“An endlessly repeating fractal; just
like any market.”
Up until recently, and I mean recently the last 2
years of trading [roughly from the EURCHF debacle in January 2015 to the
present], my algorithm model worked almost perfectly in markets that modeled
“normal” market behavior. “Normal” defined as market price action that spanned
the range from slightly less than average intraday volatility to bat excrement
crazy; whether it was gold and/or USDJPY [or even EURJPY, GBPUSD, EURGBP, &
SP500; I include these last 4 because we now have an “exchange floor” net
trading cost structure that supports trading these markets.], the algorithm did
an excellent job of modeling market behavior. There’s only one problem.
That problem is that the algorithm
models a specific set of the trading universe of conditions, and doesn’t model
correctly or accurately the entire population of market conditions that can and
will show up in trading; it is therefore “static” when it needs to be “dynamic”,
not just in parts, but in its entire structure so that we can capture market
moves under ANY CONDITIONS. So, the obvious question becomes, how do I do that?
What we have witnessed in trading these last 2 years
is nothing short of an evolution in trading, where as I have commented numerous
times on this blog post, an evolution from what used to be “normal” to what is
now today and most likely well into the future will be considered “normal”; and
that “normal” is speed of light trading [SLT]
followed by … crickets; rinse, repeat all day every day. SLT is not
generated by a bunch of “Ma & Pa’s” sitting out in Des Moines, Iowa
all of a sudden deciding it’s time to buy 1,000 Oz. of XAUUSD from a London
bullion dealer; it’s of course, computer driven HFT’s [High Frequency Trading]
that hit the market and drive prices quickly and sometimes violently. The M.O. [modus operandi] isn’t to allow anybody on the proverbial train as
it’s leaving the station, and thus you can expect no pull backs in price to
allow your trading method [no matter what it is] to participate until it’s over
and everybody on the wrong side of the market is holding the bag; you’re either
on the train or not, and so the question arises, “what is it that HFT’s see [via their computer code] that makes them
buy/sell with abandon that can assure them [with a very high probability]
profits from their activities; and more importantly, how can we spot it first
before the algo’s kick in and position ourselves correctly to take advantage of
the algo’s?
So, these are the two $64,000 questions that need to
be addressed and solved; 1) making my volatility algorithm more dynamic in
scope and not just a “special case” of a market condition, and 2) understanding
what it is that the vast majority of the HFT algo’s “look for” in their
millions of lines of computer code and front running the front runners!
Everybody here knows that Gann’s ‘Square of Nine’ is
useful when measuring what he called the
“squaring of price & time”; on it’s simplest level, it can measure
price and time in a linear fashion and does a fabulous job of showing anybody
the cycle at play from a move that unfolded in
the past; the problem is that it has no predictive value since you have no idea
on the ‘Square of Nine’ where any move will originate or go towards. It shows
you a “cycle” occurred and that “cycles” are ever present in the marketplace
for each and every market. Any move can just as easily take you out a level
or go in a level in terms of either price or time, and any attempt to
extrapolate the last move with the next one isn’t going to be accurate.
However, what I see on the ‘Square of Nine’
isn’t just a bunch of seemingly random numbers; the beautiful thing about
mathematics is its abstract nature to be
able to project ideas and thoughts into a coherent message, that through other
branches of mathematics have meaning and significance far beyond what is
possible at the moment. For example, long before computers were even a
dream, George Boole invented and created “Boolean Algebra” in the 19th
century; it’s the basis and logic of computer circuits and allows your computer
to operate the way it does and produce the results you want from software.
Similarly, Thomas Bayes is generally credited with creating conditional
probability and statistics, long before anybody had any idea what a “standard
deviation” [SDEV] was or why it had any significance to anything of value in
the real world.
My point is this; I can use the ‘Square of Nine’ for
standard deviations [SDEV] and make my algorithm even more powerful because it
will cover and map all market moves, not just the ones that go to the present
RM=1 exhaustion lines. In other words, I cover all exhaustion events, not just
special ones.
From the candlestick chart on gold, I take the
“envelope” from the indicators list and make it the following:
[click to enlarge all pics, charts, & tables]
Note that 1) the time “period” is 7 minutes, 2) the
“MA Method” is simple, 3) “apply to” (median price[HL/2]), and 4) “deviation”
is 0.17%. All of these settings are set to calculate a 3 SDEV move from the
mean [7] of M1’s to generate a “normal” probability distribution where 99.7% of
all 7 minute periods [reflected in the current real time price] are above the
lower threshold [yellow] and below the upper threshold [plum].
If I take this envelope and place it on the gold
chart, and make the present algorithm lines “dashed” [aqua & red = RM=1],
the chart below shows what happened on February 21, 2017 as price rocketed up
to the upper exhaustion line RM=1.
For calculating the SDEV settings “Envelope” in gold
[XAUUSD], I used the time periods from 12:00 – 20:00 Turnkey server time, and
looked at 6,720 M1’s of 7 minute duration to insure greater than 99.999%
probability that the sample size is representative of the entire population of
millions of data sets of 7 M1’s. During this time, 41 times market price either
went above the plum line [sell] or below the yellow line [buy]; that means that
99.53% of all 7 M1 periods will be between the plum & yellow lines, and
that the lines accurately measure [as well as MT4 can measure them given the
math limitations] prices within ± 3 SDEV from the mean 7 M1 price.
Here is the envelope for USDJPY directly below.
For calculating the SDEV settings “Envelope” in USDJPY,
I used the entire trading day from 0:00 – 23:59 Turnkey server time, and looked
at 20,160 M1’s of 7 minute duration to insure greater than 99.999% probability
that the sample size is representative of the entire population of millions of
data sets of 7 M1’s. During this time, 98 times market price either went above
the plum line [sell] or below the yellow line [buy]; that means that 99.52% of
all 7 M1 periods will be between the plum & yellow lines, and that the
lines accurately measure [as well as MT4 can measure them given the math
limitations] prices within ± 3 SDEV from the mean 7 M1 price.
For brevity, I will omit the USDJPY chart, as well as
the other 4 pairs I mentioned above when I started. Sometime during this week,
I’ll have the envelopes of standard deviations for these other markets if you
wish to trade them.
Looking at the gold chart from above, one thing should
stand out to you; that is, when the market starts going rapidly up/down, the
SDEV lines [yellow & plum] very quickly approach the RM=1 exhaustion values
from the volatility algorithm model. This
proves my point that the volatility algorithm in its current form is a “special
situation” of a more general volatility model based on SDEV that is more
accurate in its scope of market conditions; the former is a “one off”, the
latter can handle all conditions!
Ok, now that I got that settled, time to tackle the
HFT’s and what their computer code “looks for”. I know with absolute certainty,
the “Quants” [PH.D. math & computer scientists that collaborate and fill up
entire secret floors in non-descript suburban buildings and that are kept top
secret who run, maintain, and execute the algo’s] are banking on 3 critical
criteria; 1) stochastic momentum, 2) extremely high pattern recognition, and 3)
trapping as many traders as possible and setting off stops so they can exit
longs near the top and shorts near the bottom. In other words, outside of
certain momentum methods that need time incorporated into them, price is the
criteria NOT time.
Most, if not all Quants, are employed [large hedge
funds, large investment banker types, and/or HFT firms] under the strictest
secrecy and penalty terms you can imagine; and if they ever catch you “talking
shop” with somebody outside the firm who has “no need to know” your donkey is
in big trouble. These guys are more “hush hush” than CIA & NSA operatives,
and guard information & computer code worth billions of dollars to their
firms. So, it’s not like you can call them up on the phone and chat with them,
now can you?
However, while we may not have nanosecond connections
to institutional trading platforms, or direct links to a bullion house, we got
the same charts and access to them as anybody else, and I have the same ability
as they do to spot “pattern recognition” and its significance to trading.
There are 2 candlestick chart patterns on the M1, AFTER A MOVE DOWN OR AFTER A MOVE UP [NOT IN
BETWEEN], that have extreme significance to Quants and the higher math they use
in their algo’s; while fractal combinations and computations play a key role in
the computer code calculations, when they are combined with these 2 chart
patterns, they have a very, very high probability of success of profit; the key
is spotting it before they do and acting on it before they “hit the market”.
The 2 patterns are 1) reversal pattern after a short
term move to a high/low, and 2) bullish engulfing pattern after a move down or
bearish engulfing pattern after a move up. If you don’t know what these are,
Google them under “Japanese Candlestick Patterns” and you’ll get plenty of
information to bring you up to speed.
Putting this all together, the new volatility
algorithm utilizes both SDEVS & pattern recognition to spot and trade very
high probability profitable trades, just like the HFT’s do; only we do it
quicker and faster because we are smarter than a computer. How’s that?
Computers execute code in a linear fashion and do EXACTLY WHAT THEY ARE TOLD TO DO BY THE MATH
OR MATH LOGIC; NOTHING MORE, NOTHING LESS. Computers don’t have the ability to
“think”; they wait for the code to tell them to place the trade based on preset
parameters and then they execute the algo. We on the other hand, can plan, see
the setup, and be ready to act a hair earlier [1 – 15 seconds] than they can.
STEP 1.
[Note: Use this same procedure for USDJPY, EURUSD,
GBPUSD, EURGBP, EURJPY, & SP500 if you are going to be trading those
markets. I’ll have “Envelope” values for the last 4 markets listed here sometime
this week in a blog post.]
Put the “Envelope” indicator on your chart [go up top
to “Insert” > “Indicators” > “Envelopes” and click]. Place the values
from above for gold into the fields and finish.
Step 2.
Create a 60 minute SMA [any color but I use white] for
reference purposes; this SMA [Simple Moving Average} will give you a point of
reference during your trading day as to the most current floating value of
where HR1 momentum is at in real time; obviously, the slope of this line
[positive or negative] tells us if momentum is generally positive or negative.
It also acts as a pretty good “mean reversion” point for prices to revert back
to at some point.
Go up top to “Insert” > “Indicators” > “Trend”
> Moving Average” and click. Use the values for all markets in the box
below.
STEP 3. [OPTIONAL]
If you would like the volatility algo with the RM=1
exhaustion lines for reference, place the mq4 file onto the chart and make the
aqua & red exhaustion lines “dashed”. What you are going to discover are 2
things; 1) they move exactly the same, and 2) when gold has an exhaustion move
lasting more than a few minutes, the lines between the SDEV and the exhaustion
lines converge to the same point; in other words, the exhaustion lines are but
one subset of the SDEV lines!
STEP 4.
Create your M1 gold candlestick and have at least the
“envelope” and 60 SMA on it, and if you want the old volatility algo on your
chart for the exhaustion lines, go ahead and add them; otherwise, just leave it
off cuz they aren’t needed anymore due to the fact the SDEV lines will be right
there when needed.
What we are looking for in gold to initiate buy
positions is, 1) price to move anywhere near the bottom yellow SDEV line and/or
penetrate it, 2) WAIT for either the
bullish engulfing pattern or price reversal on the M1, and MOST IMPORTANTLY 3) anywhere from 10 seconds
in, to the new M1 that is about to come onto your screen and cement either the
bullish engulfing pattern or reversal as in fact on the M1 chart, you buy right
before the current M1 changes into the new M1 and we end up front running the
algo’s that will arrive shortly [not all the time, but plenty of times]. These
moves down will generally be of greater significance in price than short term
retracements inside an up move, and there is more profit potential on the
upside to them.
Initiating sell positions is a little different, in
that I’m only interested in being short if gold is lower on the day from the
previous trading day close; this is easy enough to remember, or if you want
make a note and place it next to you as you trade, or just check the daily
candlestick. With that in mind, what we are looking for in gold to initiate
sell positions is, 1) price to move anywhere near the top plum SDEV line and/or
penetrate it, 2) WAIT for either the
bearish engulfing pattern or price reversal on the M1, and MOST IMPORTANTLY 3) anywhere from 10 seconds
in, to the new M1 that is about to come onto your screen and cement either the
bearish engulfing pattern or reversal as in fact on the M1 chart, you sell
right before the current M1 changes into the new M1 and we end up front running
the algo’s that will arrive shortly [not all the time, but plenty of times].
Stops for both are on the other side of
the engulfing pattern or price reversal.
The key developments here, over and above the previous
volatility algorithm that I have been using in trading, are twofold; 1) the
SDEV lines [plum & yellow] are like lines in the sand, which by definition
cannot be breached but by about fractions of a percent of the time, but are not
signal lines in the sense of making a trade, and 2) waiting for the proper
pattern recognition to initiate a trade seconds before because I know these
price patterns set off “bells & whistles” at every HFT, hedge fund, bullion
bank, & LP dealer on the planet. And, those sounds you here will be for the
direction we want the market to go for profit.
Not every bottom/top near, at, or exceeding the SDEV
lines will see the necessary engulfing pattern or reversal; some will go a
short price distance and others will go multiple $$ / Oz., but very few will fail.
USDJPY PUTS THESE PATTERNS IN CONSTANTLY AT TOPS AND BOTTOMS RIGHT ALONG WITH
GOLD.
From a risk profile point of view, what I don’t want
to see in gold [or USDJPY for that matter either] at the bottom yellow SDEV
line is what I call the “other shoe to drop” syndrome; “market price comes very close/ hits / or exceeds the yellow SDEV line,
and then trades sideways for 2 – 5 minutes and then proceeds to plunge to a
lower price and hit the new yellow SDEV lower in price, and thus if I get
caught in this I end up selling into a falling market which we all know in gold
means disaster.
All the lines mean is that the market is very extended
and needs to either bounce or work off the selling pressure by going sideways,
before then deciding whether to continue lower or work higher. To get the
market on our side [HFT’s and others above], momentum has to change quickly; “for me, it doesn’t matter what a particular
hedge fund or HFT Quant uses for their ‘top secret’ momentum code, cuz I know
that no matter what it is, an engulfing pattern or price reversal [or both]
will set it off once cemented on the M1 chart. Directly below, are 4
examples of reversals and engulfing patterns so you can see what I mean
visually.
Now, looking at these, it should become obvious that
if I took these trades a few seconds before the M1 closed, I’m beating the
algo’s to the punch in most instances, and can decide once in the trade and up
profits what to do with it and where to liquidate from a position of strength.
That’s not to say, that when price hits / exceeds / or
comes close to the SDEV lines it doesn’t immediately turn around and move and
would have been a profitable trade; it does that. But it also goes up/down
“hugging” the SDEV line [yellow or plum] as it goes, thus exposing you to the “From the sky above, I’m a professional
knife catcher”! … “Hey, where are all your fingers”? So to prevent this, we
wait for the market, through price action, to tell us and give us the highest
probability trade through pattern recognition, and knowing that all over the
world computer code is “smoking” at the close of the M1 to get into the market
in our direction, and at the same time having low risk and a rather tight stop below
the engulfing or reversal pattern. In other words, it’s not about picking tops
and bottoms; it’s about buying into the concept of “buying at 1 and selling at 3”.
Too be sure, while the look and feel of the trade may
seem to some as radically different in approach than before, in reality all I
have done is gone from a “special situation” where above average volatility
“behaves” in what was construed as “normal” trade flow to one where ALL TRADING CONDITIONS MUST OPERATE AND BE
DEFINED IF THERE IS A MARKET. The former [let’s call it “A”] is nothing
more than a “singularity” of the latter [let’s call it “B”]; so, while A = B,
it doesn’t mean B = A. In fact, as market conditions have shown since the start
of 2015, when conditions started to change [normal to “speed of light …
crickets”], the volatility algorithm started to fail as we moved into newer,
far more treacherous conditions.
It would be easy, if you knew going into anything
trading related what the limitations were of your model or algorithm;
unfortunately, as Kurt Gödel proved 86 years ago, we can never know this with
certainty. All we can ever do is attempt to learn as much as possible, all the
while looking for things that refute and disprove our hypothesis. As long as
things [that would be profits] move along smoothly, there isn’t any need to fix
something “that ain’t broke”!
However, you can’t sit there and pretend things are
“OK”, when they’re not, and somehow pretend that “once in a [name the number]
year event” is unfolding before your eyes; it ain’t, it’s your model or
algorithm that is faulty and needs some work.
Of course, all of this before about 5 – 10 years ago,
would be impossible to dissect and analyze; before the rise of HFT’s, before
negative interest rates, before central bank interventions, and before overt
manipulations. Markets operated in a different universe then, with different
rules, and different technology. From a practical and theoretical standpoint,
with the very Quants I want to crush as the basis and foundation of my
algorithm, I don’t see any way for this newer version [I’m calling it “Volatility
Algorithm version 3”] to become more general in nature than it is now; the very
definition of its structure is already at the outer limit, it can’t be expanded
into more general terms. If there is a large sized market that is traded with
good liquidity and volume, the version 3 will map it accurately!
For the very simple reason I can’t know [and neither
can anybody else] what every computer generated HFT / bullion bank / or LP bank
in the world is doing to compute a
change in momentum off of a bottom in prices to get it to “buy” the market, I
do know that no matter the code the appropriate engulfing pattern and/or
reversal in price on the M1 will do the trick the vast majority of the time. Of
course, there will be tops and bottoms that don’t show these 2 patterns; fine,
move on to the next one, where more than likely it will.
As we start next week’s trading, I’ll be incorporating
the new version 3 volatility algorithm into my trading; I don’t foresee any
problems with fills and/or “false positives” going forward. Directly below, the
start of the week’s spreadsheet for the PAMM/MAM. I’ll get the new website
sections for the PAMM/MAM spreadsheet and trade charts up and done in the next
couple of days.
As always, I support what I write and publish; if you
have any questions/comments I’d love to hear them [ traderzoogold@gmail.com ], and I will
respond back with a personal message ASAP.
Have a great weekend everybody!
-vegas
OUR ‘TURNKEY FOREX’ PAMM/MAM
IS NOW OPEN AND OPERATIONAL; SEE “PAMM/MAM MANAGED MONEY PROGRAM” IN
“DOWNLOAD LINKS” SECTION IN RIGHT HAND COLUMN FOR DETAILS [VIEW ONLINE AND/OR
DOWNLOAD] AND START YOUR JOURNEY FROM WHERE YOU ARE AT TO “ESCAPE TO SUCCESS”!
