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opmtrader
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Posted: 2005-04-27 21:32

I encountered a situation trading today which made me realize just how un-optimally I am trading and what difficulty is involved mentally calculating the multi conditional probabilities involved in trading.

Here's the scenario.  I'm long index futures.  We get a big run up midday and then we hover.  Now this particular strategy forces a hold for longer than this, but I am watching it with my discretionary eye saying, maybe I should take some profits off the table here.  What's worse is that we've come off the highs a bit and seem poised to go lower.  Below is the chart at the point of decision:

At this point I am thinking, well perhaps what I can do is exit now, and if price actually goes back up and breaks the former high I will get back in.  I will miss out on the profit between where I am now and where I would reenter, but it might be worth it if exiting now allows me to avoid any further downside erosion.  Also when I reenter I will put a stop in at where I just exited, a decent approximation of the bottom of this range.  Thus I could be introducing another loss if I reenter and the market turns around again.  Additionally, if I repeat the process more than once I could find myself incurring multiple losses this way.

Below is a chart detailing some of the outcomes.


Obviously there is no real way of solving this without my expected probabilities for each event taking place.  I think its somewhat complex when you have to put a percentage on
"run up to high, retrace and get stopped out, run up to high, run to anticipated profit".  It seems these things can be approximated by intuition.  However that's usually sub optimal.

I guess I'm writing to see how others would handle this, to spur discussion about sub optimal decision making, and perhaps even some discretionary vs systematic talk.  Hopefully this post does the job.  I'm all ears.

 


apine


Total Posts: 1009
Joined: Jun 2004
 
Posted: 2005-04-27 21:43
obviously, you will never know true probabilities. so you need to focus on what you can control:

1) what is the reason that the trade was entered?
2) what is your exit strategy?

bottom line: PLAN THE TRADE, THEN TRADE THE PLAN
(not my line by the way, taken from a money mgmt piece i recv'd a while ago).
it is a lot easier to prepare for what is going to happen when you go through situations in your head prior to being the trade. it removes doubt and makes you more comfortable with the trade. now, your trade may include trailing stops or discretionary out based on something.

my 2 ticks.

Too many people make decisions based on outcomes rather than process. -- Paul DePodesta

opmtrader
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Posted: 2005-04-27 21:56
True apine.  My problem is when numerous plans collide.  Like when I am in the middle of a trade which is based on a profitable strategy and then the market starts shaping up to look like a second profitable strategy whose direction would put me counter to the first.  If I exit the first valid trade to enter the second equally valid trade, and it turns out that the second trade did not play out, I feel a need to want to jump back on the first trade direction.  This is a really rare scenario.  I want to have my cake and eat it too.

apine


Total Posts: 1009
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Posted: 2005-04-27 22:31
possible strategies:
1) have the strategies "vote" if there is some sort of internal probability metrice
2) in the case of equal conflict; abandon strategy (i.e., you have an internal cross).
3) determine if the conflict indicates something else, e.g., high volatility -- maybe buy options to trade both sides.

Too many people make decisions based on outcomes rather than process. -- Paul DePodesta

NIP247


Total Posts: 559
Joined: Feb 2005
 
Posted: 2005-04-28 09:55

Hi opmtrader- reading your old posts you strike me as a fairly systematic trading guy. So my 2 cents would be to just follow your systems' established entry & exit rules and go with the historical odds. I think FDAXhunter mentioned somewhere that all systems go through "hot" and "cold" periods, so I guess the general advice would be to accept that

1 - all systems will do evidently "stupid" things at times (but then again you only know after the trade is complete)

2 - the way to correct it is by having other systems/models balancing your total portfolio

This sometimes results in one model exiting a long at 4245 just to have another model entering five minutes later at 4249. ├Łou pay commission, spread etc. and it's frustrating for would they have somehow coincided in time, it would have generated an internal trade at midprice (no spread/no commission...).but I still wouldn't second-guess the decisions...

My personal (somewhat limited) experience with takeprofits/stoplosses/reentry etc. is that they don't add anything but whipsaws and ultimately lower the avg. profit and even worsens all stats that I intuitively felt I was enhancing. I remember though reading in market wizards that eckhardt or dennis reentered a position when it hit a new extreme (high or low) after being stopped out. So I guess it's a question of "taste"?

I am sure some of the more mathematically inclined np members could provide more formal arguments for/against the use of stoplosses/reentry strategies. Mine is soleley based on data/parameter-mining Blush

cheers,

 


On your straddle, done on the puts, working the calls...

Nonius
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Nonius Unbound
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Posted: 2005-04-28 14:58

OPM, this IS sort of related to your post....

would you be interested in the following challenge?

I give you five artificially constructed time series...I'll generate 100000 samples, let's say, on a daily basis.  At least one, but maybe more, will be constructed such that there is a viable trading strategy (that is, it contains an element of predictability/statistical arbitrage/trend spotting), whereas the rest of them are so noisy/random walky/bla bla, that it would be stupid to trade on it.

actually, I pose this to anyone...

we'll call this the NoniusChallenge.....and, I won't wait 5 months to say you are right.


Chiral is Tyler Durden

Johnny
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Posted: 2005-04-28 15:00

Nonius, amazing, I was thinking exactly this same thought only last week. Set up the data. I'd be interested to try it out. Incidentally, to pin my colours to the mast, I think we need to be incredibly modest in our expectations of what we can infer from data.

 


Johnny Jupiter Radiation Phynancial phorecasting by the stars for the stars

Nonius
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Posted: 2005-04-28 15:02
yes, I've always wanted to do this...but, I haven't had the time to generate the series except for some baby examples for Baltazar (since he is the signal processing king)....I'll work on it.

Chiral is Tyler Durden

opmtrader
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Posted: 2005-04-28 16:09
Nonius, you've thrown down the gauntlet so I guess I have to pick it up. I'm fully aware that the odds are in favor of me looking like a fool in public but I'll go for it.

Here's the only thing, I only have one strategy on daily data right now, most are intraday. Also, I have never had much luck creating a system out of a time series alone. A lot of my stuff comes from sources other than primary price. I guess I'm saying I don't have a prefered indicator that will transform price series into tradable signals. That's never really worked for me. Lastly, lets say I run one of my strategies on the set and it works on the true market set and not on the others, do I then have to disclose the strategy that worked?

Doesn't seem like a lot of ways for me to win here.

Maybe I'll grab a strategy that's in the public domain that is purported to have edge, and run the testing on that.

Nonius
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Posted: 2005-04-28 16:20
OPM, I assure you that the purpose is not to make a fool out of anyone.....in fact, I'm willing to take the test as well.....to me it is a good exercise to test a model, and it is analogous to how I test a calibration routine....set up an experiment in which at least one person knows the answer, and then see if one's algo is as good as it is intended to be.  If not, then the errors could lie anywhere between bad assmumptions, luck (ie getting the right answer for the wrong reason), and bad coding.

Chiral is Tyler Durden

dgn2


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Posted: 2005-04-28 16:20
I think I would also like to participate in the NoniusChallenge.

...WARNING: I am an optimal f'er

opmtrader
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Posted: 2005-04-28 16:21
NIP247, thanks for the post. I agree that stoplosses and multiple reentries are generally loss incurring strategies. My approach has always been to try to model the primary strategy first without stop losses, see if it works, then if it does I'll go back in and add stops at sensible spots. This usually improves things a good deal as it takes out a lot of outliers. Like there's no reason if you were aiming for a 20% of ATR profit to end up enduring a 200% ATR run against you. At some point, maybe around 80% ATR, you're pretty sure that trade is screwed, and systematically cutting there can help the system. Thus what I meant to say is that strategies that rely heavily on stop losses aren't my prefered vehicle. In terms of reentering, I would imagine the same, however I haven't had a ton of experience with that. I think as you hinted at, that it may have value in certain strategies like long term trend following, where you may have time to wait for new information to present itself. It would seem to me that both time urgency and spread would conspire against a reentering strategy on the intraday trading level. I'd love to hear from any traders though who use a reentering strategy profitably.

opmtrader
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Posted: 2005-04-28 16:23
All right Nonius I'm game. Looks like all the big dogs are coming out to play (Johnny, dgn2). Where's the others (prophet, baltazar)?

Nonius
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Posted: 2005-04-28 16:37
good, so, give me around 3 days....you may thank me for it....

Chiral is Tyler Durden

opmtrader
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Posted: 2005-04-28 16:41
There is a good thread on stop losses and options today on the front page of http://www.dailyspeculations.com/ . And what's this, our very own TonyC commenting there? Nice stuff.

kubrick


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Posted: 2005-04-28 23:23
I'll take the NoniusChallenge too.  It looks like there is ample interest.

Alpha male

JabairuStork
Beat Box King

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Posted: 2005-04-29 01:44
My money is on the neural net guy to win this one. Making odds at 3:2
opmtrader is 3:1 (sorry dude)
johnny is 5:2
dgn2 is 2:1
kubrick is 7:2

dgn2


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Posted: 2005-04-29 03:28

I like those odds...


...WARNING: I am an optimal f'er

Johnny
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Posted: 2005-04-29 08:07

I think I should be further out than 5:2. Smiley

I actually did a mini version of this exercise last week and found that, even for quite simple process models, I couldn't reliably infer the model from the simulated data. This conclusion holds good and bad news for systems traders: bad news because, wow, if you can't recover a simple model on a spreadsheet then how on Earth can you recover *God's* invisible market model? Good news because of the implication for the weakness of the EMH.

 


Johnny Jupiter Radiation Phynancial phorecasting by the stars for the stars

Nonius
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Posted: 2005-04-29 08:46
here's a little warm up test.....I have taken a window of around 6000 prices...I have a lot more after this....Attached File: warmUpNonius.zip

Chiral is Tyler Durden

James
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Posted: 2005-04-29 09:09
"then how on Earth can you recover *God's* invisible market model?"

Inspector, Johnny's talking religion again!!!!

http://www.nuclearphynance.com/misc/forum%20guidelines.aspx

James "The Catholic" and former Seminarian and Monk.

"Like other occult techniques of divination, the statistical method has a private jargon deliberately contrived to obscure its methods from non-practitioners." -- G. O. Ashley

"The good Christian should beware of mathematicians and all those who make empty prophecies. The danger already exists that mathematicians have made a covenant with the devil to darken the spirit and confine man in the bonds of Hell." -- St. Augustine (354-430)

Catholic Encyclopedia entry on Divination, including Geomancy: http://www.newadvent.org/cathen/05048b.htm

Experimentalists think that it is a mathematical theorem while the mathematicians believe it to be an experimental fact. -- Jules Henri Poincare (1854-1912) on Gaussian processes.

Wink

A mathematician who can only generalise is like a monkey who can only climb up a tree, and a mathematician who can only specialise is like a monkey who can only climb down a tree. In fact neither the up monkey nor the down monkey is a viable creature. A real monkey must find food and escape his enemies and so must be able to incessantly climb up and down. A real mathematician must be able to generalise and specialise.
Quoted in D MacHale, Comic Sections (Dublin 1993)

Prior to the publication of the Black-Scholes model in 1973, the quest for a valuation formula that would describe option prices reflected one of the most elusive goals in financial economics. Though much work was done in the 1960s, many of the insights and techniques used to solve the problem were presented or anticipated at the beginning of the twentieth century by Louis Bachelier, an obscure French mathematician. These innovations include the first graphical representation of option pricing, a mathematical description of stock prices utilizing Brownian motion and anticipating the efficient market hypothesis, and the first formal option pricing formula.

Johnny
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Posted: 2005-04-29 09:11

LOL! Big Smile

 


Johnny Jupiter Radiation Phynancial phorecasting by the stars for the stars

RFMontraz
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Posted: 2005-04-29 09:34

Sorry dudes just a question: given one or more time series (like the one Nonius just posted) what sort of answer you guys should provide? Only if it's random or not?


Fund Raising and Racketeering, Capital Structure Demolition LLC - What the fuck you mean "not interested" you motherfucker you??

Nonius
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Posted: 2005-04-29 09:40
tell me if a) there is any element of predictability and b) whether you have trading strategy that isn't bullshit, ie, that you will make money with a high degree of certainty.

Chiral is Tyler Durden

Johnny
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Posted: 2005-04-29 09:49

hmm, b) is a useful criterion in a game like this where the process generating model is fixed. But it's not obviously useful in real trading, where trades that backtest well are often trades *discovered* by everyone and which therefore turn out unprofitable. b) therefore has the effect of putting a substantial wedge between this game and trading reality.

 

 


Johnny Jupiter Radiation Phynancial phorecasting by the stars for the stars
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