Here are a few thoughts about trading that I have learnt over the years:

In trading all of the analysis boils down to  just three simple decisions, whether to go long, whether to go short or whether to do nothing. When the market is rising the best strategy is to be buying. When the market is falling the best strategy is to be a seller and when the market is moving sideways the wise man will do nothing. Virtually all trading systems make a large proportion of their total profits from  some form of trend whether that occurs over minutes hours or days.

Trading is probabilistic and there are never any certainties. So you must always think in terms of probabilities. Never think  – is this trade going to be a winner or a loser ?  Operate with a sound proven systematic methodology then think  if I repeat this action hundred times will I, on balance, be  better off or worse off. On any individual trade you can make all the “right” decisions and still end up losing money because of the pure randomness of the market and outcomes. But over one hundred  trades if you make all the right decisions using a methodology with a proven statistical edge you will almost certainly end up making money. This is because that whilst the  probabilities can be upturned  over small sample sizes they can never be beaten over much larger sample sizes. You cannot beat the probabilities over the long term so make sure they favour you.

Be cautious about the value of all the tips and financial articles that you read. The old expression “if it is in the press it is already in the price” is very true. By the time you and I get access to such information and  have completed our analysis price will already have responded to that news. Also if you receive a tip to enter a market unless they will also tip you when it is time to exit  the market you are probably no better off.  The money is made more on the exits than on the entries. It has been shown statistically that you can have random entries but with a good exit strategy will still make money. Conversely no matter how good your entry strategy is, if you are using a random exit strategy, you will not make money.

Navinder Singh Sarao it turns out is a pretty useful trader one of his former colleagues at the company in the UK where he was trained says that Sarao had around £2.5 million pounds with him in his trading account when he left the company.

Many people have been asking how he could possibly compete with the high-frequency traders while based in his parent’s house in sunny Hounslow. Well it turns out that one of the data servers for the Chicago Mercantile Exchange is located in ………….. wait for it …………Slough !

And the nearer you are to the server, the quicker your order hits the market.

It means he was in a position to get his orders queued ahead of City-based traders, even if they hit the button at exactly the same point in time as him.

Certainly the SEC is blaming him in part for the Flash crash which may or may not be the case. However many others are pointing out that all he was doing was spoofing the multitude of front running high-frequency trading computers. In other words he was not hurting real traders.

So how does front running and spoofing work?

Front running does not have to be illegal. In high-frequency trading the front-running computers are looking to get in ahead of big orders in the expectation that when the big order hits prices will be driven a little further in that direction. So on the S&P if the front running computer sees a big sell order located slightly above current price it will nip in and place its sell order slightly before that price so it gets filled first. As soon as price moves down a tick or two when the big front run sell order hits the front running Computer will cover its position for a small profit. They do this hundreds and thousands  of times a day. If they do it as stated above it then front-running is not illegal.

Spoofers such as Navinder is alleged to be recognise that there is a trading opportunity by double bluffing the front-running computers and this is apparently what he was doing.

A key part of the allegations against him are that Sarao used computer programmes (algorithms) to place fake orders in the eMini S&P futures market.

So called ‘spoof’ orders aim to manipulate market prices up or down by showing an apparent but fictitious demand or supply for the underlying asset.

Effectively spoofers aim to lure front-running computers into the market by placing large fictitious orders and then they take the other side of the front-running computers orders then manipulate the market in the opposite direction to make their profit.

So the spoofer will place a large number of sell orders slightly above current market price but with no real intention of those orders ever being filled. They will also place a smaller genuine buy order slightly below these levels. This is the order that they want filled.

The front-running computers see this big batch of sell orders and attempt to front run it by rushing in first – in the hope that price will keep going down when the spoofers sell orders get hit. The spoofers genuine buy order effectively now fills the front runners sell order. So the spoofer in now long. To take his profit the spoofer can then pull all his sell orders and reverse the process on the buy side.

So the spoofers argument is that all he is hurting is the front running computers and nobody likes them anyway. The problem is when it all mushrooms and gets out of control as it did in the flash crash – then innocents  are hurt …..bad.

All this happens in milliseconds and therefore it can be argued that such trading does not affect normal traders such as you and I. In fact on that single  day he is  accused of placing and cancelling orders 19,000 times so it is all really going on in the background unseen by us.

The problem is that spoofing quite understandably is illegal because by placing orders that you have no intention of ever getting filled you are deliberately misleading the market. Front-running on the other hand if carried out in the manner above is perfectly legal.

Here are a few of the lessons that I have learned the hard way in my career. Hopefully I can save you the effort and losses of having to learn them from scratch yourselves.

Do not concern yourself about whether this trade was a winner or a loser it is just one trade in a long series of trades.  Concentrate on implementing the plan correctly rather than worrying about individual outcomes. Always think in terms of probabilities i.e. if I repeat this action 100 times will I be making money or losing money. Trading is all about managing and exploiting probabilities. On any single trade you can do everything  “right” and still lose money but if you followed your plan then it was not a bad trade. None of us can be right 100% of the time

Always start your market analysis by determining the trend of the market. It is much easier to make money trading with the trend than against the trend. The best trading opportunities occur when you’re trading with the trend and better still when the short, medium and long-term trends are all confirming each other by heading in the same direction.

K.I.S.S – Keep It Simple Stupid. The simple stuff works whilst the complicated stuff often just confuses. The best systems are the simplest systems. There is generally a direct relationship between the number of rules used in a strategy and the likelihood of it failing in the future. Using just a few parameters will produce a robust system. Using too many parameters will produce an unstable over optimised system –  system robustness is generally  inversely proportional to the number of degrees of freedom in the system.

Trade only strategies that you have first proved to work by forward testing either by  paper trading or using a demo account. Purchased strategies rarely if ever live up to the hype so they must be tested before being traded. Strategies you build yourself are often accidentally fitted to historical data and this only becomes apparent when you forward test on new data.

Standing aside or being flat the market is a position of itself and often times a very good one !   Much of the time markets are difficult to trade and the wise trader will wait for the opportunities that favour him before entering trades. Like a good army commander we should always carefully select a time and place to have the next battle where the odds clearly favour us.

Spend time analysing your losses. Each of these losses would have cost you a lot of money at least make sure you learn any necessary lessons. Most traders are too frustrated and angry and disappointed with a losing trade to sit back and logically analyse where they may have gone wrong or what they could have done differently. Success in trading is a process not an instant destination. We all keep having to learn new lessons and taking small steps forward. Those that keep improving their game step-by-step  will eventually succeed. As that old saying goes “insanity is doing what you have always done but somehow expecting a different result to occur”. We must keep modifying our  behaviour and trying new techniques until we have  honed our skills to the degree that we can  make consistent profits.

So what is he accused of doing ?

Well the allegation is that he purchased some off the peg computer trading software. Then paid to have it modified such that it would help him to hide his orders by placing them as the book changed on a price movement.

Using this software he would then place very significant sell orders in the emini  S&P market (and other markets) slightly above current price. This created the appearance of a large group of sellers in the market and would often give the market a slight downward nudge as traders thought “well if there are all those many sellers just above the market it can’t go up so it may well go down”. The main intention however was to lay bate for  front running computers.  This practice is known as spoofing ie placing orders in the market that you have no real intention of ever allowing to be filled. Spoofing if proven is illegal. Front running does not  have to be illegal.

This technique is well known and although illegal it is alleged is quite commonly used by the larger institutions and is well covered in the book “flash Boys” which no doubt Navinder  had read !

According to the SEC Navinder had allegedly been carrying out this type of trading for several years and built up a trading pot of around $30 million. He had during this period of time apparently received a number of enquiries/warnings from both the American and German exchanges warning him that this type of activity was illegal. He apparently continued to trade. Possibly a big mistake in hindsight.

The main allegation from the SEC appears to relate to the so-called flash crash. A sudden drop in US markets in 2010 that was over and done with and reversed within about 30 minutes. At the bottom of that crash over $570 billion was wiped off the value of stocks and shares. In fact within half an hour all those losses were pretty well fully recovered as the market bounced back. But a lot of traders lost a lot of money as they were stopped out of long positions well before the market bounced back.

On that day the allegation is that the Navinder  placed multiple orders for 100+  E-mini S&P contracts  and then cancelled them over 19,000 times in that single day (spoofing and layering all the way down)  this it is claimed put the equivalent of $200 million of apparent selling pressure   on the market. I’ve seen one claim which suggests that on that day orders entered by the Navinder accounted for nearly 20% of all sell orders entered on the E-mini S&P market. That is truly astounding if true.

Given that spoofing and layering is not at all uncommon in the markets the question really revolves around why Navinder  has been picked on rather than some of the many US institutions that also could be accused of similar activities. We will have to wait and see but my gut feeling is first of all he is not American ! which is not good news for him  -and  secondly whilst  he was carrying out a far from unique practice if the allegations are true he was carrying it out in in a somewhat crude and possibly over the top manner and consequently stuck his head too far over the parapet.

Even so it is interesting to note that the statute of limitations for this crime would have expired in two weeks time so the SEC have hardly rushed themselves.

He apparently faces 22 charges which could total 380 years in jail.  To make things even worse I believe the CME exchange is suing him for $40 million.

The American legal system in such matters is very tenacious and somewhat unforgiving . You only have to look at the case of the NatWest three who were extradited several years ago. Once extradited the US court system tends to push the accused towards a plea-bargain. In other words if you plead innocent and lose the case they throw the book at you. As the “book” is often hundreds of years in jail many accused find the only sensible option is to plead guilty for a significantly more lenient sentence.    I believe one judge described it as the carrot and stick technique where the carrot is if you plead guilty we don’t hit you with a stick !

So if Navinder is extradited I think he could be in serious trouble. I suppose the good news for him is  as with the NatWest three it can actually take many many years for the extradition process to run its course. The bad news is as with the NatWest three they were pretty well bled of all their savings in costs to first fight the extradition and then additional legal costs in fighting the case in the USA.

The claim is that on the day of the flash crash Navinder made around $800,000. Truthfully a drop in the ocean compared to the losses and profits made  on that day. My profits on that day ran into five figures although of course I had no idea what was happening and just let my automated systems  trade for me .

So the bad news for  me is I did not make $800,000 that day although on the positive side I don’t face 380 years in jail !

One of the reasons I recommend people start their trading career by trading Forex is that the Forex brokers tend to offer small traders so much for free.

One of the freebies is often a demonstration account. This acts and feels exactly like a real account except that you are allowed to use Monopoly money instead of real money and consequently no real trades are ever executed. This means that you can practice and perfect all of your trading strategies and ideas in a totally risk-free environment. Generally the brokers will limit the time you can use such a demonstration account as clearly they want you to be trading with real money but normally you can  just re-apply or move on to a new broker.

New traders should definitely not be rushed into trading with real money.  As with anything we try in life that is new we will make some really  big blunders and it is best to do this with Monopoly money rather than next week’s rent.

Probably the biggest argument I hear against starting on a demonstration account is that it does not simulate the psychological pressure that you experience when trading with your own real money. That it is easy to have a high tolerance to risk when none of your own money is at stake. The argument goes that because of this feeling of  financial detachment it is easier for novice traders to make the correct difficult decisions that are necessary in trading but much more difficult to repeat these in a real money account.

To some extent I agree….. but…..I think that this partially misses the important point  that when you start your trading career you are not really trying to make money from day one. You should be concentrating on trying to learn to trade and then apply the correct successful techniques and methods. Whether you are under psychological pressure or not with a demo account you can practice and practice until you have formulated a methodology and systematic approach that makes you consistent money. This in itself requires a certain amount of practice and trial and error  which is far better carried out on a demo rather  than using real money.

Once you have a methodology that works on a demo account THEN the next challenge is to replicate that with a real money account.

My recommendation is to then move on to a real money account and trade at the smallest level possible. Try and replicate your demo account results whilst taking just a little bit of risk with your own real money. Maybe deposit US$500 in an account and trade mini lots. Once you have achieved good results in both the demo account and mini account you should have significantly more confidence that you know what you are doing and more importantly that you now know what works and what does not work. At this stage you can scale up your trading a little by depositing additional funds.

So the best solution is to build up your trading progressively one step or stage at a time.  Before moving from one stage to the next  demand proof of yourself that you really can make profits and have mastered the techniques.

After all if you cannot make money on the demo account what on earth would be the point of moving up to real money account. Equally well if you’re not sure whether you can make money or not in trading why would you choose to test  that in a real money account when somebody has kindly provided you with a demo facility.

I strongly suspect that novice traders when they are learning to trade  spend more money buying useless “never could work “ trading strategies than they suffer in actual trading losses. They endlessly move from one “too good to be true” system to another without first standing back and trying to validate the claims made.

Here are a few pointers for the sorts of questions you should be asking before you buy any trading strategy or training course.  Let me say right at the start that from over 30 years of trading experience I can tell you that the vast majority of trading strategies that are sold today not only do not work but they could never work. They are sold to frankly naive and gullible traders on the basis of ridiculous and unsubstantiated claims made by the vendors who are almost invariably marketing men not traders.

Firstly try to validate the trading credentials of the vendor themselves. If they have this fantastic system for sale then they must be trading it with their own real money. Asked to see a few of their own real money brokers trading statements and don’t accept any excuses. This will eliminate over 95% of all trading strategies and course on the market today. Yes that is right over 95% of vendors selling such strategies and courses do not trade them with their own money – that is telling you something very important – and it is not telling you something good !

Having purchased a strategy always trade it on a demo account initially. Prove the strategy works with Monopoly money before risking your own. If you think it’s bad enough losing $1500             buying a strategy or course then believe me it is far worse if you then go on and drop another three grand trying to trade something that could never work !

Ask what the worst theoretical historical drawdown has been over say the last five years. If they say they do not know then ask why they do not know such a critically important figure.

Asked how long this particular strategy has been available for sale to the  public in a completely unchanged state. Often vendors will release a strategy then  find that it has crashed and burned after three or four months so they then  release a new version with a few tweaks that make it look tradable again. This is often a never ending repeating pattern every few months they release a new version. So when you buy version 27 of  a can’t lose trading system don’t think that this version has finally ironed out all of the problems  – think precisely the opposite

Ask what is the average trade profit and if this is before or after allowance for commission and/or spread. Often you will find, with short-term systems especially,  that once you take into account a realistic spread then an apparently winning system turns into a losing system

To be honest the real key to not getting ripped off is point one above. If the vendor can prove he makes real money on a real trading account then he’s probably worth listening to and buying from.  if he cannot then is almost certainly he is just another snake oil salesmen – walk away. It is THAT simple.

Why is it that some traders make good money from trading whilst others tend to trade around break even and just  tread water even though they both have similar levels of expertise and are apparently doing very similar things. Well once you have learned the basics of trading the difference between achieving either of these two outcomes can be down to just very small differences in behavior and actions. ie you can be doing almost everything right but still not pick up the big money.

Here are three errors that even often competent and experienced home based traders still make that hold them back from achieving  the big rewards that are available in trading.

Holding on to losing trades and cutting profits short on winning trades is a classic mistake. When you look at results from trading systems often you will find that almost all of the total profit earned could be attributed to just a few of the biggest winning trades. If you take profits on all your trades too early you will never have these critically important occasional homeruns that occur on what is known as the long tail of the statistical distribution. Our natural tendency to grab at any profit may well prove right and comfortable in the very short term but  in the long term over a series of say a hundred or more trades it will prove to be counter-productive. One of the world’s greatest traders is quoted as saying “trading is counter intuitive” what feels right and comfortable is often the wrong  course of action over the long term and what feels wrong and uncomfortable is often what in the long term makes sure rich.

Going for very small  profits – so-called scalping – is also a classic rookie mistake. Whilst the professionals can and do scalp the  markets they have many advantages over most normal home based retail traders. One of the many  problems for retail traders is the spread – the difference between the buying price and the selling price. Whenever a retail trader puts a trade on he’s immediately down by the spread. For example let us assume that you are paying a 2  pip spread. If you then go for a 5 pip profit even if you win on the trade 40% of your profit is eaten up by the spread. Conversely if you go for a 50 pip profit only 4% of your profit is taken by the spread. Don’t fall into the trap of trying to scalp the markets as a retail trader – it does not work.

Going for  poor risk reward ratios  also  rarely works over the long term. I would recommend a minimum risk reward ratio of  1:1. This means that if your stop loss is 20 pips away the minimum profit you should be looking for is also 20 pips. In my own trading I typically look to average a risk reward ratio of 1:1.5 plus over a series of trades.

If you go for a risk reward ratio of less than 1:1 you put a lot of pressure on the strategies win rate to ensure that you come out ahead. For instance if I use a 30 pip stop loss and 10 pip profit target (a risk reward ratio of 3:1) I will need to have at least 75% winners just to break even. Over a long series of trades this is very very difficult to achieve. Conversely if I have a risk reward ratio of 1 to 3 (risk 30 pips to make 90 pips) even if I only have  33% winners I will still break even.

Why would anybody want to  trade forex and futures ?

In  earlier article I listed five reasons why people might choose to trade Forex &  futures either part-time or full-time for a living. The list of good reasons is almost never-ending so I thought I would add to that list with a further five excellent reasons why trading can transform your finances  and greatly enhance the quality of life that you live.

1) You can trade well into your retirement years. If you are doing any sort of physical work it is highly unlikely that you would be capable of working past your retirement age.  Trading can be carried out  equally well by both young and old so you really can trade up until you are 90 if you wish. So long as you can sit at a computer screen for 15 minutes per day you can trade. In these times when we are all being forced to work longer and longer and pension payments are getting smaller and smaller  this is a great way of supplementing or indeed creating an income for your retirement years.

2) You have a real asset to leave to your children.  If you finally find a  route out of the nine to  five grind you can also pass that  knowledge on to your children. You will also have a learned a specific skill that again you can pass on to your children. This could be the most valuable inheritance that they could ever receive. Sure you are giving them a way to earn an income for the rest of their lives but much more importantly you are giving them the gift of freedom !  Something I am sure both you and I would have killed for at the age of 20 or 30.

3) You will finally be in control of your own life rather than at the beck and call of your employers or others. Psychologists will tell you that one of the most important contributors to longevity is to have an internal locus of control rather than an external locus of control. An internal locus of control is where you feel that you are  in control of your own life and destiny. whilst an external locus of control is where you feel that your life is being controlled by others. Trading allows you to the work the hours you choose doing what you want to do  and potentially make large sums of money which in turn will allow you to feel much more in control of your own life and future.

4) Trading finally provides  us all with the same level playing field. You are no longer at a disadvantage  because you did not go to the    right school or  do not have  a university degree or speak with the right accent.  None of that matters a jot in this business . All it takes to succeed is determination, persistence and discipline. Trading is truly the most equal of all the opportunities out there. Anyone who wants to become a trader can learn it from scratch and there are no entry qualifications required.

5) You may get really really rich !  Look let’s be honest not everybody will succeed in this business and of those that do not everybody will become really really rich………. But…………. The opportunity to do so is genuine and really exists. What are the chances that you could ever become really really rich in your current occupation ? The first rule of making money is to be where the money is being made and believe me a lot of money is being made in trading

Well that is another five great reasons why I believe everybody should consider trading forex and futures for  either a part-time or full-time income.  To be honest I could list another 50. I am now nearly 60 years old and the  two best opportunities I have come across in my life are  property and futures trading. Futures trading has the edge because you do not need such enormous sums of capital to get going in it. Just a few hundred dollars a laptop and an Internet connection and you can learn to trade and really can be on your way to earning a great living and perhaps very much more.

More and more home-based traders are using automated trading systems rather than discretionary judgement based methodologies.

Automated trading systems or “robots” as they are sometimes called  can be left to trade unattended and do not require the  individual  trader to make any decisions during the trading session.

Other advantages of this type of trading include:

It is evidence based. As there are no discretionary judgments being made by individual traders all traders trading the same system will get near identical results.

More importantly the systems can be fully back/forward and walk forward tested to show how they have performed. Whilst this does not “prove” they will perform similarly in the future it gives the trader far more confidence than when trading a discretionary system where no such evidence is available.

Many of the psychological problems associated with trading and failure in trading disappear as during the trading session the computer is “left” to make all the decisions.

Systems can monitor markets and recalculate entry and exit points much faster than humans and also physically place the orders much faster. They do not make the mistakes humans make (ie going long instead of short, keying in 2 contracts instead of 1 contract, panicking and exiting before the allotted levels etc)

Many markets today trade more of less around the clock and computers can monitor and trade around the clock and don’t get tired or bored.

Computers can monitor and trade an almost unlimited number of markets (even on very short time frames) at the same time. This means the available field of markets and instruments you can trade is increased dramatically and allows far more efficient use of trading capital ie it can be “sweated” 24 hrs a day and used multiple times throughout a 24 hour trading day which can dramatically improve and smooth results.

Once the Algorithm has been formulated the trading process has been de-skilled sufficiently for almost any disciplined individual to trade the Algorithm as intended – In the same way as manufacturing processes are deliberately de-skilled to a point where almost anybody can perform the simple tasks that remain.

Certainly fully automated systems are ideal for traders  that have a limited amount of time or who  become psychologically de-stabilised or fatigued when using discretionary systems  or those who’s trading has progressed to a level where they want to trade a large number of markets or instruments at the same time.

When you are learning to trade forex one of the first decisions you have to make is which broker to use and indeed which type of broker to start with.

The forex market is an unregulated market or OTC (over the counter)  market which does not trade on a formal exchange like commodities or stocks and shares do, This means that at any particular time there is no absolute correct price for any currency pair and the prices you get from one broker might be different from those that you get from another broker. This in itself can provide trading opportunities.

There are mainly two types of brokers. Market makers and ECN (electronic communications network) brokers.

Market-makers do exactly that – they make  and quote  their own market prices. When you buy they personally sell to you and when you sell they personally buy from you. The market-maker is therefore your counter party. They make both the buying price and the selling price and it is for this reason that they can keep a fixed spread and not re-quote because they are in control of both prices. Whilst It is true that on occasion they do try to hedge your order by passing it on to another party in reality much of the time they do not do this and they simply take the other side of the trade so you are effectively trading against them. This obviously is not an ideal situation as there is a clear conflict of interest between the broker and the trader. The other side of the coin is that market-makers tend to give you free platforms, free data feeds, free demo accounts, allow you to trade very small lot sizes, never re-quote, do not charge commissions etc

ECN brokers pass on  the prices quoted from banks, market makers, and other traders in the electronic communication network and then display the best prices based on these quotes. They charge a fixed commission on each transaction in the same way as a conventional stockbroker would. Because the ECN broker is not in control of the bid and ask prices you will occasionally get re-quotes. Also as in theory they pass your order on to a bank or other participant in the ECN network you may  have to trade bigger lot sizes (ie no micro mini contracts etc) .

It is for this reason that very often novice traders have to start by using a market-maker and then as their trading progresses perhaps move to ECN brokers. This would be my own advice to novice traders i.e. initially start using a market-maker because of the many advantages they provide for the small trader but as your trading progresses move to an ECN broker and also into  markets other than forex.

Events from a few weeks ago certainly show that there is rather more to learning to trade forex than just worrying about the entries and exits.

When the Swiss central bank abandoned its policy of limiting the value of the  Swiss Franc to 1.2 Euro it certainly highlighted the importance of choosing your broker carefully.

FXCM, one of the largest forex brokers in the world,  lost around $225 million on the subsequent move, Alpari filed for insolvency and IG index stated that they could be in the hole for around £30 million.

Interestingly other brokers sailed through the storm apparently  untouched and as usual there were several rumours of “unusual” transactions in the Swiss prior to the announcement.

The FXCM woes (and other brokers)  were caused by their policy of not pursuing clients for losses in their accounts that are in excess of deposited funds. With the high levels of leverage available in forex combined with sudden big “fast market”  moves  this becomes quiet possible. So if a FXCM client had $1,000 on deposit but sustained losses of $3,000 on the Swiss before FXCM closed him out then FXCM took the $2,000 loss onto their own books.

Alpari apparently followed the same policy. Other brokers such as Interactive Brokers have stated that they will pursue clients for the full extent of the losses tht they have incurred and I suspect that IG will do the same.

As a trader I guess you can argue the benefits of which broker to select  either way. Those that used Alpari  now have the inconvenience of getting their funds back and of  finding a new broker but have not lost their house ! whilst those with IB still have  a broker to take their orders but possibly no money left to trade with !

Certainly if I was the type of trader who trades very aggressively and makes maximum use of leverage (which of course I most definitely am not) I know which of those brokers I would be choosing for such trades !  I suspect the answer for those with sufficient funds is to have more than one broker and to put the high risk high leverage trades through a broker that picks up part of your losses  in the event of the next catastrophic  “Black Swan” event hitting your account.

Why did FXCM and the others not see this coming ?

Well it is a classic Black Swan event where I guess brokers completely underestimated the statistical likelihood of such an event occurring. I am sure their risk analysts carefully calculated that such an event was a one in 100 year event or even 1 in 1000 year event or whatever. In fact these sorts of events routinely occur much more frequently than statistical analyses suggest that they should. Think Long Term Capital Management  who had I think 2 Nobel price winning mathematicians on the board and they still managed to get it wrong.  It is at these extreme edges of unexpected events that any precision in  statistical analyses tends to break down  (just when you need it most !). This is exemplified by stock market crashes.  I have personally lived through at least two “once in 100 year”  stock market events (as subsequently calculated by the statisticians) and I can assure you that I am not 200 years old – just feel it some days.

A good book on this subject  is The Black Swan by NassimTaleb

If you have some experience of trading plus a little capital you really have to look at trading the emini stock index futures markets. These are the markets I trade most now using a combination of day trading and swing trading strategies. I use fully automated emini trading systems which means that I am not glued to the screens all day.

The Emini S&P (ES) is a fully electronic market without a trading pit which means no market makers, locals, or floor brokers and all orders are matched by computer on a first come first served basis. This means that all traders have access to the same Level II market and for instance  can see the 10 best bids and 10 best asks live in real time,  and have access to same bid-ask spread.  So all traders, both big and small, compete on an absolutely even playing field. The Emini S&P 500 (ES) is the world’s most actively traded stock index futures contract with millions of contracts traded each day  with total contract  value in excess  $100 billion per day.

This high volume makes for a very liquid market with very tight spreads. Typically the spread is just a single tick ($12.50 per contract for the ES). Each ES contract trades at $50 per big point so with the index level of 2,000 each contract is worth $100,000. This means that the spread comes out at 0.0125% of the contract value – one of the lowest spreads for any instrument in the world.

The ES is popular with both institutional and individual traders who trade with a variety of different goals and objectives. This combination of high volume, a wide variety of participating traders with widely differing objectives and the natural diverse nature of the index constituents means that the Emini stock index contracts tend to trade very technically. This means that   technical analyses works well on them and traders can trade them effectively without having to study multiple charts or necessarily studying the fundamentals in detail.

The transparency and depth of the market for ES makes it virtually impossible to manipulate.

Fills are guaranteed.  If you are in a trade, for example, and the e-mini price goes through your offer, you get filled.  No questions asked.  This is a major problem for smaller Forex traders.  You may be in a trade waiting to exit.  You have an offer to sell.  The Forex contract goes right by your price and does not fill you.  Then you read in fine print on your Forex Brokers contract that they do not guarantee fills.The ES trades virtiually 24/6  and has good volume throughout that period. This allows you to enter, exit or have orders working to protect your positions almost 24 hours a day.

All ES trades are completed  through the CME (Chicago Mercantile Exchange) and its member firms wihich maintains a well regulated and orderly market. This also means that customer funds have to be kept segregated. In the last 100 years the  CME has only suffered one loss of customer funds due to failure of a clearing member

What are algorithmic forex and futures trading systems

Algorithmic or quantitative trading is a technical investment method that relies on the use of mathematical formulas and computations to recognize trading opportunities as opposed to qualitative or discretionary trading techniques which rely on the traders individual personal insights and analyses.

A simple algorithmic system may for instance have fixed rules that say “buy every Monday morning at 10 am if today’s open is higher than Friday’s close” and ” exit long every Tuesday afternoon at 3pm”

There is no room for misunderstanding or variations with such systems. Everybody that trades it will get exactly the same signals and results (excluding slippage).

Furthermore once you have a rule based system such as this it can be transferred to the trading platform and set to trade for you automatically. Set and forget if you like.

Over 90% of short term institutional money is traded using algorithmic or quantitative trading techniques. The vast majority of consistently successful home based traders are systematic traders.

These strategies are infinitely repeatable with almost no variance whilst discretionary strategies rely on the discretionary judgments and interpretations of each individual trader so by definition they will produce often widely varying results from the same data set when analysed by different traders (and worse still even when analysed by the same trader on different occasions).

The mathematical formulas comprising the trading strategies are held on the trading platform which constantly monitors the incoming real time data. Generally orders (entries, stops, exits etc) are then placed automatically by the program which then manages those open trades on an ongoing basis according to the rules contained within the algorithms. The systems run and trade fully automatically and aside from monitoring fills, data feed integrity etc they can be left to trade for themselves.

If you  are looking to expand your forex trading into new markets then one obvious choice are emini futures contracts. These represent the next level in your trading career.

In this first part of a short series I want to quickly explain what a futures contract  is and then specifically what the S&P 500 futures contract is.

A futures contract is an agreement between a seller to deliver and a buyer to take delivery of a commodity at a specified future date.

Originally these contracts were always for  physical commodities such as Corn, Gold, Crude Oil etc. However nowadays  much of the futures trading  is based on stock price indexes like the S&P 500.  This means that you are  buying virtual rights to a certain value in the index that can then be sold on to someone later at a different price.

The price of the futures contract moves very closely with changes to the underlying index which itself moves as the value of the stocks that compose that index change.

The futures market is often priced slightly higher or lower than the underlying index or cash markets but generally tracks them very closely.

So for instance the emini S&P  500 futures contract is based upon the Standard & Poor’s 500 US index which is calculated using a basket of 500 large company stocks that are considered to be widely held and hence representative of the market as a whole.

When you buy an emini S&P 500 futures contract you are tracking the combined fortunes of  500 of the largest US companies all at one time.

Next I want to look at some of the advantages of emini trading and believe me there are many.

In a previous blog I showed you a simple longer term forex trading system based upon moving averages and more precisely Bollinger Bands. This was a trend following method that aims to get you in on any big trending moves. But what happens if the market is chopping. Well you can still use Bollinger Bands but in a somewhat different manner – so called bounce trading.

We said previously that if plotting Bollinger Bands 2 standard deviations above and below the moving average we would expect price to remain within the bands 95% of the time. It therefor follows that in a choppy market if price breaks out above or below the bands there is a fair probability that price will   fall back within the bands. Is there a trading system to be had here ?

Well a very common strategy is to wait for price to close above the upper Bollinger Band then wait for it to cross back below that upper band and close below it  then enter short in anticipation of price continuing to move back towards the lower band. Vice versa for Long entries. Essentially we are buying bounces off the bottom band and selling bounces off the top band as illustrated below using EUR/USD 60 m charts with 20 period ma and 2 standard deviation Bollinger Bands ( a common set of rules in forex)

Now this strategy works great in a choppy market or when you are trading with the trend ie buying bounces off the lower band in a generally up trending market or selling bounces off the upper band in a generally down trending market. This is because the “weight” of the trend tends to exert itself and overpower the minor counter trend move that we have traded against.

The problem arises when we are selling bounces   off the top band in a strong uptrend (or vice versa)…. ouch ….. the market can keep moving up for a long long time against our short position.

One obvious solution would of course be  to use a stop loss to limit the the damage in such a situation.

Another solution would be to add some form of longer term trend filter so that we only buy the market  when it is in a generally rising over the longer term   and only  sell the market when it is generally falling over the longer term. So in this system we might elect to only take buy trades when the 100 period  moving average  is above the 200 period  moving average (ie a generally rising market when viewed in the longer term)  and only take sell trades when the 100 period moving average is below the 200 period moving. See earlier blog on how to use moving averages.

Surprisingly this simple longer term trend filter works very well and keeps the trader out of some really bad trades.

So with trading systems you often find that you start with a very simple entry and exit rule (as above) that give relatively average or even poor results but shows some potential. By examination you then add a “filter” or two with the intention of eliminating some of the losing trades and hence improving   overall trading system performance.

This is exactly what I do with my own computerised systems  which generally comprise :

• simple entry and exit rules
• some sort of fixed money management stop and  or trailing stop
• plus a filter or two to reduce the incidence of losing trades and hence greatly improve overall performance  metrics.

So whilst there is a little more to designing trading systems than just using for instance  a straight moving average cross over – it does not need to be much more to be a winning trading system !

People always ask me what the most important prerequisites are for firstly learning to trade profitably and then going on to become a very  successful forex trader.

Certainly all of the standard answers you have heard  for reasons why traders fail  such as , no self discipline, trading too big, looking for a Holy Grail system, not sticking to a plan, not having a plan,holding on to losers, over trading (too frequently), etc etc are all absolutely true but what else is it  that successful traders are doing  or have done that  differentiates them from the also rans ?

Well here are a couple of things novice traders need to be aware of in order to first learn to trade successfully followed by a couple of trading concepts  that very successful traders are aware of and tend to follow that  most ordinary traders do not do.

1. You must first  enjoy trading

The people that succeed in the long term are those that have a genuine interest and fascination for trading for its own sake. I often say that I would trade even if there was no money to be earned as the business itself fascinates me. Success comes from  expertise and expertise is a process driven by the individuals desire to learn and to do better. Traders that succeed have a curiosity and interest in the subject that drives them on and motivates them to keep improving their game – for the sake of the game not just for the money. It has been said many times but success in trading  really is not rocket science and even the computerised systems that I trade would not tax the mathematical abilities of the average 15 year old.  Success does however require perseverance. Great and consistent success will not come instantly .  If you do not have this underlying interest in trading for its own sake then pretty soon trading becomes just another chore. Couple this with a few losers in a row and that is often enough for those “weak hands” to give it up and pursue some other dream. If you enjoy trading enough to persevere  then there is absolutely every reason to expect that you will succeed.

2. Have a  mentor.

Yes you can become a successful trader without ever purchasing or attending a course or having access to a mentor or coach. But  it is a long and painful process as there are many unseen potholes in this road and without somebody giving you directions you  will fall into most of them. Each time wasting both time and money.

Using a mentor is like buying a franchise.  You are buying into a proven successful business methodology and saving yourself thousands  of hours of often misdirected study having to learn everything from scratch the hard way. Why not just shortcut the process and use your mentors already  proven business plan. If he can prove that it works – copy it –  you don’t earn any extra money in this business  from  re-inventing  the wheel. As my dear old Granny (?? ! !)  used to say “find a successful man and copy what he does …… there is always room for one more doing the same thing”

3. Hold those winning positions as a few  will become HUGE winners

If you analyse the results of most trading systems over time you will find that performance is heavily reliant on the profits contributed from say the largest 5% of winning trades. It is essential  to have a method of holding yourself in on those winning positions and allowing a few of them to become   mega winners. These can transform your finances in just a few days or weeks and without them you may very well find yourself treading water making less progress than you had hoped for.  So if you are a day trader avoid the temptation to try and quickly “scalp” for small profits and also look to try and hold winning positions right up into the close rather than rushing to exit them intra-day.

4. Don’t follow the position sizing crowd

In my experience whilst you can make very consistent profits from trading (and you are shown exactly how to do this on the course) you also need those sudden  “step changes” which dramatically rocket your trading account into the stratosphere to new much higher levels. Certainly following (3) above can help you do just that but also using very aggressive position sizing models at certain times can do an even better job. From my experience of 30 years and talking with other successful traders  this aspect plays a very  important part in just how successful you ultimately become . Very very little is written about it in  books or on the internet although many great traders such as George Soros have confirmed and validated this point when  referring  to their own occasional application of such aggressive methods. Surprisingly these methods can involve no greater risk to own capital than the much more mundane % risk models. Needless to say this very important aspect is well covered on the 1-2-1 training course.

Moving averages, when used on their own,  are best used as indicators for assisting your chart analyses in the ways described in the previous post rather than as trading systems in their own right.

When trying to create a real money trading system generally you are better to use the moving average as an  important  component part  of your trading system rather than it comprising the entire trading system.

This advice would apply to pretty well all indicators. Indicators in their raw state do just what the name implies they give just a general  “indication”  whereas a  trading system needs to be a more complete solution – so indicators are not trading systems  and cannot really be used as such – they  more generally form parts of systems.

Probably one of the simplest and most consistently profitable  commodity trading systems over the last 15 years or so, that I have come across, does just that.  It starts with a simple moving average but then builds that into  Bollinger Bands and then adds trailing stops to create a complete system.

YouTube no doubt has hundreds of videos on these for those that want to understand the calculations and underlying concepts behind Bollinger Bands a bit more.   Suffice it to say  for the purposes of this blog that Bollinger Bands take a moving  average and then plot a band above and below that moving average. Typically the band width  may be set at 2 standard deviations. This means that 95% of the time price would be expected to remain within the confines of those outer bands.

So a typical longer term trading system trading daily charts may take say a 70 period moving average and then plot bands say 2 standard deviations above and 2 standard deviations below this level.

So how do you trade this ? well contrary to “common sense” the most effective way is to buy the breakouts above the upper band and sell the breakouts below the lower band as illustrated with the arrows  below.

The dotted line is the moving average with a buy band plotted above and a sell band plotted below.

Such a trading system is known as a reversal system because it is always in the market ie it is either always long or short the market.

Amazingly this simple method has produced one of the most consistently profitable  end of day commodity trading systems in the world. It trades  across a   whole basket of Commodities.

As you can see from the above chart it is also not too shabby when applied to currency markets.

This type of trading system is designed to allow the trader to get in on any big trending moves that develop. It  works superbly  in the sorts of trending markets such  as we have seen recently  in the US$ and Oil etc and will often keep you in the trade all the way up or down on what can sometimes be some gigantic moves.

There are a few more bells and whistles that can be added to further improve performance and reduce draw downs using, for instance, profit targets and additional trailing stops.  But even using these basic rules you have a  simple workable trading  system based on moving averages that will work.

There are many trading strategies that work for trading forex and futures markets . One of the simplest  and often the first that novices look at is the use of moving averages.

Moving averages can be used in several different ways such as:

• To smooth out the noise in the underlying data and hence provide the trader with a clearer indication of the general trend in prices
• To indicate overall trend of the market. A  rising moving average is generally Bullish and a falling moving average is generally Bearish
• If price is above its moving average  and the moving average is also rising then this  is considered Bullish
• They can also be used as an overbought oversold indicators. Moving averages tend to act as a “magnet ” and prices are continually being drawn back to them. So if price becomes too overextended above or below its moving average then it is likely to pull back/retrace to the moving average in the near future
• They can often be used as support or resistance levels. If price is turned back by the moving average (bounces off) a few times  then the moving average  can be considered to be  a  support or resistance level that needs to be overcome before price can continue its move in one direction or another.

Often multiple moving averages of varying lengths are used together on the same chart – so called dual or triple moving average crossover systems. For a dual moving average systems you would have a shorter term average and a longer term average.

• It is considered Bullish when the shorter term average is above the longer term average and even more so if they are both rising.
• It is considered Bullish if the shorter term average is also  pulling further away  above the longer term average as this indicates increasing shorter term momentum – the market wants to go higher

They often form an integral part of successful trading strategies used by forex and futures traders.

Other trading indicators are often developed around   moving averages such as MACD (moving average convergence divergence) or Bollinger Bands.

These are just some of the ways moving averages can be used to help you interpret the charts and make trading decisions. Next we will look at a few specific trading strategies based upon moving averages.