More philosophy

I've recently given up on CNBC. I really think it sucks the life out of me. You sit there and watch the same news over and over. They are slow to give you the important news and that's all that really matters. When the market is up, they tell and when it is down they tell you, and I already can get that on my computer screen.

Today I came into the trading floor, fired up my IPod, rockin out to The Prodigy or something blisteringly too wild for 9:00 in the morning. Numbers had come out, but didn't seem to be really moving the market, but the market was creeping lower and lower, so I thought, heck I'll put in a couple contracts.

Pretty soon following my strategy that you can read below I was maxed out short, deeeeeep in the money. I set my stops all the way up to my average price so the worst I could do was hit 0 for my P/L and let the winners run. Ended up $20,015.25 at the end of the day. That and a nickel might buy me a cup of coffee in 1969, but alas it is still a simulator, and I'm getting to the point now where trading is not about the money. It's about being good at the game.

Back to my Kung Fu argument. If an awesome martial artist never fights in a war was his skill wasted? He will fight in many tournaments and occasionally will lose. He will feel bad about that loss, not because he lost the war...but because he lost the game. He will practice and keep trying to win because he likes the feeling he gets when he wins. Not because he wins, but because he is good at what he does. If winning was all that made the martial artist feel good he would do something easier than martial arts...but it's the fact that he's good at something that not many other people are good at that makes him happy.

A trader is similar. Yes, trading is pure capitalism. But, when can a trader say, that's enough money, I can stop now? It's similar to, when can a martial artist say, I've won enough and I can stop now.? When can a sprinter say, that's enough, I'm as fast as I'll ever want to be? It's not about the money, the wins, or the speed...It's about the game. 2 out of 3 traders don't ever become successful, and if you lose enough you can really get hurt...That's what makes the game so enticing.

So in the end, play money or not, I'm happy with today because I won. I practiced and I won. I might not win tomorrow, but I'll try and I'll try everyday so I can get better and better. I don't know when I'll stop. But I love this game.

Martial Trader

Alright, here's the deal. Over the past week I've been working on implementing my rules and discipline to a higher and higher degree. The bonds haven't reacted to anything with great force since January and the indices have been pretty indecisive as well. All this combined with low volume is a difficult trading environment (and for this I am glad), because I have been happy to see that where my old aggressive undisciplined strategies would've lost upwards of 15 grand (or more!) I'm keeping my losses to a minimum and even making some profits. Overall I'm breaking even in this environment.

I have realized that OVER aggression can really kill you (at least over aggression where there's no aggression in the market), so I have a new style that changes with the volatility of the market. In essence when the market is being aggressive I try to be also and vice versa.

Here's an example. Let's say I feel the 10 year is going to make a bearish move, I will place 1 order to sell and figure out a good stop loss point as well as an appropriate exit point (remember the 2.5x rule). If the 10 year rises against me I won't do anything, but if it moves, with volume in my direction I start place new orders behind it to catch retracements. If the market moves against me with volume I delete orders and tighten stops. This dynamic strategy seems to work well in minimizing losses and taking advantage of big money making opportunities.

I have a theory that I was telling Todd Jones when I saw him last: Trading is essentially like martial arts...I know you are thinking, but wait...kung fu...what?

The correlation:

1) In trading, the market is like an enemy. You should never underestimate your enemy; you should study him, understand his motives, his history and take advantage of his weaknesses. (Recall Sun Tzu, “The Art of War”)

2) A market can hurt you in many different ways, you should always been ready to defend yourself against any of this attacks and possibly use the momentum of these attacks for your own gain (that’s straight up kung fu right there).

3) Trading takes discipline, patience, lack of emotion, intelligence and a great deal of practice…show me a martial art that doesn’t impart those very ideals.

4) Remember the famous quotes by Bruce Lee. "Be like water making its way through cracks. Do not be assertive, but adjust to the object, and you shall find a way round or through it. If nothing within you stays rigid, outward things will disclose themselves. Empty your mind, be formless. Shapeless, like water. If you put water into a cup, it becomes the cup. You put water into a bottle and it becomes the bottle. You put it in a teapot it becomes the teapot. Now, water can flow or it can crash. Be water my friend." If anything is constant it’s the inconsistency of the market. Be ready for anything and be willing to change (like water) to any environment. Never be married to a contract, strategy or position.

5) “Do not be tense; just be ready, not thinking but not dreaming, not being set but being flexible. It is being "wholly" and quietly alive, aware and alert, ready for whatever may come. The danger of training with the heavy bag is that it doesn't react to one’s attack and sometimes there is a tendency to thoughtlessness. One will punch the bag carelessly, and would be vulnerable in a real situation if this became a habit.” The heavy bag is similar to a simulator, it is no replacement for actual trading and the mental attitude he describes is just as important.

I can give 10,000 more examples on why trading is a martial art. These are just a few. In the mean time…”Be water my friend.”

...

Monday Final P/L $2500

Oh Bernanke....

Well...once again...stopped out to a disappointing loss. I thought I ought to add that yesterday, the market shot through the roof, Dow up 130 points. Luckily I went long as a final play and made back what I'd lost previously. I was really wondering how today was going to turn out with the EIA report and Bernanke testifying to congress about his feelings on the market. 3 really weird things happened today and I don't know why.

1) In the morning my trading software was reporting that there were over 30,000 offers in the S&P and Nasdaq. This number got as high as 100,000. This is odd because usually these numbers are around 2,000. These numbers would appear and when they would disappear the market would jump up against them and come right back down. Very strange.

2) As news of what Bernanke was saying started coming in, the indices felt like there was reason for a rally, as the news wasn't as hawkish as originally believed. In addition to this, there was a build in crude, distilites and gas. All this good news sparked a huge rally. The strange part about all this was that what Bernanke was saying wasn't exactly dovish.

3) I suppose, the indices realized their error and retraced. Unfortunately all of us mo-mos were stopped out. The strange part about the retracement was it started the second the "good" oil data came out.

Alas, I'm confused. But again...as I said yesterday...the indices are like trying to predict the behavior of a hyperactive kid playing dodgeball. Just not possible. I was happy I had my stops in well, this limited my loss, but the rally had been so significant I had gone max long which greatly increases the downside of a stop. I tried to predict the bonds based on the hawkish or dovish news, but I got smaked into a rail by the old man in the cutlass.

Live to fight another day...
My head hurts...

Yet more tweeking to do

Well, unfortunately I got stopped out of my positions today enough that I have to stop for the day. Over the past few trading days I've been implimenting my new strategies, trying to find weeknesses in it and seeing what contracts it works well for etc. I've gone up several thousand some days, and gone down as well. The upside is huge and the downside is limited which is why I like the strategy.

One thing I definitely realized is that the indices can not be trusted to pick a direction. They act like hyperactive 8 year olds playing dodge ball. If you had to guess which direction that little kid was gonna run, you're gonna get a big red rubber ball smack in the goobers for sure. The bonds aren't that bad though. The bonds are kinda like watching the condo commandos drive in Florida. Grant it, they're dangerous, but they're slow enough that if you're cautious you can predict what they're gonna do most of the time.

Something I still need to work on is my patience. I sit down ready to trade and I'm so dang fired up that I can't help but take a position. Haha, I like my enthusiasm, but I might as well just flip a coin in that case. I can understand if I think the bonds are gonna stay in a trend, but the indices....oh man....sit down...have a juice box...then go play dodge ball. It really sucks when you get beat up by an 8 year old.

Anyways, to some, I might be considered a Mo-Mo (momentum trader). I'm cool with that. My friend Ryan, is not that kind of trader and soon he will be firing up his blog (I think he should title it "Double Down" haha) but he'll be trying to contrast some of my views. Grant it, he has light years more education and experience than I do, so I won't try and win, but I am cocky, so I'll give it a shot.

Goals for tommorow: Keep up this strategy....patience....Avoid the 8 year olds...and drive safely with the old folks in Miami.

Following The Rules...

Well...If rules were easy to follow they'd never be made in the first place right. I gave it a go today with my new rules. I made some good observations. One of which. Stop losses should be placed at an optimum level that takes into account three very important factors.

1) Money lost if stop loss is hit
2) The volatility of the instrument
3) Important technical areas

Figuring out the right combination of these to optimize your stop loss distance is difficult. Probably the most difficult thing is that 2 and 3 change every minute. I think though one helpful thing is too remember the 2.5 times rule and ask yourself...if I place this stop loss here, is there (in your opinion) a good chance the market will hit your stop before it goes 2.5 times the OTHER way and makes you money. If you say yes, wait.

Basically what I realized today is that trading is about aggression, but not as much as something way more important...patience. If you are patient and can wait till you feel the odds are in your favor then you become aggressive, you will be a better trader.

Goals for tommorow: Don't trade until you feel the odds are in your favor. It's hard not to trade if you are bored. It's like being stuck at a blackjack table and not putting any money down, and the dealer keeps looking at you funny. You are in control...you decide when to play...look that dealer square in the eye and say, "get me the drink girl, because I'm not movin!"

Super Bowl Thoughts

My prediction: Pittsburgh by 7...my heart disagrees however. I didn't write this to discuss football though. I read something really amazing today. I'm currently reading "Fooled By Randomness" by Nassim Taleb, and he brought up an excellent point. It can be shown in psychology that 1 negative event is equivalent in magnitude to 2 and a half good events. So you could be equally as upset over losing one dollar as you could be happy over making 2.50. There are some interesting implications for this. Since we're on the subject of football, they say you have a winning season if you win more games than you lose, but according to this argument you can only have a winning season mentally if you win more than 2.5 times your number of losses. A quick check with some algebra we see that if X is the number of loses and Y is the number of wins, X+Y=16 and 2.5*X < Y, then substitute in and find that you have to win at least 12 games to consider your season a win mentally.

This can be easily translated into trading. Let's say we decide whether to go long or short based of the flip of a coin. Now probability will tell us that as time wore on half of our trades would be profitable and the other half not. (It is probably the best choice to honestly tell yourself as a trader that you might only get half of your trades right.) Also, in order to prevent complete destruction we decide to take a loss if the position moves against us, lets say 10 ticks. This is not an abnormal distance at all. If we place our fill orders 11 ticks from our price that means that we'll be making money in the long term as we average .5*11-.5*10=.5 ticks of profit. Unfortunately if our failures become 2.5 times more detrimental then we have to change the equation to .5*11-.5*2.5*10=-7. Obviously we are taking big mental losses.

I think of trading as a career choice. Anyone that says, "You're career should make you very unhappy" should trade as described above, or worse if you take no stop loss, you must let your winners run indefinitely as well and unless you have an infinite amount of money the fat tails will with 100% efficiency blow you up in time. Thus I have a new rule...A sanity rule.

You MUST, for the sake of your own sanity, place your orders 2 and half times the distance from your maximum loss. If you place your stop loss as described above at 10 ticks from your average price, then be prepared to exit your winners after more than 25 ticks.

One other interesting point to bring up. Taleb speaks of Monte Carlo simulation which is simply a way of showing all possible histories given a certain probability set. If you take all the bear traders, and bull traders and contrarions and mo-mos in a simulator, every single one of them will in time will blow up. The only trader that does not blow up is the buyer of options. By limiting your downside and leaving your upside unlimited, in time the buyer of options will be just fine. In order to be a successfull trader one must then mimic the buyer of options. In the world of futures that can be done simply with the click of a button. By placing a stop loss, we are synthetically buying options on whatever futures contract you are trading. Which brings me to one more rule.

Always...Always...place a stop loss, mental or not, and adhere to it. If you do not you are no better than the gambler with dice. It is the most simple of ideas but the most complex psychologically. If you are disciplined enought to follow this rule and the one above. In time, you will make money. Some might argue that stop losses can be picked off by the market...luckily we are now in a world of electronic trading and the rules have changed. No one sees your stop loss but you, and every trader has the same access as the next. To say that stop losses are bad is taking a pit rule and moving it to the electronic forum. Remember, it's a matter of probability, you WILL make money.

Sounds like certainty in an uncertain world if you ask me...Not too shabby