Still alive...

I'm still trading, but have shelved almost all of my trading systems until the end of June 2013 (end of the Australian financial year).

 

I'll summarise my activities for the last few weeks.

 

Market microstructure and order flow

 

If you listen to most traders, even experienced ones, they'll say that the 1M and 5M charts are mainly noise and should be ignored. This is not true. In fact, there is some startling structure that I've witnessed and this discovery has helped my understanding of the market immensely.

 

Here's a gold 1M chart from today. It's a naked chart. At first glance, you can't make head or tail of it. It looks like the market is moving erratically.

 

 

However, if you take the time to really look at it, you'll begin to notice some structure in the chart. Specifically, you'll see a period of ranging prices before a breakout. I'll mark the ranging periods below.

 

 

It's not precise, but generally once price breaks out of each marked box, you see a large spike in volatility before price re-settles into a new range.

 

Does this look like noise and chaos? Not really. In fact, you could probably trade these ranges. (I did a quick backtest, and it's enormously profitable if you ignore the spread. Sadly the spread kills it). 

 

Now, why would price range for awhile before breaking out? It has to do with order flow. I've been aware of order flow for many months now but didn't pay too much attention to it. But whenever you see price ranging for a period of time, that's telling you the big money is trying to accumulate positions without moving the market against it. For example, if the big money is trying to accumulate longs, its actions may move price up before it has accumulated enough positions. This is bad. Their main tactic, therefore, is to accumulate longs over a period of time. If price begins to move up, they slow down their accumulation until price starts moving down again, at which point they resume their accumulation. This is why you see a ranging period. The big money is pushing down and then easing back on the accelerator.

 

At some point, the big money's accumulation will exhaust all sell orders within that price range. Liquidity has dried up. It's at this point that you'll see price break out of the range since anyone who wants to buy, must now bid higher in order to get something.

 

This is just a simple, badly-explained example of order flow.

 

How does this help my trading? Well, you can see those ranging periods of accumulation when you zoom out to higher timeframes and see small candles. Generally, a small candle will be followed by a larger one.

 

Most of my effort for the last week has been concentrated on designing a trading system exploiting this fact. My Hermes low volatility system is based on this logic, but I'm trying to figure out a way to trade accumulation / distribution more consistently. The trouble with my Hermes system is that you only get a few trades per month, but accumulation / distribution happens ALL THE TIME. This is one of the cornerstones of market behaviour.

 

Anyway. that's what I've learnt over the last few weeks. I hope to post some discoveries in a future post.

 

Van Tharp Trader Test

 

Last week I also undertook the Van Tharp Trader Test. The test attempts to classify your trader personality. For example, you may be a Spontaneous Trader, or an Administrative Trader.

 

It's a simple test, only 35 questions long. My result was Strategic Trader, one of the two "best" personality types. I'm taking the result with a bit of salt, but am curious what other people got? It only takes five minutes to complete.