January 31st Trades + pin bar backtesting

I finished in the green today. This morning I identified a pinbar on the AUDUSD that formed as a rejection of the 8 EMA and trend line. However, a major resistance level existed around 1.0700.

I opened at the start of the new market day. Price movement quickly moved in my favour and I closed my trade about 15 pips short of 1.0700. All up I won around 70 pips.

Pin bar backtests

I conducted more backtesting on pin bars, this time focusing on the AUDUSD and USDJPY pairs. The backtest covered 2008-2010 on the daily timeframe. The criteria is entry upon the breaking of the pin bar candle in the direction of the pin bar's body, with stop loss located at the 50% retracement level of the pin bar.

Trades entered: 65

Risk:reward = 1:4
Win % = 20%
Lose % = 80%
Expected return per trade = 0%

Risk:reward = 1:3
Win % = 25%
Lose % = 75%
Expected return per trade = -1.54%

Risk:reward = 1:2
Win % = 34%
Lose % = 66%
Expected return per trade = 1.54%

Risk:reward = 1:1
Win % = 57%
Lose % = 43%
Expected return per trade = 13.85%

Risk:reward = 1:0.5
Win % = 80%
Lose % = 20%
Expected return per trade = 20%

Conclusion

I didn't find much difference in performance whether the pin bar was traded with or against the trend. However, results suffered badly if the pin bar was traded during a neutral trend. A risk:reward ratio of 1:0.5 is optimal but is vulnerable to large drawdowns if I meet a succession of failed trades. For every failed trade, I must win two just to break even.

30 January 2011 trade

I went long on the EURJPY as soon as the market opened this morning. The EURJPY then dived throughout the day. Just a few moments ago my stop loss was hit and I lost around 85 pips.

Weekend trade setups

I currently have no trades open, but the close on Friday has presented two trading opportunities come Monday.

Trade Opportunity #1 - Inside bar on the AUDUSD

An inside bar also presented itself on the AUDCAD pair, but since it is highly correlated with the AUDUSD, I will stick with the Aussie for my analysis.



Normally I'd be happy to trade this inside bar by going long on the breakout, but as you can see, the inside bar is just short of a major resistance level that has held twice in the last six months. Additionally the RBA is expected to announce a reduction in interest rates on February 7, giving me about a week for a pending long to hit and achieve a 1:2 R:R ratio. Additionally the inside bar is bordering the upper-side of a trend channel. All these factors make the Aussie dollar look bearish.

The only factor that'll favour a bullish breakout is the 8 and 21 EMA. I'm thinking of skipping this possible trade because of these conflicting signals.

Trade Opportunity #2 - Pinbar on the EURJPY

The following setup on the EURJPY is looking more juicy.



We have a bullish pinbar that is favoured by the following factors:

- It formed as a result of bouncing from support and the 8 EMA.
- It is in the direction of the 8 and 21 EMA.
- It has plenty of scope for a bullish run (the next level of resistance is around 105.600, about 400 pips away).
- If we examine the bull-run from January 17th, it looks like part of Wave-4 in Elliot wave theory (a minor point for me as I'm not a big user of wave theory).

The only factor against the bullish pinbar is a potential resistance level around 102.500, although it looks minor.

On the sum of probabilities, this would make a suitable trade.

Traders and tax

Traders are at a distinct advantage over ordinary workers when it comes to income tax. Under Australia's PAYG (pay-as-you-go) tax system, an employer is required to withhold a portion of an ordinary worker's wage as tax during payment.

On the surface, this seems like a fair and user-friendly arrangement. After all, isn't it better to pay a bit of tax every week instead of a giant tax bill at the end of the financial year?

If you are financially responsible, the answer is a resounding no and I will explain why.

Lets compare a trader with an ordinary worker. Both earn $100k before tax.

The ordinary worker pays $25,150 in tax. Under the PAYG tax system, he never gets his hands on $25,150. It automatically comes out of his pay every week. His after-tax income is $74,850.

The trader will likewise pay $25,150 in tax. Unlike the worker however, he will have access to $25,150 until the end of the financial year. That is $25,150 worth of extra capital that he can use for the year.

Professional traders can earn upwards of 10% per month. For simplicity sake, suppose the trader earns a 100% return from the $25,150 for the year. His new pre-tax income is now $125,150. The trader pays additional tax on the $25,150 he has earnt. His final tax obligation is $34,450, leaving him with an after-tax income of $90,700.

$74,850 versus $90,700. Both the trader and the worker pay the same initial tax. But because the trader has full access to pre-tax income that he can utilise, he emerges financially stronger.

26 January 2012 - AUDUSD pinbar reaches 1:2 R:R

No trades today, but I saw that the AUDUSD reach a new high today and would've hit a 1:2 R:R take-profit target if I had kept yesterday's long open. According to my backest results, a pinbar that hits a 1:1 R:R target has a 90% probability of hitting 1:2 R:R.

25 January 2012 trades - AUDUSD continuation pinbar

I spotted a trend continuation pinbar on the AUDUSD this morning and put in a buy limit on the pinbar's 50% retracement level. This was hit quite quickly and price continued to tumble down until a sudden reversal. The reversal was due to the release of lower-than-expected Australian CPI figures, strengthening the Aussie. This will give the RBA more scope to lower interest rates in future, so I think this rally will be short-lived.

In any event, I closed my long and took profit at around 1:1 risk:reward ratio. One of my biggest issues is psychological. Once I'm in profit, I want to close my trade rather than let it continue to run and potentially earn more. A 1:1 risk:reward ratio is very conservative and my backtesting has proven that 1:2+ is more rewarding in the long-term.

I earned around 40 pips from this trade.

Weekend trades - 24 Jan 2012

I've just closed the two longs I opened on the 20th January. I managed to hit the 1:2 TP target for both orders last night, but then the price of both the Aussie and Kiwi began to retrace. I decided to leave the remainder of each order open overnight to collect the swap rate, checked both orders again this morning, and saw that the candle for both currencies closed with a long wick. I felt the probability of price going either way was 50/50 so closed the remainder of both orders at an approx 1:1 R:R ratio.

Just as of now, it looks like the Kiwi has recovered quite a bit. Instead of closing both orders, I could've moved my take-profit target to a 1:2 R:R ratio.

Overall, I won 130 pips.

20 January 2012 trades

I've been doing backtests on inside bars for the years 2010 and 2011 on the daily chart with very promising results. 73 trades were initiated during this time. I paid attention to the trend at the time of the trade, and discovered that trading against the trend yielded negative results, no matter what risk:reward ratio you used. On the otherhand, trading inside bars WITH the trend yielded the following:

TRADE WITH TREND
1:1 risk:reward
Win% = 0.63
Lose% = 0.38
Expected return per trade% = 25%

1:2 risk:reward
Win% = 0.5
Lose% = 0.5
Expected return per trade% = 50%

1:3 risk:reward
Win% = 0.43
Lose% = 0.58
Expected return per trade% = 70%

1:4 risk:reward
Win% = 0.38
Lose% = 0.63
Expected return per trade% = 87.5%

1:5 risk:reward
Win% = 0.25
Lose% = 0.75
Expected return per trade% = 50%

1:6 risk:reward
Win% = 0.2
Lose% = 0.8
Expected return per trade% = 40%

1:7 risk:reward
Win% = 0.18
Lose% = 0.83
Expected return per trade% = 40%

My main concern is the sample size and I may expand my backtests to other years.

I entered two longs tonight on the Aussie and Kiwi, based on inside bars that formed yesterday. I've setup a staggered take-profit system, with the longs evenly divided to take profit at 1:2, 1:3 and 1:4 risk:reward ratios.

18 January 2012 trades & swing trading

I opened two trades today. I entered a pinbar on a 50% retracement and lost 14 pips. The second trade was based on an inside bar and finished marginally above breakeven when a retracement hit my trailing SL (won 1 pip!).

I've also been doing some analysis on trading the higher timeframes. At the moment I'm focusing on the 1H timeframe but am giving serious thought to the 4H and daily timeframes.

The forex market consists of three sessions - the Asian, European and American sessions. Each session has their own pecularities. For example, the Asian market tends to be quiet, European goes gangbusters, and the US starts lively but gradually fizzles. Trading on the lower timeframes can be problematic due to the shifting profile of the market. For example, suppose I see a large candle during the US session, followed by a small inner bar. Looks like market indecision, right? Not really. If the inner bar is located in the Asian session, it rather indicates a loss of traders rather than indecision. If you then tried to trade the inner bar as a potential breakout, you'll be disappointed as prices during the Asian session tend to range instead.

However, you won't encounter this problem on the daily chart. Each candle on the daily chart entails all three sessions, so the price you're looking at is the consensus of Asian, European and American traders for the entire day.

Not only that, but the larger timeframes are less susceptible to "noise", making the placement of stop loss and take profit targets a little easier. Since we are also dealing with large pip movements, you pay less spread as a % of your profits.

The downside of the larger timeframes? You have less opportunity to trade. Suppose I focus on the 1HR timeframe. That means I get 24 "chances" each day to identify a candle or chart pattern to trade with. If I stick to the daily chart, I only get ONE chance. The key to being a successful trader is taking full advantage of the phenomenon of compounding. A daytrader who achieves the same level of success as a swing trader will reach wealth sooner simply because their trades are compounding sooner.

I think I've blabbed enough. But my backtest of pinbar swing trades is looking very nice at the higher timeframes.

Entry is at 50% retracement of the pinbar on the 4HR TF, EURUSD. No trailing SL is used. Months are July and December 2011.

29 trades initiated.

1:5 Risk:reward ratio
Win % = 0.28
Fail % = 0.72

1:4 Risk:reward ratio
Win % = 0.31
Fail % = 0.69

1:3 Risk:reward ratio
Win % = 0.41
Lose % = 0.59

1:2 Risk:reward ratio
Win % = 0.55
Fail % = 0.45

1:1 Risk:reward ratio
Win % = 0.62
Fail % = 0.38

Profile of a bad pinbar - stuck in traffic

The above image provides a comparison between an "average-quality" pinbar and a bad pinbar. I traded both pinbars, and the average-quality only broke even whereas the bad pinbar resulted in a loss.

The bad pinbar is marked with a red arrow. As you'll notice it's nose failed to make a significant new swing-high and the entire candle is stuck within the range of the previous 3-4 candles ("stuck in traffic"). This "pinbar" didn't signal a reversal. It represented ranging price movement that had occured over the hour. A good quality pinbar should have a nose that rises above everything else.

The average pinbar is located in the previous candle. As you can see, its nose is somewhat prominent and did signify a small reversal. The reversal did not have much strength, but at least I managed to break even with this one.

January 16 2012 trades

Finished in profit today. I closed the long I kept open over the weekend at a small loss, about -3 pips.

I then opened four pinbar trades. Two finished in the green, one hit a break-even stop loss, and the other failed.

Overall profit was 16 pips.

Pinbar backtesting for June 2011

I spent this afternoon backtesting June 2011. Figures are as follows for a 1:1 risk:reward ratio and half TP trailing stop loss.

Trades: 57
Win %: 54%
Break-even %: 11%
Lose %: 35%

The results from three months of backtesting look very consistent. I like.

13 January 2012 trades

Okay... I'm beginning to like my pinbar setup. I traded another pinbar that formed on the GBP/JPY pair and won 11 pips. Since this was an exotic pair, the spread was 4pips and too high for my liking. I think exotic pairs are more suited for longer-term position trades.

Again, my daily 15% breakouts failed twice because of tight stop losses. I'm thinking of ditching this system altogether and focus on researching price action instead. It feels like too much of a dice roll at the moment.

I also opened a long on the EUR/USD pair during the second half of the US session because of a pinbar. Bad move on a Friday night!!! I correctly predicted that the shorts would be taking profit and closing their positions for the weekend, but there weren't many longs hanging around to maintain the reversal either. The eur/usd simply went "meh" and quietly ranged horizontally until the close of the session. My position is still open so come Monday, the dynamic behind the pinbar will have changed. Dumb move, Kev!

Lesson:

- Do not daytrade second-half of US session on a Friday night

Pinbar backtesting - August 2011 and October 2011

I've spent the last few days backtesting pinbars for the months of August and October 2011. The results look very nice.

The backtest seemed to show that a 1:1 risk:reward ratio is optimal, with a trailing stop loss equal to half of the take-profit target. The trailing SL will ensure that the trade ends in break-even if it moves halfway in my favour before reversing.

112 trades were opened during the backtest, with the criteria for pinbars quite loose.

Win % = 53%
Break-even % = 13%
Lose % = 34%

January 12 2012 trades - pinbars save the day

A pretty good day today. Pinbars continue to show promise. I initiated five trades with a small profit in the end.

Two were my daily 15% breakouts which failed. My stop loss is very tight, though, around 9 pips, so it didn't hurt badly.

My third trade was a gamble on a neutral doji that formed at the end of an uptrend. It slammed into my SL just above the doji's upper wick.

I then traded the two pinbars that formed afterward. They've been labelled below. These two trades made up for my losses. However, I missed out on the huge breakout that followed the second pinbar. My trailing SL got hit at around R1 (the orange line). Oh well.



I would consider these pinbars to be textbook. Both formed at relevant locations on the chart (bounces from pivot levels), the noses were long and sharp, the bodies were small and situated near each candle's end, and the second pinbar formed in favour of major news released at the time. Both were high-probability trades that ended well.

In the end I pocketed about 3 pips. My pinbars saved the day. :)

January 11 2012 - pinbars

I've been doing some research on pinbars with some promising results. A pinbar is called such because it resembles Pinochio's nose. The long wick of the candle represents the "nose". The wick suggests a strong trend before a sudden and equally strong reversal. The "nose" in other words represents a lie, and anyone who tried to trade the nose would get hurt by the reversal.

The way to successfully trade a pinbar is to trade in favour of the reversal once the pinbar closes. Not all pinbars are equal. You can get poor-quality pinbars with short noses (or wicks) and long bodies that occur in the middle of nowhere, and you can have high-quality pinbars with long noses and short bodies that occur in meaningful places on the chart e.g. near resistance/support zones. The following diagram highlights five pinbars that developed over the last 48 hours.



Bar 1. This is what I'd consider a very poor quality pinbar. The nose is very short and the pinbar develops in between two daily pivots. However, if you did decide to trade, you would have done well, pocketing up to 40 pips. But note the retracement in the candle following the pinbar. It came very close to breaching the top of the pinbar, which is where I'd normally set my stop loss.

Bar 2. I would consider this a good-quality pinbar. It forms as a result of bouncing from a daily support level (the pink line). If you enter at the close of the candle, you have been handsomely rewarded. Note the minimal retracement in the following candle.

Bar 3. Likewise, another great pinbar. This one forms after retreating from the daily pivot point (orange line). The nose is really long, the body is short and it forms in a meaningful place. There is minimal retracement in the following candles. Nice.

Bar 4. This one is an "okay" pinbar. The body is sort of fat, and the nose is so-so. What would be most concerning is the fact that it is in the middle of nowhere. Trading this would've been okay for a scalp, but otherwise it is best to avoid. Note the retracement in the following candle that nearly hits the end of the nose. The fact that this pinbar forms halfway between the last swing high and swing low also decreases its quality.

Bar 5. I traded this one today and enjoyed a 20+ pip reward. The form and body of the pinbar is very good, and more importantly, occurs near a daily support level. Additionally, this occured in the weekly demand zone, which added probability in my favour. The retracement in the following candles caused me a little concern, but as my stop loss was situated at the end of the nose, I never got hit. Price then rallied to support level 1 (pink line). My take-profit was located just below here. Very good. :)

9 January 2012 trades

Not a good day today. I began shorting the fiber at the start of the Asian / Sydney session, pocketed a handful of pips, then re-opened a second short which blew up in my face.

I then went long as price entered last week's demand zone and would've profited verrrrrry nicely if I had kept it open. But it was closed about 15 pips in. I missed out on a potential 50+ pips. Scalped a few more trades afterwards. Even though I won those, I'm not comfortable with my reasoning behind them. Most of the scalps were impulse decisions which I'm trying to steer clear of. I also accidently opened an order when I was trying to modify one, which cost me a few pips. This was due to the shoddy UI design of MetaTrader 4 where important menu options are close to each other.

Finally, another long was triggered as price hit the upper exit of last week's demand zone. Alas, this was also where daily R1 was located and price bounced off it like a tennis ball. My entry was exactly at the top of the price curve before it reversed, so it really hurt. I dediced to close my long when I was down 15 pips rather than wait for my 20 SL to get hit. So I guess my loss wasn't so bad. If price movement reverses strongly, close your trade early.

Lessons learnt:

- Avoid impulse trading
- Stick to pre-defined strategies
- Trade mechanically whenever possible

6 January 2012 - fumbling the news

A horrific day at the markets today. Never underestimate the effect of news! In fact, never forget! I was casually watching the eur/usd chart when all of a sudden I saw a flurry of activity. At once, I assumed some major news just came out, checked my economic calendar, and sure enough, US unemployment figures had just been released. More importantly, unemployment was below the forecast.

Any divergence from the forecast = volatity. Before I could react, the euro began crashing and fell about 40 pips.

Never ever enter a trade emotionally. Being the nub that I was, I didn't want to miss out on such easy pips and decided to go short. Alas, I had entered the tail of the euro's dive. The retracement hit my SL and I lost around 10 pips. I entered two more shorts as the eurusd ranged and retraced, and lost both times. When I was down 30 pips I thought "fuck it" and quit.

It was a very expensive lesson. I got greedy. When I saw the euro plummet, I fantasised it would keep on going. Lesson learned. If you don't have a plan, never enter a trade. I pretty much wiped half of my winnings for this week.

Lessons:

- Never trade without a plan
- Never trade emotionally
- Always prepare for major news beforehand

Trades @ 3rd January 2012

A promising start to 2012 with two successful long trades with the fiber.

At the moment I'm experimenting with my own European breakout strategy. My belief is that the opening price for the European session can be considered "fair value", so I like to use it as a pivot until some major news comes out. I usually put in a trailing stop-loss once my trade is halfway towards my TP. A trade is opened when the price moves 15% away from the opening price, with a take-profit limit set a further 25%. I enter a trailing stop loss once the trade is halfway towards my TP, and my stop-loss is set between 0-5% on the opposite side of the opening price. I may set my stop-loss much tighter in future to improve my risk:reward ratio, but it's what I am using at the moment.

Trade #1

Opened a long trade at 1.29870 with an initial SL equaling the opening price of the European session, and a TP at 1.30120. Spot price fell short of 1.30120 before receding, so I decided to take profit at 1.30033. Nominal profit = 16.3 pips.

Trade #2

Used the same strategy as in Trade #1. Opened long at 1.29881 with a same TP at 1.3012. Price began to recede past the halfway mark and hit my trailing SL at 1.30017. Nominal profit = 13.6 pips.