Emini Trading Blog

Archive for the ‘day trading’ Category

As we have seen, there are numerous skills needed to day trade for a living. Proficiency in such areas as entries, position management, exits and self-discipline will profoundly affect our level of success. While advancement in these areas impacts our profitability, without a deposit of real money in a brokerage account, no trades will take place since access to any market will not be granted.

Part III: Money needed

1) For emini futures trading, many brokerages require $5,000 to open an account. Regardless of the minimum to open, margin must be met. The lowest e-mini S&P margin claim for day traders I have seen is $500.

2) To be a day trader with a stock equities firm, a minimum deposit of $25,000 is typical.

3) Access is by far easiest in the retail foreign exchange (FOREX) markets since deposits of as little as $250 will enable entry. However, the extreme leverage used to facilitate these accounts means that even a small move, relative to the market’s volatility, can blow-out your account. While greater regulatory oversight seems to be imminent, at this time aspects of these markets are significantly less standardized than futures and equities.

One way to be sure your account is preserved is to set a limit for the maximum dollar amount you will risk on any one trade. Professional fund managers rarely risk greater than 2% and routinely put 0.5-1% of the money they are in charge of at risk. Perhaps you will allow a greater percentage. If so, consider using the following formula. It has been designed to allow you to earn the most amount of money possible while keeping an empty account at “arm’s length”.

In terms of dollars, add up the difference between entry and exit and multiply that number by 20. Next, add to that the commission costs. If the final product is less than your account’s value, the risk amount is acceptable. However, if the total is greater than what is in your account, the risk is too much. In such a case, reduce your risk by modifying your entry or stop. If neither seems advisable, implement the ultimate risk-reducer: Pass on the trade!

Well, it is now time for you to present your closing arguments. Pull together your answers from your review of time, skills and money needed to day-trade for a living. If you are deficient in any area, determine what it will take to make up the difference. Remember, becoming a master trader is a process that requires many consistent small steps.

If you meet or exceed these recommended minimums, congratulations! Your positive answers show that your current level of trading time, skill, and money available makes success in trading a real possibility for you. If you decide to proceed, remember to be positive and realistic. Obey the rules of sound trading and obtain expert guidance when needed. Since the judge in this case is impartial, know that the market will not single you out. In trading, unlike any judicial system, whether the result is outstanding or dismal, it is always because of you. May all your trades be successful!

Perhaps due to curiosity, ambition, or even necessity you are considering day trading as a means to produce monthly cash flow. While the potential earnings, lifestyle and personal satisfaction are what appeal to most, the following three-part series focuses instead on what it really takes to start out on the right foot.
 
Part I: TIME NEEDED

This consideration of the amount of time needed to successfully day trade for a living has been divided into three areas:

1. Education
2. Daily routine
3. Business management, preceded by a word of caution.

Ironically, in a business as technical, highly leveraged and ever-changing as trading is, those pursuing it need to be reminded that there is no substitute for sound education! A string of previous trading successes, your ability to memorize stock symbols and see macro-economic scenarios will ultimately fail to sustain you in the long run.

It takes time to find, consume and absorb quality day trading education. You must learn how to gauge a market’s strength or weakness, how to ascertain entry areas with favorable probabilities, how to manage wisely your open positions and advisable. Since learning rates are subjective, how much time you need to spend each week studying the markets is up to you. Two hours, eight hours, thirteen hours? Write your answer down on a piece of paper, and do it!

“A good trader is a lifetime student of the markets.”

A day trader’s daily routine revolves around market hours. Thanks to streamlined exchanges and access to currency trading, the number of available markets is now unprecedented. Therefore, active trading occurs practically around the clock! Follow a consistent routine to build good habits. Write down your trade routine, step-by-step, so you don’t miss anything.

Managing your day trading business starts with comparing your goals for the day with your performance. If the trade-platform you use records your trades (like TIVO does for TV), you can re-play your good and bad trades and learn from them. Repeating our good moves and not repeating our mistakes is a must, so take the time to note these in a trade diary. Before closing out your trade review, be sure pertinent trade-metrics have been logged. To give this effort it’s proper due, figure one to two hours.

Join us next time for part two of the series, as we examine the skills needed to day trade for a living.

I think it is important for emini traders to use specific targets that address their loss tolerance and profit targets. There is a temptation to ride losses too long in hopes that the market will come back to a break even. This can be a tragic strategy and result in unacceptable losses when trading the emini futures contracts.

Why would people ride their losses?

Emotional involvement in trades is generally the culprit in any kind of trading, and especially for emini scalpers, as the markets swings in intraday trading, sometimes violently. It’s is this emotional involvement in a trade that accounts for a tremendous number of trading losses. It’s more than difficult to accept a trade as a loser and move on. Say, for example, you get what you consider to be a perfect emini setup and take a trade, and most perfect emini setups (whatever they may be) have resulted in handsome profits. The assumption, then, is that every trade where that setup is utilized will result in a winner, sooner or later. Bad strategy. There is no foolproof trade, and every trade (no matter how nice the setup) results in a loss.

It’s difficult for me, and most traders, to accept that a certain trade has resulted in a loss. After all, the 5 identical emini trades before it produced sizable gains. Learning to cut your losses and move on to another trade is one of the most difficult exercises a trader must execute. Set your loss tolerance and if you blow out of a trade, move on.

This is much easier said and done, and even with stops in place there is a temptation to drag a stop a couple of points lower to salvage a trade that is not working out. I’ve been there, I’ve done it, and I’ll probably do it again. It is always wrong to do, though. My experience has taught me that I enter bad trades when I try to pick a counter trend trade. These trades can be very tempting, but price exhaustion is one of the most difficult trades to execute successfully. For that reason, I like to strike an 89 point SMA and when the market is significantly below the 89 point SMA I stick with short trades, and visa versa for price action above the SMA. This should keep you nicely in the trend. It also weeds out those disasterous countertrend trades.

In volatile markets I detest trailing stops, and I generally don’t use them. I am not against moving a stop loss up, but the normal market action often gets you out of a good trade before completion. Be careful using trailing stops, while they sound great in theory, they often have to be very wide to be of any real value. For myself, I prefer to bracket trade, using 3 point (12 tick) stops for my loss and profit targets. I have found this to be fairly flexible for trading in normal markets, and in volatile markets, which we saw early this year, I allow 4 point stops (16 ticks). These numbers are for trading the ES contract. For the YM contract, I like to use 25 points bracketing long and short positions.

But remember, don’t attempt any trade without preset stop loss and profit targets established. Good luck trading and come back.

Seems to me it was centuries ago when open outcry was mode of floor trading, and the highly efficient modes of trading we employ today were the stuff of dreams. Online trading has greatly improved the quality and quantity of trading and executing trades. But some of the problems of the old trading days still can be prevalent in today’s trading, namely, slippage.

From Wikipedia:

“With regards to futures contracts as well as other financial instruments, slippage is the difference between estimated transaction costs and the amount actually paid.”

You can find a wide range of definitions of slippage on the internet, some more esoteric than others, some downright problematic, but I think slippage is every bit the problem we experienced in the old open outcry days. Slippage occurs when you sell or buy at a specified price and your actual execution price is higher or lower than your expected transaction was planned. Even more likely, slippage can occur when you have a stop price specified and the executed stock price is higher or lower than you intended stop.

Slippage can occur for a number of reasons:

1. You are trading in a thinly traded market and there are simply not enough traders to fill orders in a timely manner.

2. You may need a different trading platform if your trades are not being executed at your named price level. Or you may need a new broker.

Whatever the reason, slippage can drain your profits if you don’t pay close attention to your execution prices and order prices.

Very thinly traded markets, say copper, often don’t have the liquidity to handle large market orders. If you intend to trade thin markets, you need to plan for some of the liquidity problems that inevitably occur. On the other hand, the ES Emini is heavily traded, and liquidity problems are not an issue, at least from a volume of contracts traded standpoint.

Markets that have a high degree of liquidity are excellent for avoiding slippage. The ES contract, for example, is one of the largest futures contracts, and slippage can generally be attributed to either human error or a systematic failure in your brokerage . More than a million contracts, some times even higher, are traded daily on this exchange and you will have little trouble getting your trades executed and filled in a timely manner. I have traded up to 100 contracts without any slippage issues. (Note: I am going to pass over any broker related issues, as there is no way to control those short of finding a new broker.(

Pay close attention to the manner in which your broker’s software fills a trade. Sometimes slippage can occur because the firms software is not “up to snuff” in the digital age and cannot keep pace with the fast moving, highly liquid markets like the ES.

For whatever reason, slippage is a real cost in your trading operation and you should do what it takes to make sure you trades are executed and filled at your specified parameters. The failure to do so will result in real costs to your trading account, which is an undesirable outcome.

If there were ever a tougher concept to assimilate than this little tidbit, I’d like to know what it would be. Common sense is a fine thing to possess, but it is of very little use when learning to trade ES Emini futures contracts. And here is the rub, the market does not always move in a logical manner.

You tell yourself, “But earnings are up, the market has to go up, too.”

Nope.

The market often moves in a manner that is contrary to common sense. Recently, the market has taken a particular liking to rising unemployment numbers. Of course, the traditional logic explains this phenomena by quoting the inverse relationship between unemployment and inflation. Common sense tells us that higher unemployment means less money to spend and lower earnings, and hence, lower stock prices. This has not been the case, though.

In some of my previous articles you may have heard me harp on the adage, “trade the market, not the economy or the news.” Since we are regularly inundated with all sorts of news this feat is easier said than done. My solution is simple, when I trade I do not listen to the radio, watch television or check any of the financial websites. I only trade the chart in front of me and draw my own conclusions from the information I glean from that particular chart.

It is difficult, at best, to “turn you brain off to the world” when you trade, but you must trade only what the market is actually doing. Time and time again the market has befuddled the experts by moving in a manner that is inexplicable. I have heard thousands of traders say they were in the perfect fundamental setup and the market had to do this or that, and it didn’t. Their conclusion is that the market isn’t a reflection of reality, which may or may not be true. But this is true, when trading with actual dollars all that matters is whether you trade is profitable or a loser.

No matter the reason, if you are on the losing side of the trade, “the market was right, and you were wrong.” If you don’t believe me, take a look at your account balance in this situation…it will have less money. What better proof is there?

So, you ask, “you are asking me to through common sense out the window?” And the answer is…kind of. Often times, the market moves in a very orderly and logical manner. Things that ought to happen occur right on cue. On the other hand, there are countless times the market misbehaves and moves in a direction that is contrary to common sense logic and you will have to learn to watch your indicators and price action to pick up on these illogical moves before they become a disaster. As I have said, it is easier said than done, yet it is one of the most important concepts to understanding trading.

The Market is always right.

I am sure that you have seen a news report or two that claims that 70% of all day traders “bust out” and lose all of their money. Further, the report usually depicts some poor fellow who has spent the family savings and is in the process of bankruptcy or losing his home.

Is it true?

It is not necessarily true, but I want to qualify my answer.  As a long-time trader, I have seen more than my share of day traders lose all of their money and been forced to leave the profession. Sometimes these individuals have left high paying jobs to day trade full time and are forced to re-enter the workforce under-employed, or at least at jobs that pay considerably less than the jobs they left to day trade.

Why?

There are many reasons individuals fail day trading, and it’s not because the day traders are less-than-intelligent people. There have been several articles written in recent years concerning the failure rate of day traders, and most point to the emotional aspect of maintaining a proper trading perspective. All to often traders abandon great systems of trading and take unacceptable amounts of risk in hopes of hitting “the big one.” Trading on emotion is the recipe of certain failure in day trading.

Why do rational day traders sometimes act irrationally?

One of the toughest tenets of day trading to accept is that certain trades are going to be losers. No trading system or methodology can assure that every trade is going to attain success. The market just doesn’t work that way. My personal philosophy is to never risk more than 5% of my money on any given trade and have target profit limits set and stops loss orders in place in case my trade goes sour. I never ride a trade down in hopes of it turning around. I never “double down”. Quite simply, if a trade doesn’t work the way I expected, I cut my losses and move on to look for another trade set up that looks appealing.

Failure is an unpleasant aspect of day trading, yet every trader fails in one trade, or more, throughout the course of the trading day. Further, it is common to see traders increase their lot size if they are having a bad day in an effort to “catch up” to their trading expectations.

These are all part of the undisciplined traders emotional make up and are symptoms that doom a day trader to failure. There are days when I make two or three clunker trades and decide to turn the computer off. Either the market is acting in a way that is not conducive to my style of trading or I am trading poorly, I never try to over analyze the reasons for my failure. I only know that on a given day my results are unsatisfactory and the best thing I can do is go golfing.

The emotional side of trading is the least studied and most poorly understood aspect of trading. Many traders spend thousands of dollars learning trading technique and complicated systems of trading, yet fail to conquer the emotional side of trade. The emotional side of trading is fairly simple, albeit very difficult to master, and is to simply not allow emotions to enter into your trading psychology. Sounds easy, doesn’t it?

It’s far from easy, and I can tell you that I have fallen victim to my own emotions on numerous trades. I know that any time I feel like I know what the market is going to do and become convinced that a trade “must” work…I am in deep trouble because the maxim “the market is always right” is important to understand. The only variable that can be wrong when you trade is YOU.

The chaotic nature of markets causes many inefficiencies in market pricing that can come into play at random times. If you are in a trade when these market inefficiencies come into play, you lose. It is really that simple and a smart trader exits his trade, takes his losses and moves on.

The study of emotions in trading is fairly new and several books have been written on the topic, I recommend “The Psychology of Trading”, by Laura Sether and Russell Wasendorf. (Note: I have no financial relationship with the authors) as a good starting point. A Google search will also turn up hundred of articles on this topic.

Learn to control your emotions and execute the your trading system and you will have great results.

The the ES Emini Contract requires a high level of concentration and training to trade with the kind of success to assure a predictable, full-time income, and with failure rate for novice traders in the high 70% range, I have to assume that something is terribly wrong with the method we, as traders, are educating new traders to participate in market.

This statistic has been bothering me for quite a while, and it does not speak well for the trading education community. I have often wondered, “what’s the solution to this problem?”

As an aside, I am periodically asked to sit in on trading rooms and find myself, at times, aghast at what I see. The self-discipline in some of these trading rooms, not all, is non-existent. I have often felt like I was watching a black jack game in Las Vegas, which is great fun, but I would hate to try and make a living playing black jack. Incidentally, I am a very mediocre black jack player and would starve if forced to make a living at this card game.

As a serious trader, I do the following things:

1. I trade in an office and do not allow interruptions.

2. I don’t answer the phone while I am trading, nor do I answer e-mails.

3. I trade a very well defined system, and seldom deviate from the principles of my system.

4. I am looking for a certain kind of trade set-up, and don’t deviate from my set-up parameters.

5. I trade from 6:30am until 11:00, every day. It is my job. I don’t schedule impromptu golf matches or any other activity that would interfere with my job.

6. And finally, and mostly, I AM A TRADER, IT IS MY PROFESSION.

And I don’t feel my regimen is anything more than I would expect from myself if I had a regular 9 to 5 job. I am proud of what I do, and proud of my competence at performing my job.

Let me ask you a serious question: Are you really a trader or are you just piddling around with the futures market?

If you are content piddling around with the market and making small talk at parties about your trading exploits, I am probably not the guy you want to talk to. But if you are the kind of person who is ready take a serious attempt at learning how to trade effectively, profitably, then I would love to hear from you. I certainly cannot guarantee you will be the next George Soros, or even a successful trader, but you can be equipped with all the tools to trade successfully and have a great chance at succeeding. Ultimately, anyone’s trading success is dependent upon the amount of effort, dedication and self-discipline they can muster to become successful.

I am an eternal optimist, and believe that most people, with proper training and hard work can conquer anything they set their minds to accomplishing. My question for you is a simple one, “are you ready to accomplish something in the trading world, or are you content to accumulate articles and pamphlets about what COULD be?”

Many years ago, early in my trading career, I began to gravitate from the straight support/resistance/volume trading systems and become interested in oscillators and other “exotic” indicators, as they were referred to at the time.  Of course, Welles Wilder’s ‘New Concepts in Technical Trading Systems” was often discussed.  The book was written in 1978.

I had not yet read the book.

So I went to the library to hunt down this book by arguably  the greatest technical analyst of our time.  I was, of course, expecting a large book with lavish charts and difficult to decipher language.  But I was determined to read the book and learn a little about this area of study that Wilder was making wildly popular, much to the chagrin of the old guard and Dow theorists.  Imagine my surprise when the librarian directed me to the book and it was a thinnish sort of thing, not much in the way of writing or explanation, and pretty heavy on mathematic formulae.

But what a book!  And Wilder’s insightful mind and thoughtful mathematic approach to trading is still resonating with traders today.  The book has six individual trading systems that Wilder proposed and briefly explained the rationale behind, which, at first glance, seemed less than impressive to me at the time.  You might recognize several of the names now, because they are just as relevant today as they ever were.

Wilder himself was an engineer, then a real estate broker, and finally found his groove in what then was the fairly new field of technical analysis.   Yes, this thin little book I got at the library contained some of the seminal work in technical analysis because in it, he explained the theory behind his indicators which include the Relative Strength Index (RSI), Directional Movement Indicator (DMI), Average True Range (ATR), Average Directional Index (ADX), and the often misunderstood Parabolic Stop and Reverse.  Many technicians consider these indicators to be the core of current technical analysis.

Thirty years later many traders have continued to use these indicators in their daily work and their popularity continues unabated, and traders have combined and cultivated the use of the indicators in ways Wilder never would have dreamed.  Even more impressive, these indicators are included in every software charting package I have ever used, which is a testament to their enduring popularity and accuracy.   Wilder wrote and imagined these concepts prior to the time of the truly versatile computer, which makes his achievement more impressive than ever.

With the quantification of market movement Wilder exposed the fundamental relationship between price action and the indicators ability to discern the subtle movement in prices.  By implication, he was able to quantify the emotions of fear and greed and the effect they had on price action.  These factors are still not fully understood, but are recognized as prime movers in the daily price action we all observe.

I would be remiss if I did not mention Wilder’s later work, which in my opinion, bordered on either the greatest fraud of all time or sheer lunacy.  He and Jim Sloman developed a theory of market behavior of a distinctly different flavor than his earlier work called the Delta Phenomenon.  Wilder tried, with some success, to convince his admirers that the markets were actually controlled by lunar-solar-earth cycles.  Based upon his past work, many individuals invested $35,000 a piece and he became (at least it is rumored) very wealthy.  There are still several websites proclaiming the Delta Phenomena as a ground breaking theory for investing.  Of course, Mr. Wilder and I would part ways on trading the markets based upon astrological observation.  To many technical traders, the Delta Phenomena dimmed the great intellectual light of Wilder’s work.  The Delta Phenomena is truly some unusual stuff.

Wilder’s early work is the stuff of brilliance, and I would recommend that every trader read the book, then learn the book, as a requisite to understanding modern day trading systems.  Of course, my enthusiasm for his Delta Phenomena is not quite as warm.  However, I feel to get a fair assessment of the man it is important, at least in summary form, to look at the body of work he produced, both good and high debatable.

Moving averages are an integral part of most day traders indicator arsenal, and getting two traders to agree on which indicator is the best, or which configuration yields superior results is an argument that will rage on forever.  There is simply no agreement as to exactly what works best-and that is as it should be, because no two traders trade with same mind set and personality.

In the world of moving averages there are two contenders for consideration.  The diminutive simple moving average (SMA) and the more complicated exponential moving average (EMA).  Because the EMA has a more sophisticated method of calculation, many consider it to be the superior of the two averages, but that would be jumping to unfounded conclusions.

The SMA is a basic arithmetic mean: you add together the closing prices from the last 10 periods then divide the product by 10.  As I said, the result is a simple arithmetic mean.  Pretty simple?  Too simple for some people, especially those who tend to associate complexity with efficiency.

Complexity does sometimes yield superior results, but that is not always the case.

EMA’s are really not that much more difficult to calculate.  The formula is simply 2 (n+1), and the result is added to the prior days exponential calculation.  With some simple deduction you will see that an EMA emphasizes the most recent days prices, or weights the most recent days prices more than prices early in the exponential sequence.  Since any moving average uses historical data, or data that has already occurred to calculate the average, any moving average can be considered a lagging indicator.   It should be obvious, then, that the purpose of the EMA is to “speed” up the lag factor that is inherent in all moving averages.

Do EMA’s really speed up the lag factor?

To a certain extent EMA makes the lag factor in moving averages less distinct, but like all things, there is a cost.  EMA’s are notorious for causing a raft of early buy and sell signals,  as the last variables in the sequence overweight the average.  For that reason alone, I am not a huge fan EMA’s and prefer SMA’s.  Does that mean SMA’s are better than EMA’s? Not at all, all it means is that in my trading mentality I am far more comfortable with the results from an SMA than I am an EMA.

I always strike an 89 period SMA on my charts and watch the price action relative to the price action and the SMA.   If the price action in more than 3 or 4 points below the SMA(on the ES contract) I immediately decide that long trades are out of the question until the price action moves closer to the SMA, and visa versa on price action above the 89 period SMA.   I can also glean some nearly instant information regarding the trend of the market by looking at the slope of the 89 period SMA, and the sharper, or more pronounced the slope appears, the stronger the trend.

I also use a number of paired moving averages to back up some of my entry and exit points.  I generally use Fibonacci numbers starting with 5 and up to form my two moving average lines.  I find it best, on short term trading, to use to SMA’s that are within 15-20 points of each other.  I will leave to you to discover which set of moving averages intersect at point which best suit your trading style.

So we’ve talked a bit about moving averages today, and seen some applications for the SMA.  The EMA’s are also used by many traders and I would encourage you to explore the applications for this moving average.

Any trade in the futures market has essentially a binary outcome, the market either goes up or the market goes down. Of course, I am aware of the fact that you might well argue that the market stays the same and claim an anti-binary bias, but the fact of the matter is the market seldom, if ever, stays the same. Price movement is constant, especially in the scalping style of trading.

The problem arises with oscillators, which essentially measure market momentum. We are all aware that the price can easily, and often does, decline during a period of time that momentum oscillators show postive momentum. This is a constant problem traders face when trading with momentum based oscillators. We all want to trade with the trend, and I have a personal trading style that precludes any counter-trend trades. My psche simply can’t endure the relative success/failure rate on counter-trend trades. I will also freely admit that counter-trend trades can often be among the most profitable trades you can make. The problem arises when you take into consideration the relative failure rate, and/or false indications in the change of the trend. That being said, I usually strike an 89 period simple average line on my trading charts and ignore all trades above or below this line. It is a simple way to stay with the trend. It is a bit primitive, though.

As a general rule, I like to trade 233 tick charts, which, I realize, is a bit faster moving than some individuals prefer to proceed, but I have grown quite accustomed to idiosyncrasies of this chart configuration and usually profit handsomely for the information gleaned from tick charts. You can get a great idea as to the current volume in the market by how fast the bars fill. So I generally don’t chart volume, but glean the velocity of the market by the pace at which the bars fill. Incidently, I am a candlestick guy, for no particular reason other than I have always traded candlesticks.

But let us return to the inherent flaws in momentum oscillators in discerning price movement. Again, I reiterate that momentum in the market can appear to be positive, whiile the price is actually falling. This is a situation that often results in losing trades, and endless frustration for the trader. After all, one reasons that if the market is in an upward swing, how in the heck does the price action suddently veer to the negative?

The realization is a simple one: Price momentum and price action do not always have a positive correlation. Now this is a difficult, often impossible, concept for some traders to conceptualize.  My answer to the problem is a fairly simple one. I use dual time frame oscillators to chart my trades? On the one hand, I use a longer time frame oscillator to get a feel for the overall momentum of the market, and a shorter term oscillator to determine the the actual price action in the market. I have experimented for years with different settings to achieve optimal results, and for scalping I have become comfortable with a 60 period look back on the longer term oscillator and a 15 period look back on the shorter term oscillator. In effect, I get a good guage on both the momentum of the market and the price action in the market,

One quick note: I can notice when the momentum is falling and the price is falling and find it easier to pick up on trend reversals. While the system is not foolproof, it gives the trader an accurate picture of what is actually occuring in the market, and good information if he or she decides that taking that all-to-risky counter-trend trade has a decent probability for success. Myself, I usually wait until the trend has really changed before I jump into a trade, but great money, some of the best money, can be made for those who are not of the faint-of-heart and can bring themselves to trade against the trend.

The keep point of this discussion is simple: Momentum oscillators are essentially flawed because they are not great indicators of price action. Trade in a dual time frame setting and increase your chances for success in trend reversals.