My Indicator is Broken!

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eudamonia
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My Indicator is Broken!

Postby eudamonia » Fri Sep 28, 2007 5:12 pm

After having talked with some beginning traders over PM, I'd like to include a few thoughts from my PM's that I feel would benefit everyone - particularly those traders looking for the "perfect indicator" or who have been successful trading an indicator at one point in the market but now the market has changed making their trading indicator "fail".

I apologize to Brett Steinberger from mooching some of his analogies in the following but I feel he really nails the problem facing many beginning traders perfectly.

Beginning trader: I don't know what to trade, but I want the ideal indicator
for anything.

Intermediate trader: I've been trading the HOT DANG indicator for the past 3 months and making good money. But suddenly in the past 2 months I've given back all of my profits and I'm really worried that my indicator is failing.

Brett starts his book Enhancing Trader Performance by stating that a doctor of medicine does not randomly pick a specialty such as heart surgeon or ophthalmologist until they have taken a battery of different classes which introduce them to the various aspects of medicine. The same need to experience multiple specialties exists for the beginning trader.

To simulate this experience it is recommended that the beginner try several different markets and different methods of trading on paper for several months to see how they like each. This is not a frivolous exercise. Each trader trades with different strengths. Michal Kreslik is a brilliant programmatic scalper. He wouldn't be nearly as good at discretionary position trading the Nasdaq. You need to find a niche that suits you. Some suggestions include, a position trader of a group of different stocks, a fundamental trader of long-term currency trades, an emini futures momentum trader, a strictly mechanical micro scalper. Try to develop your own methodology (by reading and observing others) of each of these methods. It will teach you a great deal about yourself which is the best way to improve your trading.

Along a related line of thinking, it is a simple fallacy to believe that your trading mentor's indicators will be the secret to your success. Avery is a great guy and he is kind enough to share his ideas of the market with many of the people on this forum. However, I think that only attempting to learn his indicators will not give you his edge. For Avery it isn't solely about the indicators. I am convinced I could give him a chart with nothing but price and he would make money - he may use the indicators to help him read the market but they can't replace him. Rather, his many years of experience in the markets are what makes him successful. The indicators are a guideline in my opinion. BTW Avery you may tell me I'm full of it if you like :) That's just my opinion having watched you.

The importance of experience and to know when to advance/retreat is true for virtually every discretionary trader I've met who is successful. If you want a purely mechanical way to trade you will need to develop a purely mechanical system and that isn't easy. As Michal will tell you, to develop a purely mechanical way of trading - you must know what you are doing - no mean feat I assure you.

The beginner again asks - why can't I just have the Holy Grail indicator? Well here's an example. If your buy/sell indicator is entering the buy zone you would treat the trade very differently under the following scenarios: 1) the market has been in a strong uptrend for the past 2 weeks, volatility is high and the market gapped up 4 points this morning; 2) the market has traded through several normal days of trading and the open for today was within the value range of yesterday. Volume is modest and the buy zone is at the peak of yesterdays high. We're not seeing much othertime frame buyer conviction from the number of bids being lifted this morning in the first 10 minutes.

Do you see why it is so darn important to have an understanding of what the market is DOING? The indicator is just the trigger - it won't replace your brain or your experience. How would you be prepared to trade the above 2 scenarios? How would you gather the information I put together in these scenarios? What market factors in the next 5 minutes could change your mind about how these markets will respond to your indicator?

Several traders have asked me (and Avery now I come to think of it) what my targets and stops are for something like the BuyZone. I don't know about Avery, but my stops and targets vary depending on the nature of the market and my trade objective based on what the market is telling me. Are we in a double-distribution trend day? Then I will target 3-7 points or more with a 1.5-2 point stop. Are we trading a low volume non-convictional day? Then I might scalp for 5 ticks with a 3-5 tick stop. The time frame of your chart is not as important as the time frame of your trade. I believe that looking at a 1 min chart is good in that it gives you more resolution as to how the market traded - however that should not dictate your targets/stops necessarily.

With apologies to Brett, here is my own analogy with trading and the medical field. If you are the Doctor and your indicator is the Scalpel then the market is your Patient. You cannot ignore the patient and just start cutting randomly with the scalpel! What is the patient's symptoms? Do they have a head cold or a brain tumor? This is the secret to trading the markets. The beginner cuts randomly with the scalpel not understanding why the patient (and their trading account are sick), the intermediate trader sees some symptoms and immediately jumps to conclusions (the market broke out above yesterday's range so it must be trending up) meanwhile the poor market is barfing offers and can't trade any higher - the patient is about to have a flatline and so is your account; the expert trader sees the symptoms, and progresses with a diagnosis towards eliminating potential causes until the root cause is unmistakable (if the market has gapped up are we in a trend, what is the volume for today, yesterday, are bids being lifted aggressively by long-term buyers or are there only locals in the market and then only after consideration of these facts does the expert come to a conclusion and a preference for a trading decision (trade now, wait for more information, wait until a better trading day presents itself).

I hope I have made some sense and not confused you. If you are curious about some of the terms I've been throwing out like double-distribution trend days and the like I strongly urge you to read and understand Mind over Markets by James Dalton. This book covers Market Profile in great detail and is a wonderful addition to your trading library. Obviously not all traders trade with this lexicon in mind. But the expert traders do trade with some sort of overall picture of the market - and that is something that no indicator can replace in my humble opinion.

Edward

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dbw451
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Postby dbw451 » Sat Sep 29, 2007 12:54 pm

Edward,

Excellent post, and thank you for taking the time to share. You've articulated well some major factors for successful trading. A key turning point in my trading came when I realized that I need to trade the market, not my indicators. As you pointed out, the indicators are just triggers. In my trading evolution, I had removed all my indicators from my charts except price and volume. I had reasoned that since all calculated indicators lag price, I could get the same information from price quicker. I've since brought back a single momentum indicator to help me read the market.

Dalton's Mind over Markets also had a big influence on my trading. Auction Market Theory on which Market Profile is based provided me with a frame work to understand the markets. It helps me to know what to expect each day. When the markets do not behave 'normally', I know there has been some change in expectations which can provide me with some good trading opportunites while the markets search for new fair values.

New traders should read your post several times, there's a lot of good advice in there.

Regards,

David
TRADE THE MARKET, NOT THE INDICATORS

http://nickajackcreektradingco.com
Support & Resistance Day Trading

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eudamonia
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Practical Lesson BuySell Zone from Friday

Postby eudamonia » Sun Oct 07, 2007 7:28 pm

I've had several people ask me how I use the BuySell Zone indicator. I tell them that sometimes I scalp with it and sometimes I take longer-term positions in the market. Usually I get the :shock: look and cricket sounds soon ensue. How can you use it for both? When should I do what? Etc.

Well those critical decisions come down to market knowledge. Here is an example of how market knowledge can give you a strong edge based on Friday's market in the emini Russell.



As you can see from this image of Market Profile, the market had broken above multi-month highs on strong volume overnight. This gave us a good clue that we would want to look for momentum moves on the buyers side of the market.



Our first attempt to move 5 ticks above the opening price was on low volume (much lower than our overnight volume) and this indicated a good scalping opportunity but not a momentum opportunity. You could see buy the wavering price activity and the modest lot sizes in Time and Sales that only the locals were playing in the market.

The second attempt to move 5 ticks above the opening price was on higher volume than anything since the opening of the market. Also if you watched time and sales you could see that the big institutions were coming in and buying 100 lots with strong frequency. This was a momentum move opportunity. You could have bagged 5 or more points out of this move and in fact I was able to grab about 7 after a modest retrace on lower volume.

It is good to scalp and it is good to trade momentum (i.e. mini trends). The key is to know when. Who is trading your market and why. Remember the locals are looking to keep the price within the value area and the institutions only come in when they feel value is radically out of balance. You're goal is to feed off the scraps of both - but you can only do that if you know who's turn it is.

Edward
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eudamonia
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What Market Profile Can Tell You

Postby eudamonia » Mon Oct 08, 2007 10:12 pm

Based on the statistics I've run on the ER2, in the last 2 years when the opening of the day was within the value area of the previous day, the market stayed within the value area approximately 72% of the time and closed within the value area approximately 55% of the time.

When I saw the market open up within the top distribution of yesterday's double distribution day I saw an opportunity to look for shorts. Why? Because that was where the value area was. This notion was confirmed by weak initial volume in the first 15-30 minutes.

The first two short zone trades were good for a few ticks to about a point. The last circled short zone trade rode the wave of increased volume for about 5 points. Not too shabby.

The lesson for today is that the trend is your friend - the volume trend that is :D
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