In the current times technical analysis (TA) is being used side by side, if not almost completely replacing Fundamental Analysis in the Forex. As Dr. Elder has said, "the prices are tighted to Fundamentals by a mile long rubberband". We could say that knowledge of TA is a must for a forex speculator, without which, unfortunately we have nothing to do in the highly volatile and/or leveraged markets. TA is a method, a trigger that helps people to make a choice whether to buy or to sell. We are constantly bombarded with the cases of people getting rich through TA. But TA has a lot of problems, inconsistencies and its usefulness is in serious doubt.
I, and many good researchers done lots of tests on TA and candlestick analysis and the results have been not good. There were numerous studies that have shown that many TA methods simply do not work when they are applied to out of sample data or when one of the parameters is tweaked. I loved the fact that I took programming in school as it gave me the opportunity to personally witness many MTS’s that worked well for one period, have totally bombed ever since. Many people try to fit the system to the market (it is great that they aren’t fitting the results to their system). The vast majority of experienced traders might object and say that the fault lies in the USER and not TA per se. However from my humble point of view that TA is flawed in a sense that it analyses the CHART and not the currency pair in question. It’s ideology can be faulty, especially when it’s area of study has changed.
When a neophyte trader sees a figure on a chart he screams “Look at this XYZ pattern, SELL SELL SELL as the market is going to change direction.”. Question, why does the artifical and greatly filtered pattern on a chart moves the price? A wise trader should ask himself “what is the process behind that footprints that is unfolding? Will this process cause a correction or a reversal?”
The lack of deep thought into the essence of the process of price formation has caused many gross errors to be committed.
1) Same indicators are used for totally different markets. Stocks, Commodities, Equities and Forex are totally different markets with totally different process yet use the same indicators. To a newbie a stock chart and a forex chart may look the same, but with a deep analysis you will be able to tell major differences and nuances present in them.
2) Researchers are unable to determine the exact nature of the market. Is it artificial, fractal or natural phenomenon?
3)Traders have played too much with combination of indicators without thinking about what exactly that is accomplishing. For example the Elder force indicator where price difference is multiplied by the volume. What the heck? Why take two unrelated things and just combining them in frankensteinan combination? If you have John, Dick and George and give them 2 apples each, then you have 6 apples (2x3=6). What about how many total apples will they have if you ace of spades? It doesn’t make sense to mix and match indicators and formula’s to fit the curve.
4th) Very non-serious handling of time when graphing and plotting indicators. In forex 2 trading days are missing making calculation based on time and price difficult on Sunday. How exactly does the gap in time play out on your indicators? Btw, trading in forex happens during the weekends but most brokers do not show the data making indicators show not 100% correct data on late Sundays.
5) Exactly what do the indicators show and exactly how is it helpful? Lets talk about trendlines for example, what does a 40 degree trendline means in terms of price changes, and why does it has to be strait? We know that prices doesn’t rise in strait lines, they like to slope, it is a non-linear process… But the method of building non-linear,exponential and parabolic lines isn’t as simple as connection 3 dots, which is taught in middle school, which brings me to a comment. Many of the indicators have very questionable origins and their authors (WD Gann, Elliot, etc). Many creators of indicators were psychologists, maybe even farmers, but not top level scientists. Gann certainly couldn’t survive by using his indicators, he had to sell it.
The indicator values often have to be changed when the indicator stops working (which happens all the time). The trading greats advise us to use half the numbers of bars in the trend for the oscillator value… Hmm… Sounds like fitting the curve to me and if the cycles actually repeated, then we would be rich… Why, RSI for example, should be have a parameter of 9, why not 10 or 8? Why does 200 ema is considered to be an awesome trending indicator? Why 200 and not 199, 260, or 198?
What exactly does lets say ema 6and12 crossover exactly tell us? And why is it 6&12 and not 5&11 or 7&13? And is that SMA, EMA, WMA, LWMA, based on close, Low, High, H+L/2,H+L+C/3, O+H+L+C/4 or some other one (already 16 different types of MA’s without changing numbers and displacement)?
There are many systems out there that use different indicator values, so what? What does LWMA tells you that SMA doesn’t? Why 9 and not 10? What objective characteristic of a process is your indicator showing and how does it apply in the real world? I can understand using Fibonacci, atleast it has a natural basis…. But LWMA crossovers? Or Schaff Trend Cycles?
When lets say railroad tracks on the top, appear, the conventional literature says to sell as traders changed directions? Really? Maybe it was just large players unloading some of the positions while us, bargain hunters trying to add additional lots at cheaper price?
Few comments about Psychology. Many psychologists say that market is a mass psychology…. If people with the most capital make the most influence on the market, then unlike small speculators, they will have their emotions under better control than your average gambler Joe down the street. Professionals are like expert poker players, their professional attitude helps them win and it keeps them from acting irrational most if not all of the time. So expecting irrational or deeply speculative moves will not happen today.
Money management: It is crucial, I do not argue with that. However it is overrated. Since your % win is can be almost meaningless in sub-infinite number of traders, your exact betting size can never be perfect. Example, lets say you are super trader with 80% winners. 80% of of 100 = 80 winners, and 20 losers. Out of 1000, you can have 200 losing traders. Out of 10,000, you will have 2000 loosing trades. Question, is it possible to get 10 losers (or more) in a row? Of course. If you bet too little, then your trading isn’t really profitable and you should do something else, if you bet too much then you could be flushed out at any time… A tough choice to make… Setting take profit twice the distance of stop loss doesn't help either, you just get stopped out twice as often and setting risk/reward setting to 1/2 doesn't help as well (your losses will be 2 as big as your winners.)
Now lets get to the meat and the bone of designing a trading system. I have read MANY books but have not found a systematic approach in them. We have a triple screen by Elder, some ema trend (alligator) by Williams, some scalping from Zoltan, some divergence strategies from other authors, Breakout systems, countertrend systems, etc.
For example initial questions in system design can be:
Which currency pair to trade? Which currency has strong and objective characteristics? Many people simply say to trade the Euro as it has the smallest spread. Unless you are seriously into scalping then, So what? If you take pip value and spread cost into consideration, then GBP/JPY intraday could potentially bring much more profit than Euro, even though its spread is 10 vs 3 pips for Euro. But these things regarding volatility can be meaningless if you cannot use it properly and soberly for your trades.
A very non-volitile currency with huge spread, can potentially bring more profit to you simply because of exploitation of leverage and its moving capabilities. Just because majority use Euro, does not mean that it has to be used by you. Majority loses, so maybe you need to be smarter than that?
How long is the optimum (for profit) holding period?
From one point of view the more trades back and forth you make, the more profit you can make. I have a statement of a trader who made 2400% in 23 hours. Also another expert on scalping says that 10% increase in deposit per day is the goal of a scalper. I think that we all saw contests results where traders have been making 100s of percents each week through short term trading. Obviously from those results, scalping has a potential, but in which direction? Making 5+ scalps per day can cost you 36,000$ which is 360% of standard 10K deposit, an average size because scalping attracts beginners and newbies who have little capital. On another extreme is long term position trading on the Forex… As someone has said “There are no long term trends in the Forex”. A proof is in the charts, go open up monthly charts for currencies such as Pound, Yen, Swiss for the last 30 years. Case settled.
Any points to discuss any opinions?
I, and many good researchers done lots of tests on TA and candlestick analysis and the results have been not good. There were numerous studies that have shown that many TA methods simply do not work when they are applied to out of sample data or when one of the parameters is tweaked. I loved the fact that I took programming in school as it gave me the opportunity to personally witness many MTS’s that worked well for one period, have totally bombed ever since. Many people try to fit the system to the market (it is great that they aren’t fitting the results to their system). The vast majority of experienced traders might object and say that the fault lies in the USER and not TA per se. However from my humble point of view that TA is flawed in a sense that it analyses the CHART and not the currency pair in question. It’s ideology can be faulty, especially when it’s area of study has changed.
When a neophyte trader sees a figure on a chart he screams “Look at this XYZ pattern, SELL SELL SELL as the market is going to change direction.”. Question, why does the artifical and greatly filtered pattern on a chart moves the price? A wise trader should ask himself “what is the process behind that footprints that is unfolding? Will this process cause a correction or a reversal?”
The lack of deep thought into the essence of the process of price formation has caused many gross errors to be committed.
1) Same indicators are used for totally different markets. Stocks, Commodities, Equities and Forex are totally different markets with totally different process yet use the same indicators. To a newbie a stock chart and a forex chart may look the same, but with a deep analysis you will be able to tell major differences and nuances present in them.
2) Researchers are unable to determine the exact nature of the market. Is it artificial, fractal or natural phenomenon?
3)Traders have played too much with combination of indicators without thinking about what exactly that is accomplishing. For example the Elder force indicator where price difference is multiplied by the volume. What the heck? Why take two unrelated things and just combining them in frankensteinan combination? If you have John, Dick and George and give them 2 apples each, then you have 6 apples (2x3=6). What about how many total apples will they have if you ace of spades? It doesn’t make sense to mix and match indicators and formula’s to fit the curve.
4th) Very non-serious handling of time when graphing and plotting indicators. In forex 2 trading days are missing making calculation based on time and price difficult on Sunday. How exactly does the gap in time play out on your indicators? Btw, trading in forex happens during the weekends but most brokers do not show the data making indicators show not 100% correct data on late Sundays.
5) Exactly what do the indicators show and exactly how is it helpful? Lets talk about trendlines for example, what does a 40 degree trendline means in terms of price changes, and why does it has to be strait? We know that prices doesn’t rise in strait lines, they like to slope, it is a non-linear process… But the method of building non-linear,exponential and parabolic lines isn’t as simple as connection 3 dots, which is taught in middle school, which brings me to a comment. Many of the indicators have very questionable origins and their authors (WD Gann, Elliot, etc). Many creators of indicators were psychologists, maybe even farmers, but not top level scientists. Gann certainly couldn’t survive by using his indicators, he had to sell it.
The indicator values often have to be changed when the indicator stops working (which happens all the time). The trading greats advise us to use half the numbers of bars in the trend for the oscillator value… Hmm… Sounds like fitting the curve to me and if the cycles actually repeated, then we would be rich… Why, RSI for example, should be have a parameter of 9, why not 10 or 8? Why does 200 ema is considered to be an awesome trending indicator? Why 200 and not 199, 260, or 198?
What exactly does lets say ema 6and12 crossover exactly tell us? And why is it 6&12 and not 5&11 or 7&13? And is that SMA, EMA, WMA, LWMA, based on close, Low, High, H+L/2,H+L+C/3, O+H+L+C/4 or some other one (already 16 different types of MA’s without changing numbers and displacement)?
There are many systems out there that use different indicator values, so what? What does LWMA tells you that SMA doesn’t? Why 9 and not 10? What objective characteristic of a process is your indicator showing and how does it apply in the real world? I can understand using Fibonacci, atleast it has a natural basis…. But LWMA crossovers? Or Schaff Trend Cycles?
When lets say railroad tracks on the top, appear, the conventional literature says to sell as traders changed directions? Really? Maybe it was just large players unloading some of the positions while us, bargain hunters trying to add additional lots at cheaper price?
Few comments about Psychology. Many psychologists say that market is a mass psychology…. If people with the most capital make the most influence on the market, then unlike small speculators, they will have their emotions under better control than your average gambler Joe down the street. Professionals are like expert poker players, their professional attitude helps them win and it keeps them from acting irrational most if not all of the time. So expecting irrational or deeply speculative moves will not happen today.
Money management: It is crucial, I do not argue with that. However it is overrated. Since your % win is can be almost meaningless in sub-infinite number of traders, your exact betting size can never be perfect. Example, lets say you are super trader with 80% winners. 80% of of 100 = 80 winners, and 20 losers. Out of 1000, you can have 200 losing traders. Out of 10,000, you will have 2000 loosing trades. Question, is it possible to get 10 losers (or more) in a row? Of course. If you bet too little, then your trading isn’t really profitable and you should do something else, if you bet too much then you could be flushed out at any time… A tough choice to make… Setting take profit twice the distance of stop loss doesn't help either, you just get stopped out twice as often and setting risk/reward setting to 1/2 doesn't help as well (your losses will be 2 as big as your winners.)
Now lets get to the meat and the bone of designing a trading system. I have read MANY books but have not found a systematic approach in them. We have a triple screen by Elder, some ema trend (alligator) by Williams, some scalping from Zoltan, some divergence strategies from other authors, Breakout systems, countertrend systems, etc.
For example initial questions in system design can be:
Which currency pair to trade? Which currency has strong and objective characteristics? Many people simply say to trade the Euro as it has the smallest spread. Unless you are seriously into scalping then, So what? If you take pip value and spread cost into consideration, then GBP/JPY intraday could potentially bring much more profit than Euro, even though its spread is 10 vs 3 pips for Euro. But these things regarding volatility can be meaningless if you cannot use it properly and soberly for your trades.
A very non-volitile currency with huge spread, can potentially bring more profit to you simply because of exploitation of leverage and its moving capabilities. Just because majority use Euro, does not mean that it has to be used by you. Majority loses, so maybe you need to be smarter than that?
How long is the optimum (for profit) holding period?
From one point of view the more trades back and forth you make, the more profit you can make. I have a statement of a trader who made 2400% in 23 hours. Also another expert on scalping says that 10% increase in deposit per day is the goal of a scalper. I think that we all saw contests results where traders have been making 100s of percents each week through short term trading. Obviously from those results, scalping has a potential, but in which direction? Making 5+ scalps per day can cost you 36,000$ which is 360% of standard 10K deposit, an average size because scalping attracts beginners and newbies who have little capital. On another extreme is long term position trading on the Forex… As someone has said “There are no long term trends in the Forex”. A proof is in the charts, go open up monthly charts for currencies such as Pound, Yen, Swiss for the last 30 years. Case settled.
Any points to discuss any opinions?
