Draw down, Whipsaws and my 3 months trading!

I have something to share from the recent trading experience in this volatile market enviroment.

Let me first put down few questions related to mechanical trading.

What kind of drawdown you should be prepared to absorb to avoid getting out of your trade?

How many whipsaws you can survive to remain holding the position in a particular counter?

Is it worth to remain entering all the trades in the counter despite it sucks all your capital slowly but steadily?

I faced all these questions since Jan till early may and didn't have perfect answers though i knew them partly. Now, I beleive i have those answers and let me share here.

After turning out to be a pure mechanical trader, this is the first longer whipsaw phase I have witnessed in my trading career. After doing patch of trials and patch of real trading in 2011 based on a mechanical system, decided to load the guns fully in 2012. Started with more capital from Jan'12 and increased the trade basket size. I have settled with Crude oil and Silver and partly with Nifty. What happened then? When you expect something, it won't happen!

Let us find answers for the three questions at top, from my own experience.

Q # 1: What kind of drawdown you should be prepared to absorb to avoid getting out of your trade?

Ans: If you have a faith in your system and if you have earned money for some time, then be prepared to take any deep cut i.e. the very deep drawdown in your account. Since Jan till end April, I had 120% drawdown from my margin money. I beleive this is not the worst and i may have more draw down also in future when the volatility is going to be at its best.

Q # 2: How many whipsaws you can survive to remain holding the position of the counter?

Ans: If you are experiencing whipsaws means, markets are seeking direction. It has no signal from the market participants after a bigger move or pretends that it has no signal prior to bigger move. In a mechanical trading, it’s very hard to skip the whipsaws till you gain some knowledge and experience. Let the whipsaws run and do not count them as it’ll frustrate you. I had 21 consecutive whipsaw trades in crude oil which resulted in the drawdown I explained above. This phase was going on for three full months. The 22nd trade wiped all the loss from 21 trades and yielded extra profit of 40%. And the best part is, that profit was poured in just 3 days! 3 months of frustration was cured in just 3 days in a lightening speed. So, make it clear that whipsaws are part of the game and you don’t need to break down for the same.

Q # 3: Is it worth to remain keeping position in a particular counter despite it sucks all your capital slowly but steadily?

Ans: When crude oil was boiling my account with 21 whipsaw trades, Silver was also in competition with crude oil to beat it’s record. Silver was making its 20th whipsaw trade but I had to quit the position as I was in a position to remain in either one of the crude oil or Silver due to shortage of funds. Considering various factors, I have decided to say bye to silver and stuck with oil. When I left silver, my silver account was down by 70%. After couple of days, It had its bigger move and within a week and needless to say it has produced 120% of returns.Managed to pocket part of the profits here by entering in a mid-way.

This has become a routine with mechanical trader that he takes all losses in the whipsaw mode with the hope that “bigger move is here”! But, when he is in the kissing distance of such move, he exits the position. This was a repeating story for me in 2011 but I have made all arrangements and mentally set to avoid this situation this year.Still, I was able to sat tight only with crude oil but had to dump silver. So, it doesn’t matter how bad the whipsaws, you shouldn’t exit the position if you are following a mechanical system. Prepare youtrself in such a way!

Now, what am going to do to avoid all the above three situation as it would happen quite often month after month and year after year! That’s for sure!

Simple – I am going to trade only with 33% of my trading capital.

If you want to make money from the markets, do not fund your account with just little above the margin money. I was having the theory of keeping 100% of the margin money in reserve i.e, you trade only with 50% of your capital available. Now, I’ll make sure that I keep 2 times more than the margin money in my trading account i.e., I would utilise only 33% of my trading capital and the rest would act as the shock absorber to manage drawdown.

Note # 1: One must understand the difference between hope and trust. Hope sometimes is dangerous (thanks to shashank redemption). Do not blindly hope that after certain draw down or whipsaws, you will get windfall returns. You should have done your home work i.e, back test, paper trade or the real trading for some time which should reinforce your trust in the mechanical system you are trading. So, if you can trust your system, stay calm at such testing times but never blindly remain in hope!

Note # 2: Someone can have the doubt as “Is it worth to trade with only 33% capital?” My answer would be – It’s damn worth coz you are going to execute all the entries and not going to leave a single entry. This would make you richer than what if you would have traded with your 100% capital by missing few trades!

Note # 3: All the above are applicable only to the fellows who really can’t spend their full time in the markets but wants to make money using a mechanical system. If you are a full timer and can make more money by spotting trends and whipsaws, then skip this post :)

Holy grail!!

Do you have a wonderful trading system, one that consistently makes you money? You probably believe that you have found your holy grail but this couldn’t be further from the truth. Your system has very little to do with consistent profitability in the markets.

I often here amateur investors talk about that the “best way” or “only way” to invest and argue why their way is better than everyone else’s. The passion and energy exuded by these novice investors is wonderful but they are missing the point completely. No one can say that options are better than stocks, commodities are better than options or forex is better than everything, etc… Each investor develops a system that is suited to their own personal character traits and they use a vehicle (stocks, options, forex, commodities, real estate, etc…) that can help them reach their goals.

Investors also debate systems within a market such as: trend trading, swing trading, scalping, shorting, day trading, buy and hold, fundamental trading, technical trading, Elliot wave theory, moving average crossovers, etc… They all work if the “person” understands the holy grail of trading. And that is being able to understand YOU and how your mind works.

However, it is not the system that makes one successful. It is YOU that makes the system work properly. What do I mean? Each individual must master their own personal psychological impacts on their trading results. You must work on YOU to become consistently successful! I recommend reading The Disciplined Trader by Mark Douglas if you would like to understand the psychological trader in you.

To say that one system or vehicle is the “way to go” is ignorant.

Pick up any Market Wizard book and read how these men and women made hundreds of millions in the markets using different systems. The only thing they all had in common was money management and risk management. That’s ALL! Every one of them traded in different ways and used different vehicles but they all watched their risk, calculated proper position sizing techniques and understood their system’s expectancy.

Money management, also termed as risk management is a major part of the holy grail of investing, NOT THE SYSTEM! Novice investors will eventually understand this after many years of trading (some quicker than others).

So, if someone ever tells you that their “system” is better than yours, turn away and run and run fast because they don’t know what the hell they are talking about.

Here are some examples supporting this idea from the Market Wizard books:

* Michael Marcus turned $30,000 into $80 million trading futures
* Michael Steinhardt ran a fund that averaged 30% annual return over 21 years trading stocks
* Tom Baldwin started with $25,000 and eventually traded $2 billion a day in T-bond futures on the floor or in the pit.
* Paul Tudor Jones ran funds that averaged triple digit returns for five consecutive years trading multiple markets
* Ed Seykota realized an astounding 250,000% return over 16 years (yes that says 250,000%) managing accounts trading in the futures markets – possibly the best trader of our time
* Bill Lipschutz traded currencies with a staring account of $12,000 (started out as an architect – very motivating for me since I started the same way).

The list can go on forever but the point remains the same; they all traded different markets with unique systems from different locations (the floor, an office or their home in the mountains) but they all had one major factor in common: money management and risk management.

Just about every market wizard refers to position sizing as a major part of the “holy grail” of trading. Van Tharp (also featured in Market Wizards) coined the phase in the first edition of his book but he only realized that money management was the holy grail after studying and speaking with hundreds, if not thousands of very successful traders. Tharp’s Book, Trade Your Way to Financial Freedom, is a must read if you would like to understand position sizing and expectancy and learn more about understanding “you”.

The Holy Grail of Trading:
Understanding you and combining that with sound money management rules. Conquer these two entities and you will be successful beyond your wildest dreams!

Courtesy : www.chrisperruna.com

Jan-2011 - Huge eye-opener!!

It has been tough four months since started trading in commodities.. really loved the commodities movement which suits me well compared to nifty.. but swift movements kill you completely, if you are on wrong trade.. have been testing the system in live trading and started well with the system..but did some errors like early entry and exit, over trades etc have shown me negative returns by the end of first two months..

I have decided to go for trades only as per system and let me stop gambling... i have started Jan-2011 with staying tight on the system.. i am now happy by end of the third month as system gave me decent returns.. just posting the table below for comparison..



After analysing the trades of last three month, i have come to the following conclusion.

1. Never ever enter or exit without having the signal from your system. Only exception is that you should be in very handsome profit in a single trade. I have set the benchmark for the handsome profit as 100 points in oil and 10 points in copper from entry.

2.Don't hesitate to reverse the trade which is in huge loss(don't even think that you will get a chance next day to reverse with less loss.Next day's movement might even erode your capital completely). After reversing, you may overcome all that loss in that entry.

3. Avoid small range counters like Aluminium, Lead and Zinc.Since the range is small, entry and exit happens quite often without realising profits. SL is triggering on the same day whereas you will again see the entry price next day after exiting the trade. It also increases the turnover but the returns are not worthy for the positional trades.

4. Filters should be used to avoid false break-out trades. 0.2% is optimum filter. But if the entry is done after a big rally or fall then 0.3% filter will help to avoid whipsaws.

5. Avoid sitting infront of terminal which makes you to react for every wild tick movement.

6. Adjust the High/Low and close prices of the holiday trades in the next day's levels to reduce loss.

JUST TRADE YOUR PLAN!! thats it.. Keep it Simple Silly!!