Avoiding Market Traps
Traditional technical analysis has we know it has been suffering over the past decade. In leu of legions of human participants who over the past century have attempted to predict future pice action via a geometric perspective based on price inflection points (i.e. ranges, break-outs, trends, reversals, candle patterns, retracements, etc.) markets are now effectively dominated by institutional quant trading farms. What does that mean for any remaining participants with a pulse?
It basically boils down to two options: A) Become a quant trader or B) start using fuzzy logic. Meaning, think more like a human! Instinct paired with experience continues to allow a small cadre of human traders to produce a consistent edge year after year. However let me clear that this does not give one license to trade just on a whim.
The proper approach is still strictly systemic and thus based on carefully honed trading rules, but it’s become equally important to know when NOT to take an entry that is simply looking a bit too perfect.
ZB is a wonderful example of just that. I mentioned this beautiful advance to my subscribers on Tuesday, and if you will forgive me for quoting myself:
“The short term panel on the 30-year bond futures are starting to paint a nice orderly LV advance (low vol given that the swings are on the hourly panel – so in reference to the daily) and I’m waiting for the next shoe to drop which hopefully gets us near that NLSL near 160.”
On Tuesday evening it looked like I had been horribly wrong (it happens) but on Wednesday the ZB took a quick turn to the downside. It hasn’t dropped to 160 just yet but the current pullback still looks too immature to enter into any long positions.
The take away from all this: Over the past decade this market has slowly evolved into one giant algorithmic trap geared toward drawing hapless participants into losing trades. If that describes you then you are not alone. The hedge fund industry continues to face record redemptions with momentum long/short equity funds among the biggest losers.
The silver lining of all this is that thinking like a human poker player may allow you to recognize a chart that just looks too good to be true. And this is not just academic:
Over the past few years I have increasingly narrowed down my entry requirements to the point where I only take break-out entries when everything else is pointing in my direction. In addition I shy away from setups that look a bit too polished – which I hate to admit brings a measure of discretion into the game. Where to exactly draw the line I’m still trying to figure out.
On the other having the odds in my favor means for example correlations on several time frames and perhaps vertical correlations as well, e.g. the Dollar threatening to break out before taking a short in the AUD or EUR.
Of course despite best efforts you often are forced to take a hit. After a long wait gold looked like it was finally ready to start burning the shorts but then ended up stopping me out at break/even this morning. Nobody – even the mighty market mole – gets a pass 😉
Speaking of King Dollar and a possible break out. It’s actually looking we may just get that very scenario which has me pleased as punch. I am still dreaming of seeing the EUR at par one happy day but Christmas is approaching rapidly now and I may have to wait yet another year.
One more goodie below the fold for my intrepid subs:
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