Guide to Profitable Trading

A invaluable guide to trading for profit
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Guide to Profitable Trading

Post by Administrator » Tue Sep 03, 2019 9:05 am

A HITCH HIKERS GUIDE TO PROFITABLE TRADING
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I used that analogy for a particular reason. You are going along for a ride and have no control over the outcome.

The market is dominated by the big players such as the banks, investment groups and hedge funds. Just remember that volume in Forex terms is completely different to share trading. Your wager of .01 lots is reported exactly the same way as a large bank with a wager of 2,000 lots. The volume is 2.

Weight of money moves the market but you have no information on the flow. I will talk during the week on Commitment of Traders. (Google the term).

MYTH No. 1 - Technical indicators can indicate reversals. Reversals occur when there is a change of sentiment, usually financial news releases, political actions or civil unrest. Let go of technical indicators - full stop. The big players feed off traders who follow technical indicators. They only indicate what has gone on in the past and seldom predicate the future. The real reason for back testing and optimization is to hone your money management skills. Every currency has it's own "DNA" and a 50 pip stop loss for one currency can be the same as a 100 pip stop loss on another currency. The behavior of the market is constantly changing and that is why most EA's fall over. You know my thoughts. I update monthly on the previous 3 months trading results.

Technical indicators can be useful in a sideways trending market but remember the cliche, "the trend is your friend". That doesn't mean a trend on a 15 minute chart, it means watching the daily trend always. Monitor the live news sites all the time. When a major announcement occurs, the trend can change abruptly. Don't jump straight in because there is nearly always a pullback opportunity and most trends last for more than a couple of days! I will cover the various support and resistance psychological levels during the week.

Back to the content of this topic, do not rely on any combination of technical indicators alone for your trading decisions. Just when a technical indicator indicates an oversold or overbought level, there is a very good reason for this, weight of money. One reason that technical indicators break down is that they cannot cope with fundamental news.

Tomorrow I will discuss leverage, because this is probably the most misunderstood factor in your trading. The next big move akin to currency trading is occurring now with the introduction of share CFD's (Contracts for Difference) so leverage is a factor that will be so important in future trading.

A HITCH HIKERS GUIDE TO PROFITABLE TRADING - second instalment
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Today I am going to cover leverage. The most common leverage is 100: 1 but many brokers offer other leverage rates even up to 1200:1 The best way to check your leverage is to hover over your Account Number and Name within Navigator in MT4. If you right click on any instrument and select "Specification", if the Margin Percentage is different from 100%, then that will be the overriding leverage. For example if the Margin Percentage shows 2.5% then the leverage is 40:1. Also take note of the "Contract Size" on the right click because that is the Number of Units you will be purchasing with a lot size of 1.

The real point about leverage is the cost of entering a trade.

Here is a simple example. If you were to purchase 1 lot of your currency with an exchange rate 1.0000 v any other currency and the spread was 1.8 pips, then the cost of entering that trade is $18 if your leverage is 100:1. If your leverage is 1200:1 the cost of entering that trade is $216.

Most Important - Your exposure to adverse moves is greatly diminished. Adverse movements cost $10 per pip at 100:1 and $120 per pip at 1200:1

So in summary, the higher the leverage the greater the risk.

It is generally accepted that 2% risk of equity in any trade is a sound philosophy, so your stop loss needs to be tighter with higher leverage rates. Here is the formula to calculate the lot size taking into account the percentage of equity that you are prepared to lose an any trade.

Lot Size = Equity * Risk Percentage * Exchange Rate / Leverage / Stop Loss / 10.
(Contract size is assumed at 100,000 - the FX contract size, for other instruments the Lot Size will vary by the relationship of Contract size v 100,000 )

The point to note here is that the exchange rate is based on the exchange rate of your base currency against the first mentioned currency of the pair you are trading.

I will place a simple calculator on AgilityTrader2 as a small floating window in my next revision which will automatically gather the equity, required exchange rate and the leverage of the account. All that you will need to input is your required risk factor as a percentage of equity and stop loss in pips.

Higher leverage involves higher entry costs, reduced exposure (therefore lower stop losses) to control the percentage of equity risked.

Providing the above formula is applied meticulously, higher leverage does not affect your trading but it is the tendency to keep the Lot Size the same with higher leverages that brings most traders undone.

A HITCH HIKERS GUIDE TO PROFITABLE TRADING - third instalment
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Understanding the difference between low spread and commission.

Some brokers advertise a fixed spread (say 2.0 pips so the cost of entering and exiting a trade is 2 pips)

Other brokers advertise a variable spread (say 1.5 pips exists at the time of the trade) and a fixed commission for each trade. That means commission on both Entry and Exit.

Be very careful because this second broker actually costs you more. Entry cost is 1.5 pips (spread) and Commission of .5 pips giving a total of 2 pips, and the Exit cost is .5 pips Commission so in actual fact the total cost of the trade is 2.5 pips. Always be aware of the spread when entering and exiting a trade.

The easiest way to display spreads in MT4 in by right clicking on the header of the symbol list and checking the Spread column. Also there are many spread display indicators available within the Forex Factory forums.

The cost of trading together with the overnight interest charges has a most significant impact on your trading and you should actively consider your brokers charges and current spread when entering and exiting trades.

This reference makes interesting reading.
How I saved over a million in one year of live trading.

A HITCH HIKERS GUIDE TO PROFITABLE TRADING - fourth instalment
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The effect of News releases and how to trade them

I have mentioned in my previous instalments that the one thing that drives the market is weight of money however we have no idea of the values of trades being executed unlike trading stocks. It is the news releases that cause the major institutions to make market moves and you always need to have the economic time table at your disposal when you are trading. There are many web based instances and the most popular is right here in Forex Factory but there are some very able competitors such as MyFxBook and ForexPeacyArmy among others. Look in the forums here for scripts which advise on your charts of upcoming news events.

How to you trade news events. During the news release - not at all. The latency of your connection, the speed of the dissemination of information, the widening of spreads and the volatility all work against the individual trader. There are some Web based services that will charge for sophisticated software that will supposedly give you the upper hand. My advice is to forget about it. There are some completely free services which make a good attempt to provide trading software. You can try a straddle trade before the event. That is a Stop Buy and a Stop Sell, one or both of which may automatically trigger once the market makes a move. Whipsawing around the event can kill the validity of these types of trades. This link provides such free software http://www.currencynewstrading.com/cnt-news-trading-ea/.

Here is another gem - Forex News Gun. This one simulates mouse presses on your buy and sell buttons as soon as the info is available.

My own preference is to wait until the market has settled down (around 15 to 30 mins depending on volatility) and then decide whether a buy, sell or even possibly a straddle trade is appropriate at that time. Sure you will miss the major initial move, but if the news is significant, the market will continue moving, even for a number of days. Don't forget it is quite common to see a pullback. Analyze the same news event's chart movement on previous releases to get a feeling for what happens under certain deviations from the forecast. Just remember it is not the size of the change but the deviation from forecast that moves the market.

I prefer to have CNBC or Bloomberg running when these releases are made because you are able to hear real time commentary.

The final word - Do your homework - even consider subscribing to the services which provide pre-release commentaries and advice on how to trade the moves. The more information you have in advance, the sounder your decision making will be. Even consider printing out charts of previous occurrences of the same event. Always remember to monitor the major news not just the economic news. Such an example was the major tsunami in Northern Japan's effect on the JPY.

Forex can be very volatile and your stop losses can be snapped up in an instant with major slippage so my advice is not to be trading during major economic events. Remember, even if you get it right, the whipsawing around the release can take out your stop losses.


A HITCH HIKERS GUIDE TO PROFITABLE TRADING - Fifth instalment
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What is 2% of equity and how should it be used - This the generally accepted prudent amount to risk on a single trade.

You need to clearly understand that 2% represents the maximum amount to lose on a trade. It should take into account the spread plus commission if any, plus overnight swaps (interest charges for positions held overnight).

So if a 50 pip stop loss represents 2% of your equity, you should really be using a 47 pip stop loss to take into account the above factors. The important thing to note is that it is not the size of your wager but the size of your potential loss. As I mentioned 3 days ago, there are a number of factors affecting the size of your wager including leverage and stop loss. The lower the stop loss and leverage, the higher the wager can be to maintain the 2% stop loss.

I have included a Lot Size calculator in the companion program. Just one point of note concerning it's usage. The exchange rate required is the exchange rate between your base currency and the first of the pair being traded - for example trading EURUSD using AUD as base currency, the exchange rate is AUDEUR - this is not a quoted pair so the rate is 1/EURAUD. I wiil endeavour in the future to implement an automatic lookup and conversion

I have introduced the Wager Increase Multiple as a concept (a variation of the Martingale principle - see Post #58) which will exceed the 2% stop loss in principle and you could even consider a starting equity much lower than 2% in this case.


A HITCH HIKERS GUIDE TO PROFITABLE TRADING - Sixth instalment
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Commitment of Traders and how to apply it. These reports are produced weekly by the Commodities Futures Trading Commission and apply to all types of Commodities including FX. There are 3 types of Traders contained in each COT report,
1. Commercial Traders
2. Non Commercial Traders
3. Non Reporting Traders
We are interested in the Non Commercial Traders because this group represents the large speculators such as Banks and large Hedge Funds who have no interest in offsetting risk on future prices but are simply speculating on future price direction. The main reports are sourced here but there are a number of third party providers who amalgamate the information and present it in a more logical format. We are particularly interested in the trends of the Non Commercial Traders and how that relates to price action. For instance, if the trend of this group is to reducing short positions but the price of the currency against the USD is still falling, that may be the sign of an imminent reversal of prices.

This report is suitable for Long Term Traders. It is not particularly useful for day traders other than giving an idea of the long term trend

This link provides meaningful information. https://www.oanda.com/forex-trading/...nts-of-traders

The general idea is to trade in the same direction as the large speculators but to be aware of divergence between the COT chart and the Daily Price chart.
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A HITCH HIKERS GUIDE TO PROFITABLE TRADING - seventh instalment
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Fibonacci, Pivot Points and Elliott Waves. Along with the next instalment on Support and Resistance, this discussion as all about psychological levels encountered in trading which can cause a temporary halt or even reversal in trading conditions and need to be considered for the positioning of Stop Loss or Take Profit decisions.

Firstly Fibonacci, the developmental growth of items in nature, the planets and life bear some relationship to human psychology. The sequence of rise an decline of a price pattern has stumbling blocks at 23.6,38.2, 50, 61.6, 76.4 percent in decline and similar in rise above a previous price. When the sequence develops, each previous number is 61.8% of the next number as in 0,1,1,2,3,5,8,13,21,34,55,79. So when a price rises and hits a peak but then reverses, you can expect hesitations at the 23.6, 38.2, 50 and 61.8 deviations from the max level. These are the points where you can expect hesitation and you should consider stops at these levels. If I were to single out 2 for clarity, consider 38.2 and 61.8 levels for TP and SL.

Pivot Points are levels relating to most immediate previous period of trading and normally considered on a daily basis. End of day is not necessarily end of calendar day but could be end of trading day such as Dow close.

(Pivot Point for Current Period = (High (previous) + Low (previous) + Close (previous)) divided by 3
Support and Resistance points place more weight on the Lows and Highs of the previous period

The important thing to consider is the first Support Level S1 and first Resistance Level R1 for the following reason
• The actual low has been lower than S1 892 times, or 44% of the time
• The actual high has been higher than R1 853 times, or 42% of the time
• The actual low has been lower than S2 342 times, or 17% of the time
• The actual high has been higher than R2 354 times, or 17% of the time
• The actual low has been lower than S3 63 times, or 3% of the time
• The actual high has been higher than R3 52 times, or 3% of the time
Elliott Waves support the theory that trading takes place in waves. The primary waves being described below

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The application of Elliott waves can be quite subjective - that is my interpretation can differ from yours, but the above rules do appear to be set in stone.
A good reference is here - http://stockcharts.com/school/doku.p...tt_wave_theory

THE FINAL POINT - be aware of all these psychological levels when setting your Stop Loss and Take Profit positions and never get too greedy. There is always another day. These levels are real and apply to both Large and Small Traders.


A HITCH HIKERS GUIDE TO PROFITABLE TRADING - eighth instalment
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Support and Resistance - A great majority of the time, trading continues in the absence of significant short term news but in the general direction of the established trend. Quite often the pattern will resort to channel trading as shown below with support and resistance points being clearly identifiable and it is possible to make short term trades based on these channels. Of course channels will be eventually broken and, as a rule of thumb, 3 uniform touches at the bottom or top levels of a channel identify the channel.

As with my previous post in this series, these are psychological levels but do need to be respected. We should be alert for channel breakouts. Apart from the obvious news releases, there are known turning points throughout the calendar day.
1. In the hour before London Open - this is the crazy hour and you are likely to see false breakouts with a return to the channel.
2. In the hour after London Open - Breakouts in this period should be respected.
3. In the hours after New York Open - Breakouts in this period should be respected.
4. During the Asian Trading Session - frequently a slow descending channel or a slow rising channel or a flat channel - Respect any breakout.
Where there is a clearly identifiable channel, consider a straddle trade with a reasonable buffer (around 15 pips) after the third touch of a support or resistance point.

Be aware of Item 1 above because of the false breakouts in this period.
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A HITCH HIKERS GUIDE TO PROFITABLE TRADING - ninth instalment
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Trading Times and Trading Days - I mentioned in the Post above the crazy hour before the London Open. It seems like the big traders are testing the market and some large moves and counter moves are made but this period is virtually impossible to trade except for scalping trades so I will summarize the trading day. It now very common to calculate pivots on the basis of a trading day ending at Dow Close which is 2100 GMT.

Trading Times
• 2100 - 0000 No markets are active at this stage except for NZ after 2200 but little guidance is given - only scalpers should look at this period
• 0000 - 0200 AU Market in play - AU news releases generally around 0030 to 0130 affecting AUD only.
• 0200 - 0700 JPY and CHN markets also in play. JPY rarely affect markets at large but CHN releases can affect all markets.
• 0700- 0800 The crazy hour before Euro markets open - Stay away!
• 0800 - 1330 EUR Markets active - News releases usually in first hour - direction is quite pronounced in this period
• 1230 - 1330 The hour before NY opens - some US new releases around 1230 - market direction can change in this period
• 1330 - 1900 Market direction can oscillate in this period if no news releases but can be quite defined with news releases
• 1900 - 2100 Markets start quietening down - small trading range
The best trading opportunities for defined market movement are 0800 -1200 after the EUR market has opened. During the NY times, market can be defined by significant economic news.

Trading Days
• Mondays - best to avoid, direction seldom well defined because of of lack of economic news
• Tuesdays - Thursdays - best trading days
• Fridays - can be very volatile due primarily to US news releases.
In summary 0800-1200 Tuesdays to Thursdays give best opportunities for defined market movement.


A HITCH HIKERS GUIDE TO PROFITABLE TRADING - tenth instalment
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Market Hours and the Significance Trading during market hours where there is little or no movement can be a real test on your own discipline if you are trading manually because there is always the temptation to increase the size of your wager to achieve a meaningful result.

The active market hours are during the London and New York share trading sessions. Each session normally has economic news announcements at the beginning of the session (within the first 1.5 hours). I personally plan my trading week based on the news announcements by ranking the announcements and planning straddle trades 15 to 30 minutes after each news announcement using 30 mins on the more historically volatile announcements.

With the US Non Farm Payroll, the straddle trade is particularly successful because of the ability for the market to reverse even with news which should swing the market in a particular direction but does the opposite because of prior positioning of the large trades.

Homework is the essence, and I print out all the charts for each announcement in the last 12 months and research the commentaries related to each announcement. Look at the results v predictions and look the the resultant movements. This all ties in with the overall strategy of trading active markets where a trend is established - Tues - Thurs during London and New York markets. The latter is a little more tricky and that is why the trailing stop is crucial. Do not leave positions open over Weekends unless you are a long term trader (because of News events over the weekend).

In the absence of news announcements, trade support and resistance levels which I have covered in my previous discussions, also watching the RSI for overbought and oversold positions. This is quite important for scalpers even on the 1 minute chart.

Tomorrow I will wrap up this series with a trading blueprint with emphasis of trading away from the standard market orders.


A HITCH HIKERS GUIDE TO PROFITABLE TRADING - Final Instalment
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Discipline:

I have been thinking about the wrap up for the Hitch Hikers Series and both of the above posts can be covered.

There is no Holy Grail. There is no Expert Adviser which will work perpetually. StrategyQuant to which the above poster alluded, optionally generates a random series of scenarios which you can back test, optimize, forward test in an attempt to obtain a convincing set of results. Any prior set of results can be optimized to produce compelling results.

Here is the thing - The market is constantly changing because the news is changing and our attitudes constantly change. What did work in the past will most probably not work in the future.

You have to work hard and most importantly take the emotion out of your trading. That is why you should be considering an EA. Money management is the thing that will sink you. You need to have an arsenal of weapons including the factors that I have mentioned in the last 2 weeks of the Hitch Hikers series.

The Wrap Up

1. Avoid Mondays because of lack of Economic News
2. Trade News Events after the event
3. Be very respectful of Support and Resistance levels including Fibonacci and Pivots
4. Use Straddle trades, Limit trades and Stop trades.
5. You don't need to be in the market unnecessarily
6. Use back testing and optimization to refine your money management.
7. Never violate your money management rules (first mistake of amateurs)
8. Don't get tied up with technical analysis. It is about the fundamentals. (second mistake of amateurs)
9. Be very meticulous and do your homework before each trade.

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