Market Weather Basics

In the past few years I have spent quite a bit of effort categorizing distinct market phases as they clearly can affect both discretionary as well as automated system trading. I often also refer to it as ‘market weather’ and my first treatise on the subject was two years ago in a pertinent post. It mostly focuses on the psychological aspects of how market gyrations affect trading behavior and distorts perceptions among market participants. In combination with a trader’s respective cognitive biases various market conditions will affect one’s daily activities. Whereas a swing trader may be perfectly happy and successful playing the swings in a volatile sideways market a trend or system trader may run into draw down periods, thus affecting discipline due to recency bias.

Of course there are various technical approaches of how to categorize market periods and among my favorites are Van Tharp’s SQN based approach or the StretchStat and VolStat indicators developed by Ken Long. Scott recently covered those in his posts, so if you want more meat on your sandwich then I suggest you point your browser here.

In today’s post however I want to go back to the basics as you don’t really need any fancy indicators in order to develop a pretty good ‘feel’ (if I may use that word) for categorizing various market periods on a chart. The human mind is actually pretty damn good at pattern matching – and with a bit of practice it’ll quickly become second nature. So let’s cover a few core markets of recent past, starting with the bonds.

This is actually a wonderful example as the difference in the two prevalent phases couldn’t be more salient. Starting in early January until the end of the month bonds pushed up significantly in what I would call a low to mid volatility trending phase. If you recall Scott’s treatise on the subject – that is a very common period and one I would categorize as easy to slightly challenging for the average trader. Of course your mileage will vary greatly – again for a trend trader this can be fun, for a swing trader this is more challenging as reversals/corrections are shallow.

The inverse speaks true to what followed – a high volatile sideways market which I consider the most difficult for most retail traders. The reasons for that are plenty and have been rather prolific on this subject and prefer to not repeat myself in this post. Suffice to say that anyone with a directional opinion or expecting resolution will be taken the woodshed all the way through Sunday.

Here is another example – the spoos on which I highlighted three distinct phases. The sell off in January was rather directional but with some volatility in the middle. What followed was a low volatility trending phase. Of course any indicators won’t tell you that until you’re halfway in but the human mind can easily pick up the fact that we have very few overlapping candles and most importantly 10 consecutive higher highs in a row.

Since about mid February things however got a bit more dicey and I would categorize the recent month as a volatile sideways period – once more the most difficult to trade for most participants. Psychologically also rather taxing and it has been taking its toll right here in the comment section (which has been rather quiet in the past two weeks). I always try to warn you guys when I see storm clouds on the horizon but often get the impression that very few are listening. Perhaps educational posts like these will serve to instill a bit more sensitivity as to when trading can be easy and when it can feel like helping Sisyphus push a rock up a steep hill.

Another example gold – I think one of the reasons why we have been rather successful in trading the shiny metal is that gold has the habit of switching between volatile sideways and trending phase with a mix of volatility, usually medium to heavy. You probably remember our gold entry in early February at which point I was expecting gold to continue trending higher. What I did not anticipate is that it would make a sudden u-turn but what’s interesting is that the market phase has barely changed – we are still trending and volatility is probably identical to what it was on the way up. So clearly we must differentiate between direction and market phase. For the seasoned trader direction may be insignificant but retail traders often get married to a particular direction, with the expected results.

And then there are charts which are almost impossible to categorize – I usually stay away from those unless I see then knocking on very pronounced inflection points (a subject for a different day). But when you look at a chart just like this – what do you see? What I see is acceleration followed by slower periods. In terms of volatility that creates a strange mix – the tape looks pretty directional but it’s rather volatile. But clearly this is NOT any easy chart to trade, would you agree?

Here is another example that may be even more pronounced – the fabled natgas contract Just look at how different these market phases are and I haven’t even bothered trying to categorize them. An accumulation of slow/sideways tape followed by quick spikes, long wicks, and sudden reversals. I also see a lot of gapping action and for a futures contract that is very rough to trade. Once again, stay away unless you really know what you are doing.

In summary – market phases are much neglected but integral part of trading and one you should come intimately familiar with. System developers often thrive to write systems that offer a lot of opportunity by being in the market all the time. That’s understandable but it is largely based on an unrealistic assumption that the same entry and campaign rules will work in all market conditions. Instead you will find that some systems promising only a very small or no edge may suddenly work extremely well if used only in the context of certain market conditions. To that end it is important that you sit down and document the characteristics and beliefs of your trading activities and then correlate them with the various market conditions you will encounter. Again, that in itself deserves its own post and I think Scott has definitely pointed the way.

My own work is strongly influenced by market categorization and without padding my own shoulder many here would agree that it has kept us out of various traps in the past. This morning’s spike higher for instance could not have been predicted but it had pretty good odds given what we saw on the Zero as well as in the context of the tape we experienced in recent weeks. Which is why I happily exited my TF trade yesterday according to the rules.

In essence what you always want to ask yourself is this: Does the current market phase impair or support my trading activities? In either case you can either change your current approach or just sit on the sidelines until you see better weather on the horizon. Unlike fund managers or professional traders you are only responsible for yourself and your personal assets, thus you are afforded the luxury of flexibility and the ability to be nimble. Once you are pushing a few hundreds of millions of Dollars around the dynamics of trading become quite different. It’s like the difference between driving a speedboat and an oil tanker. Say what you will – the speedboat is a lot more fun and if you’re lucky you’ll enjoy attractive company in sexy bathing suits.

Well it’s been a rough week and now it’s time to kick up our feet and crack open a cold one. I see you all next Monday morning.

It’s not too late – learn how to consistently bank coin without news, drama, and all the misinformation. If you are interested in becoming a subscriber then don’t waste time and sign up here. The Zero indicator service also offers access to all Gold posts, so you actually get double the bang for your buck.

Cheers,

CrazyIvan Results

CrazyIvan was introduced in late August of 2013 and, as our luck would have it, spent the rest of that year getting its butt kicked. Somewhere in November we realized that something was awry and we dug deep to figure out what exactly was going on. We had been prepared for draw downs but what we were seeing was outside our original system specifications. It took us a few weeks and in the end it was once again proven that premature optimization is the root of all evil. It turns out that the low volatility market filters we had deployed, convinced they would improve the system during sideways periods, apparently were the culprit. We then simplified and replaced our volatility filters in late December and as such we have been running two systems – CrazyIvan 2013 and CrazyIvan 2014.

The max draw down was around NYE 2013 just before we switched over – as one might imagine quite a few subs had shaken out by then. Which is rather unfortunate as it’s been completely on track since then. Compare this with the results since 1/1/2014:

If you divide the combined results by 6, as it is running on 6 pairs, it is taking an average of 240 trades per year per 8hr pair. It is making an average of 2.33R / month or 27.6R / year per pair. That is absolutely on track as since day one CrazyIvan 480 was expected to produce 30R per symbol per year. Of course it is not doing it the way the average subscriber would imagine it:

Yes, wouldn’t that be nice – I’d love to trade a system like that. Psychology is a big factor when trading a system and I would be the first one to admit that CrazyIvan is not easy to follow – it really grinds it out on a daily basis. But that is exactly what we warned about when we introduced it back in late August. If you decide to trade CrazyIvan then you are probably not the type of trader that expects to double one’s principal in three months. Rather CrazyIvan should play a part of your combined trading activities – if you are sweating a 5% draw down then you simply are attributing too much capital. But over the long term it’s no different than other successful systems out there. Not convinced? Let me prove it to you:

The video starts at the 38 minute mark but I recommend that you really watch all of it. Nick Radge makes some very excellent point and I consider this video a must see for anyone even thinking about trading automated systems or joining a fund. Look at what happened with CrazyIvan in its first three months (with bad filters I may add but it is officially on the map) and then compare it with what occurred right after Bill Dunn got started back in the 1970s:

Did he throw in the towel? No he did not – and neither did he in 1982, in 1986, 2001, etc. But look at that overall growth curve – and it’s producing a bit over half of what CrazyIvan is expected to. Also, never underestimate the power of compounding – of course it works both ways. It’s wonderful to double your account in six months but the sad reality of most retail traders is that they wind up losing over half of it during the rest of the year. There you are – back to square one. Running a trading blog for over five years (3000 posts and counting) has offered me a front row seat to the trials and tribulations of the average retail trader.

Bottom Line:

CrazyIvan is not a system you sign up and try for three or six months. It takes discipline to endure the grind and you may just enter at the onset of a drawdown. Hence it should be part of your portfolio accompanied by other trading activities – i.e. discretionary trading or other automated systems. Long term I expect it to do equal or even exceed what other systems of its kind have been doing. If you seek the holy grail – i.e. doubling your money in three months – then CrazyIvan is surely not for you. However if you are looking for a long term system that churns out 25R – 35R per year on average per symbol then you may consider signing up.

System trading is a bit like gym memberships. You don’t throw in the towel if you don’t look like a Greek God within three or six months. Progress is accumulative and it takes more effort and discipline than you probably expected ;-)

Perception Versus Reality

Our resident Heisengerb posted an inspiring video by Nick Rage this afternoon. As I was watching it I thought it to be the perfect segue into covering one of the most glaring but at the same time most ignored hurdles standing in the way of becoming (and remaining) a successful trader. I meant to write a post about it for a while now and Nick’s video succinctly covers many of the basic lessons I wanted to convey. So I let Nick to the heavy lifting now after which I’ll catch up with you and apply his lessons to the very path we are pursuing here at Evil Speculator:

Still with me? Watched the whole thing? Good!

Now in that video you just watched you probably recall the part on the turtle trend system, which is actually a system I actively used to trade until about 2009. It’s boring as hell and the reason why I’m not recommending here on Evil Speculator is that I know that 99% of my readers would not be able to follow it for more than a month or two. Nick has done a great job of elucidating why that is and how many retail traders use incredibly small sample sizes to dismiss a system that on the surface most of you would be certain about wanting to trade over the long haul. Until you actually do that is.

Some of you may recall Scott’s ‘Nuts And Bolts‘ post in which he posted some of the stats he collected for CrazyIvan – both on the 480 and the 30 – without and with filters. The filtered versions, which are the ones we wind up choosing (after a pertinent blog poll), actually are very comparable to the ASX Turtle system. The average per year for the 480 is about 35R which comes out to >40% per year compounded. The 30 does a bit better with over 45R on average which would put us at around 50%+ compounded per year. Max drawdowns are also comparable to the TT system – less than 10R max for both filtered versions.

And here is the profit graph for the first month of CrazyIvan FX since its launch. The entire Google spreadsheet is available here, you may want to bookmark it as we update it regularly. This is not back tested, mind you, this is forward traded with real entries and exits including slippage. Given the horrific tape we’ve had to endure over the past few weeks one may look at this and say – heck, not bad – that’s a pretty good start. CrazyIvan eked out 3.5R which is statistically in line with its 30R+ target on an annual basis.

Nevertheless over 30% of my CrazyIvan subscribers already quit after the very first month. I’m not embarrassed to publicly state that as it has no bearing whatsoever on the quality of our system. And I’m not posting this here to embarrass anyone or to point fingers. Look guys – frankly speaking I couldn’t care less. The system works and Ivan has traded the very same rules (in one form or the other) for over 30 years. Scott has been trading the very same rules discretionary for over 10 years now. Through a variety of markets and it has maintained its edge.

So why would people leave a winning system after just one month? Well, obviously it has nothing to do with CrazyIvan per se and everything to do with perception vs. reality. More specifically it is due to a cognitive bias we traders call recency bias. Maybe you missed a few trades for various reasons and instead of attempting to follow the system more closely it’s easier to just give up. You just don’t think it’s going to work. You feel more comfortable trading your own rules. The notifications are a bit confusing. Mole is an idiot. Etc. etc.

Actually it’s quite possible that CrazyIvan may have scored a losing first month and that we may have been down 5R for the month. Fortunately it didn’t (despite the shitty tape) but if it had I guarantee you that over 50% of my subs would have quietly departed. Again, I’m not saying this to shame any of you subs into staying subscribed – it’s all the same to me. But I thought this to be a great opportunity to remind all of you of the big picture and what it takes to be a successful trader over the long term.

When I started trend trading way back when I read one of Michael Covel’s books on the subject matter. I don’t recall where exactly but in one of Michael’s books he tells the tale of a pretty successful trend trader who ran a fund and was producing 30% plus returns every single year for over a decade. At some point he had his folks run some stats. Much to his surprise he saw that the majority of his clients were losing money. He first thought that there must be some mistake in the numbers but it turned out that many of his clients would leave during major drawdowns and then return when they saw him rack up profits again. Of course that just led them into missing out on the rebounds.

I don’t care what system you trade – CrazyIvan, Turtle Trending, your own evil concoction – it doesn’t matter as long as you can prove that it has a statistical edge over the long haul. What does matter however is that you stick with it – period. Your short term perceptions will constantly challenge reality – that is part of being human. And it is important that you resist your emotions and remind yourself of that fact every single day. As Nick said in the beginning of his video – to trade successfully is actually rather easy. There are a ton of good/proven systems out there. The problem is us. Most people don’t fail at trading because of the systems they are trading. They fail because they jump from one winning system to the next and keep losing by ignoring the rules.

It’s not too late – learn how to consistently bank coin without news, drama, and all the misinformation. If you are interested in becoming a subscriber then don’t waste time and sign up here. The Zero indicator service also offers access to all Gold posts, so you actually get double the bang for your buck.

Cheers,





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