Chapter 3-4 Style Selection
As a hedger or speculator in the futures markets, you will have to choose a style or strategy that is profitable and fits your personality. One of the pitfalls many commodity traders fall into is the constant changing of trading strategies. They often spend weeks researching a particular trading method and have good evidence that it should work. They will then start trading it with real money and eventually there will be some rough periods where it hits a string of losing trades. Then, of course, the strategy is abandoned and the hunt for a new trading strategy begins.
One of the main traits of a successful Futures and commodity trader is consistency. This means that you should keep using a trading strategy long enough to see if it works. The markets often rotate from trending to trading in a range (countertrend). A strategy could work well for a couple weeks while a market is trading in a range and then it performs poorly when the market begins trending. New traders will often abandon a system once they have a series of losing trades or they trade too many futures contracts after they have a series of successful trades – thinking they have a license to print money.
A recipe for disaster is dropping a strategy when it has some losing trades and then start trading another one. Normally, just when you drop a strategy is when it will start working again. Even worse, is the new strategy that you are trying to adjust for is probably going to have a down period when you begin trading it. You have to be able to deal with the existence of probable randomness in any market. In every trading strategy you are going to have periods of losses and gains. As long as, a trader sticks to proper money management and trades there plan they will come out a winner.
Once you understand the concept of probable randomness, it is time to choose an analysis style that you will use to find profitable trading setups. It will take time and experimentation to discover the style that best fits your personality. Don’t try to cut comers here. The better your trading style suits you as a person, the lower your levels of emotional stress, and the better your results will be. Trading is the business of backing strong opinions with money, and as a result just about every trader has a strong opinion that his or her way is the only way to trade. You must begin to search out your style with the clear understanding of this fact, and the fundamental truth that there is no right way to trade. Some styles seem ludicrous on the surface yet provide a steady income to their inventors. If a style fits you and produces consistent profit trade it. The first choice you must make as a trader is to choose which time frame to operate in. Do you wish to become a position trader with an average holding period measured in days to weeks? Or perhaps a daily based trader with holding times measured in hours to days? Or lastly, a small time frame day trader with holding periods measured in minutes to hours? Each style has its pros and cons, and each has its own risks and rewards.
The position trader has the advantage of time. The weekly setups they trade take time to form, time to set up, and time to follow through. The size of the stops and the expected reward make slippage a nonissue, as each tick is such a tiny piece of the move she is trying to capture. News blips, head fakes, and whipsaws will not affect their positions as these spikes in price will just be seen as noise in the deep time frames. There directional bias will eventually be proved
right or wrong by the market, and the chance of some other market event causing them to stop out is small. They can take just about any position size, as there is liquidity that is unparalleled on the weekly charts. There risk-to-reward ratios are among the best available, but it takes patience and guts to hold on for the big trend moves. On the downside, there will be a variety of tradable patterns in the smaller time frames they will miss holding the wiggles. These wiggles present a profit opportunity for those trading the daily charts, and the setups in these time frames will be missed by the position trader. A position trader may only find two to three quality setups in a year for each market traded. So, if a pattern is missed, it can be quite a while before the next setup shows itself.
The daily based trader has an agility and speed that the position trader lacks. There are many more profit opportunities each day, week, and month on the daily and hourly charts that a daily based trader can exploit. This constant turnover allows the overnight trader to constantly keep his money working in the market. He is trying to position himself in only the markets that are likely to be moving today, and in an ideal world would see a gain in the positions he has entered every day. If he misses a setup, there will be many others to choose from. When the market is hot he can string together a multiday winning streak of 10 or more profitable trades without a loser. When the market is tough, he will have to survive periods of time where none of his patterns are following through, and a depressing draw down begins to form. The emotional highs and lows of the daily based trader are more pronounced than those experienced by the position trader. The time commitment of a daily based trader is much higher. Hours of market research each night and real-time analysis of setups are the norm for this style of speculation. Take another jump up in intensity and you will find the day trader. This trader is an emotional athlete, an individual who is able to take a beating one minute, then turn on a dime and make it all back and more. This is the most intense, fast-paced, and potentially profitable style available to the professional trader. It is highly leveraged, and this trader’s edge is often a function of speed and willingness to accept risk without confirmation. Spikes and intraday whipsaws that are ignored by the daily and weekly based traders are life and death for a day trader. Market savvy and timing must be honed to a precise science, and it is for this reason that you will find many of the most successful day traders to be those with the most experience. These styles all have their pros and cons, and some traders may choose to specialize in one particular time frame, while others will build a strategy that draws from several of these styles. There is no wrong way to trade if you can do so with acceptable stress levels and show a profit. By experimentation and research you will find the time frame that fits you best as a trader.