RoFoF replies to: Trading with range bars ichimoku cloud & awesome oscillator

Just a fact of the markets to save anyone time in having to risk money to find out for themselves:

Taking small, “fast” trades will require you to be 70% accurate long-term with a 1:1 reward to risk ratio. If you widen your stop up to 2x the target, then you have to be right 80% of the time and your avg gain will drop to 1/2 of what you were willing to risk.

Go to your historical charts and you will see the following on any instrument with good volatility (the kind worth trading):

1. Pick out the very start and end of each trend with your 20/20 perfect hindsight.

2. In the uptrends, from each negative (red) closing bar, measure 2 distances:
a. The distance from the close to the max heat you would have to take on that entry long. This is your max adverse excursion (MAE).
b. The distance from the close to the very top of the trend minus 1 pip/tick This is your max favorable excursion (MFE).

3. In the downtrends, do the same thing, except with green bar closes instead of red. In other words, you’re measuring opposing bar close entries as potential trade entries.

These become the obvious observations:

1. The OVERWHELMING MAJORITY of the measurements you performed will have FANTASTIC reward to risk ratios. That is, the MFE distances far exceed the MAEs you had to endure.

2. 20/20 hindsight trend picking is 100% accurate but, of course, you will have very low accuracy in real-time. But that’s OKAY because all you really need to do in real-time is recognize that you are actually IN a trend with an accuracy in the range of 40-60% and having nothing to do with picking the actual start of it. I would suggest to all of you that anyone who can’t tell they’re in an active trend at least 40% of the time should stop trading real money and figure out how before you do.

What was the point of the exercise? To get you to understand that it’s not the winning pct which dictates how successful you will be in trend trading. It’s the reward to risk ratio advantage you have that makes you the net positive gains. So why am I measuring opposing bar closes? Because it is optimal to buy on weakness in trends and to sell into strength.

As I’ve said before, RP’s method can find you the trends to meet the minimum 40% accuracy required. What YOU have to realize is that it’s all about keeping your real-time reward to risk ratios just as amazing as the ones I described to you how to measure from historical charts.

You will find that the harder you try to be right in real-time then the less you will make, on avg, per trade (i.e., avg winning pct is inverse to avg win / avg loss in the long term). So you need to know what MAE’s are normal for the instrument you trade WHEN THAT INSTRUMENT IS ACTUALLY TRENDING. Because when the MAE diverges from your historical findings, either your instrument has increased its volatility noticeably beyond anything normal relative to your research period (6 months is enough) OR…guess what? You chose wrong and you are not in a trend! A correct entry in an incorrect trade context has a name…it’s called a losing trade, big deal, 40-60% of your trades can be losers and you can still win long-term in trend trading.

There has to be a “line in the sand” for you to be willing to stay with a trade. My personal preference is a common one among day traders: if a strong trend cannot hold a 9 wma or a good trend cannot hold a 20 ema, then I don’t want to stay in the trade. This is not the same thing as demanding that price be above a 20 ema to initiate a long or below a 20 ema to initiate a short but this post is too long already and that’s another story (but to confuse things more, yes, you need to be above a 9 wma for a long (strong trend), below for a short ).

It really is this simple. What’s hard to accept is that improvement in your trading results is not directly related to how many winning trades you have. You will arrive to the point where either size or adding to winning trades in trends (btw, NOT “peeling off contracts from initial large size) makes the bigger difference in your wealth accumulation.

All I can add beyond RP’s method is what 15 years of high volatility real-time futures trading has taught me. Now, you can do that exercise I mentioned on one of the worst futures contracts in the world for volatility, the ES e-mini, and you will still arrive at favorable reward to risk ratios in the trend; however, when you compare those results to the higher volatile contracts in the world, your pupils will begin to dilate.

[This is a one-time post (not a new discussion starter) to get you to see from a risk standpoint what you can expect to achieve once RP’s entry has set you in motion. Summary: optimal trend trading is long term 40-60% winners, avg win / avg loss ratio = 1.5 to 2.5…all you can do then is sizing of your trade and/or taking more opportunties to accelerate wealth]

Leave a Reply

Your email address will not be published. Required fields are marked *