An interesting few days...

EURUSD

Monday provided a gush of low-volatility entry signals on the EURUSD, NZDUSD, gold and silver.

 

I decided to trade the EURUSD, being the most liquid, and both a long and short were triggered on the break of Monday's high and low.

I initially aimed for a 1.75:1 reward:risk ratio. As you may see, my long didn't go far before I was stopped out. Price broke downwards and after triggering my short, I began to lose confidence about my trading plan and closed my trade with a reward:risk ratio of 0.3:1.

 

Price continued to move down and would've hit my initial profit target. It then reversed, producing a bullish pinbar this morning.

 

The main lesson here is psychological. If I had maintained my faith, I would be in the green right now. My trading plan is complete. I just need to stick with it. Trading is 10% technique, 90% psychology.

22nd March 2012 - premature close on EURUSD?

An inside bar formed on the EURUSD a few days ago. Rather than enter on the break of the IB's high, I set my entry on the high of the previous bar. My pending long was triggered before price retreated. However, the retreat halted short of my stop loss.

This morning I saw a bearish signal in silver. Shorting silver and going long on the EURUSD would've created a hedge, so I decided to close my EURUSD position. At the time of the close, price was about 65% towards my stop-loss.

Since then, the EURUSD has moved up a bit. Closing a trade before it hits its stop-loss might've been premature as the trade would still be alive if I had left alone. Meanwhile, my short on silver is still waiting to trigger.

The key question is:

If the market provides a new signal, do you close your current trade?

Suppose you see a continuation signal and enter a trade. The next day, the market then signals a reversal. Do you remain faithful to your trade and keep it open? Or do you close to accomodate the latest market conditions, and perhaps even trade it?

A tricky question.

Staying faithful vs respecting present market conditions

Staying faithful	Adjusting to the market
+ Market conditions always fluctuate, so no need to panic. + Stop-loss has already been defined and turning point against your trade identified. + Eliminates propensity to whimfully and emotionally modify orders. This improves discipline. + Less baby-sitting required. + Eliminates susceptibility to fake-outs.	+ Vis-a-vis, today's information is more relevant than yesterday's. + Can allow for further optimisation of profit-taking and reduction of losses. + Allows exploitation of new opportunities.

After some consideration, I believe I should remain faithful to my original orders. Modifying or closing live orders too often can harm discipline, especially if you're still a newbie like I am.

24 Feb 2012 - inside bar on USDJPY

I took a bit of a break over the last week. I'd spent so much time backtesting that I couldn't use my mouse for more than an hour. My index finger needed a rest from all the clicking.

Two inside bars formed on the GBPUSD and USDJPY at the close of yesterday's market, which was only 15 minutes ago.

USDJPY

Of these two bars, the USDJPY presents a cleaner setup with a TP target slightly below a significant resistance level at 81.500. This has been illustrated below. What I like about this setup is if the inside bar breaks, it will simultaneously break resistance around 80.250-80.350, providing plenty of space for a bull run. The 21 EMA also indicates a clear trend. Summing the probabilities, this looks like a suitable trade.

GBPUSD

This setup is not as clean. Probably the most important observation is the fact that the 21 EMA is flat. Flat EMA = ranging market. This is where inside bars fail. Having said that, the inside bar is around a level of support, so if that support breaks, there is scope for a bearish run. However, price movement over the last few weeks suggest the cable is currently ranging.

Since inside bars are a trend-trading strategy, a pre-existing trend presents better probabilities, hence why I will trade the USDJPY and not the GBPUSD.

10th Feb 2012 - inside bar backtest 2001-2009

I've spent most of this week researching and backtesting. 90% of successful trading is psychological. No matter what strategy you use, if you don't have confidence in your setup, you will fail. The best way of building confidence is to do your own research and backtesting. Manual backtests are very time-intensive but it gives you a better idea of a strategy than automating your backtest.

This week I decided to extend my backtests of inside bars from the start of 2001 to mid-2009. I focused on the EURUSD on the daily timeframe and used a 21 EMA to measure the trend.

RESULTS

Trading with the trend
156 trades initiated

Risk:reward ratio = 1:3
Expected return per trade = 28.21%

Risk:reward ratio = 1:2
Expected return per trade = 23.08%

Risk:reward ratio = 1:1
Expected return per trade = 15.38%

Trading against the trend
130 trades initiated

Risk:reward ratio = 1:3
Expected return per trade = 29.23%

Risk:reward ratio = 1:2
Expected return per trade = 20.00%

Risk:reward ratio = 1:1
Expected return per trade = 3.08%

CONCLUSION

I was quite surprised to see that counter-trend trading is just as profitable as trading with the trend. A 1:2 or 1:3 risk:reward ratio seems ideal, although I am leaning towards 1:2, just to be a little conservative. Higher rewards usually take longer to achieve. The longer you leave your trade open, the more exposed you are to market shocks that invalidate your entry.