective HVALUES are met, both markets exhibit ratios over “4+”; and those are the days we want to be in the market.

Tomorrow’s trading day starts the PAMM/MAM, and as a result of this there will be 2 new downloads available weekly [updated on the weekend for the prior week and current starting the week on the Monday open]; 1) PAMM/MAM spreadsheet, and 2) Chart archives with all trades sequentially laid out; in other words, you can see what I did and when I did it. These 2 new features will start next weekend over in the “Download Links” [right hand column] and anybody can view online in the cloud and/or download.

In addition, on the daily blog I’ll post the spreadsheet with all the pertinent details of trading for the day; it will look something like this [directly below].

Here at mid day [Island Paradise Time], I’m ready for some “R & R” at the beach … Fido already has 2 paws out the door and is deliriously happy ["a little bacon & some beach and he’s as easy as it gets isn’t he”?] … in general, the Caribbean is my “heaven on earth” … stress free and the absolute best climate anybody could ever want with avg. temps in the low 80’s every day in Nov. thru April, and about + 3° warmer May thru Oct. and moderate rain usually in the very early morning or near sunset in the rainy season [Aug., Sept., Oct.] … I wouldn’t live anyplace else … I’m so outta here … until tomorrow mi amigos!

Have a great day everybody!




No comments:

Post a Comment