Emini Trading Blog

Archive for the ‘emini’ Category

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.

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.

One common characteristic of ineffective day traders is the execution of too many trades throughout the course of a ES emini trading session..  There are many causes for this phenomena, but if you are making 15 trades a day you are probably guilty of this offense.  In my world, there are not 15 excellent trade set ups on the average trading day.

Over trading during a trading session will eat away at your profits or enhance your losses.  On the other hand, your futures broker will love you because his commission account will soar, but I don’t think your futures account will withstand the commission shock.

As I see the market begin to form a good set-up, I start an argument with myself.  I usually look for reasons not to take the trade.  Is the set up really a good one?  Do some of the oscillators or price action appear to be pointing to avoiding the trade?  Am I trading on intellect and not emotion?  These are all questions I ask myself as I prepare to enter a trade.

I think the cause for over trading has its roots in emotion, specifically greed.  After all, every trade has a binary outcome and the possibility to make money, and making money is the reason most of us trade the ES emini contract.  You make money on high probability trades, though, not trades with shaky set up probabilities.  I like to fish, for example, and the only way to catch a fish is to have your line in the water.  You won’t catch that nice fat walleye if your line is in the boat.  I think this analogy is a good one for trading, too.   Many people feel the like they need to maintain active positions in the market in order to catch the next “big move.”

One clarification here:  I am a scalper, which is a technique for carving out 2-3 potential points per trade during the normal market action I observe.   Which is to say I look to make 4-6 trades a day to achieve my profit target.  My average trade lasts 5 to 10 minutes and then I take my profit, or cut my loss.  Now there are times when the market gets into a nice trend and I may sit in a trade for quite some time, but that is not the rule, rather it is the exception. (a very pleasing exception, at that)

My point is a simple one, don’t over trade.  Usually you are “chasing the market” when you trade to often.  You have to tell yourself that there are times when you will miss a potential trade and err on the side of safety.  This is especially true of countertrend trades, which are the bane of my existence.  Countertrend trades must be scrutinized with the greatest of care because they can account for many losses. The market might well head into opposite the direction for a bar or two, only to resume the direction of the trend.  Years of heartache and cursing have hardened me against countertrend trades and I scrutinize them very closely.  You should too, the trend is your friend, and poorly thought out countertrend trading will make you old before your time.

One last note: Highly volatile markets will appear to produce many nice setups that can’t be trusted. You will be tempted to take many trades.  When trading the ES emini contract, you should note the Average True Range, and if it is swinging in the 8 point range and looks like a seismograph in a 6.5 earthquake, you are likely to get blown out of most of your trades  by simple market noise, at those times a profitable trade is more a function of luck than skill.  Volatile markets, with the long bars and long flags which are typical of this phenomena, are good days to to err on the side of caution, as trading may be risky proposition.  You will see many nice setups, then suddenly the market may change course: it’s like surfing in 30 foot waves, your chance to get crushed are very high.  Wait for calmer waters and trade in a market where your skill level can earn you safer returns.  Best of luck trading.

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.

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.