Copy from:
http://www.elitetrader.com/vb/showthread.php?s=&threadid=125197
Given the limited number of traders who ultimately
experience profitability, few other fields have more published rules and
guidelines than trading. After all there's no book titled Idiots Guide To Trial Defense.
We've been inundated for decades with the old saws about cutting
losses quickly and letting winners run. Still we see little improvement
in the trading performance of most participants. Futures trading is
truly a zero sum game. Each night the Clearing House pays out the same
amount of money it collects. Toss in commissions, charts, research and
the endeavor quickly reaches negative expectancy. Since I began trading
on the CBOT floor in 1982 much has changed. Electronic access, FIFO and
lower commissions have vastly leveled the playing field between
professionals and the rest of us. While technological advancements have
made trading short term more appealing than a generation ago, in my view
retail traders should consider trading less. In fact rather than
enhancing returns and cutting risk most short term strategies only
accentuate the losses associated with futures trading. Allow me to share
with you some cautionary aspects and a bit of advice that could help
you clear some preliminary hurdles.
Commissions: One of the least talked about advantages of being an
Exchange member is ultra low commissions. I'll let you in on a dirty
secret. The most legendary floor traders would have been net losers if
they'd been paying the same commission schedule as you. In the larger
financial products it was very typical for a floor trader to trade 1000
contracts a day in hopes of making just $1000 a day in profits.
Superstar traders like Tom Baldwin would trade 20,000 lots on a busy
day. I'd wager that many of you who've suffered grave drawdowns in your
futures account are gross positive! Think about the paradox. Profitable
trading yet net losses.
If your trading style is of a scalping nature I have a couple of
suggestions. If you're trading more than several hundred contracts a
day then lease an exchange membership. I won't go into the details here
but for larger traders a seat will reduce your commissions and exchange
fees dramatically. If you choose to remain at the retail level then try
trading on an exchange or product with lower fees. Eurex charges far
less than it's American counterparts. If you must scalp in America then
look at lower fee markets like Treasuries. Or if you want to scalp a
non-fixed income product choose a market with a larger minimum tick
size. Paying $4-5 a r/t to scalp markets with a $5 tick is nonsensical.
Cutting transaction costs is one of your most viable edges.
Short Term Technical Trading: I'm going to be both emphatic and
controversial. There's is no system based on short term indicators
generating anything other than real time random performance. It's
utterly naive to believe the next few ticks can be handicapped by a
stale set of variable equations. Now I know some of you are thinking I'm
out of touch. That's because you've just successfully back tested some
esoteric system with divergences, crossovers and filters. You're sure
this new optimized system is gold. Think again. First the obvious. The
Goldman's, Morgan's and big bucks CTA's with their vast computing power
and impeccable tick data have already tested every conceivable indicator
under the sun. Even if you're onto something remotely consistent
you'll be subject to all the problems of high frequency short term
trading such as commission costs, unable price orders and slippage. Now
here's the good news. There's many signals derived from longer term
strategies that will produce quality short term trades. Which signal has
a more reliable chance of generating quick follow through? A new 5
minute high or a new monthly high? As a technician doesn't it make
better sense to monitor a wider array of markets and spot higher
percentage opportunities then to “specialize” in a single market and
take a series of weak signals derived from noise?
Trade The News: One of the pretexts of technical analysis is the theory
that news is already reflected in price. Nonsense. Markets are organic.
Market moving institutional participants are constantly reevaluating
their positions based on evolving perceptions of fundamental
information. Think of the market as a basketball game. We're watching a
half court offense methodically passing the ball around the perimeter in
search of a high percentage shot. Suddenly an athletic defender
intercepts the pass and runs down the court uncontested for a slam dunk.
That defender's name is News and he can spoil even the most
conservative game plan. News often comes unannounced. News can be as
unreported as a dry weekend in July when perceptive traders figure out
there's a potential drought developing and then push futures to a limit
up open. No matter how mechanical and detached your approach you'll be
frequently confronted by decidingly anti-technical factors.
Position Sizing: It only matters how much you bet. We've all made
historic market calls only to take a small profit much too soon and then
watch the market explode for weeks on end in the direction we
anticipated Then the next time we try to milk a winning trade for just a
bit more and see our open profit evaporate into loss. It seems that
picking the markets direction is seemingly easier than extracting
consistent profits. I preach two approaches. For folks who're reasonably
well off and seeking stable returns I suggest you vastly under trade.
Practice with scaling out of winners along with hard protective stops.
Larger accounts should risk no more than 1-2% of their equity on each
trade.
For smaller accounts I advocate a more wide open strategy. You're
probably not going to double your account 12 consecutive times trading
for 1 tick at a time. None of us are that good. What you can do however
is hit an occasional home run. I'm not saying just let it rip without an
uncle point but you must intelligently look for opportunities that'll
give you a quantum leap in return. Unless you're still a teenager,
compounding $5000 by 20% a year isn't going to be a life changing
experience.
Learn About Options: Like futures themselves, options are increasingly
traded electronically and have enjoyed tremendous surges in volume and
liquidity. For small traders the ability to over leverage with a defined
stop loss on equity is a boon to your big play potential. I'll give you
a pertinent example. This past December I had strong resistance on the
March e-mini S&P at 1511. I decided I wanted to risk $10,000 on a
short position. Index futures margins would have allowed me to short
just 2 contracts. A 100pt down move would in turn have resulted in a
$10,000 profit ($50 per point x 2 contracts). Instead I bought $10,000
worth of put spreads with an expected 8-1 payoff if futures closed below
1400 at January expiration. Fortunately the trade worked and my 10k
turned into a minor windfall of $80,000.
Another advantage to long premium options trades is the ability to trade
futures positions contrary to your options. If you're long calls you
can then be a natural seller of futures. Often if you're in a rhythm
you'll quickly pay the cost of your options with the proceeds from your
delta hedging.
Accept Your Psychological Shortcomings:We're all flawed in one way or
another. Discretionary traders in particular are subject to the pitfalls
of poor trade selection, over trading, undefined risk and revenge
trading. A movie actor can vacillate between bi-polar feelings of
arrogance and guilt but what makes his foibles different than a traders
is the simple fact that he gets paid no matter what self destructive
urges overtake him. Trading is akin to playing 18 at Augusta each day.
We will never trade perfectly but must attempt to at least minimize our
innately ruinous impulses. Keep a journal of your trades. Don't just
mimic the information contained in your brokerage statement. Instead
keep a log of how and what you felt emotionally about each trade. Like
me you'll find there's commonalities with many of your losses. For
instance if I fail to take a signal that would've resulted in a big
winner I'll invariably take a sub-optimal trade next. Often I'll over
trade it to boot. Doing nothing more than eliminating your “trouble
spots” will save you money that can be dedicated to the next good setup
you perceive.
Hopefully I'll have an opportunity to expand on these points in
subsequent articles. Till then, best of trading and good health to all.
