These are times of big changes. Volatility is at an all time low in many global markets. Trader apathy is at an all time high and the no economy cocktail of low growth and low inflation has created an economic cycle where Central Banks have cut their hands off.
They have deliberately or foolishly left themselves with very little power to manage the economy. Interests rates are so low that ECB had to bring in negative interest rates to force banks to lend their money. In the US, on Wednesday, Jannet Yellen acted more like a CNBC commentator telling everyone proudly that stocks were not overvalued. The market blindly jumped on the bandwagon.
For many traders it has been a quiet year and, if it wasn't for the special situations that have arisen from political turmoil in the Ukraine or in Iraq many funds would be well under break-eve. Every day more and more forex traders disappear as the Euro/USD regularly trades in tight ranges.
All this is not earth shattering news to any seasoned trader. In fact it is these moments that test the market knowledge of most traders. As robots, computers and automatic algorithms take over much of the trading the possibility of arbitrage, whereby taking advantage of the slight variations in different markets evaporates.
In the past this has led banks and trading houses to come up with novel and exotic ways of making money. We had junk bonds, we had a biotech bubble and a Dot Com bubble. We had a sub-prime bubble. As traders and market followers this is like sitting and waiting for the encore or the next wave in the ocean. The market continues and traders are dusting off strategies for low volatility none existent economic conditions until the next wave appears.
In 2007 Paulson became a billionaire by short-selling subprime mortgages and made $3.7 billion that year. It is hard to believe that in 2011, he made losing trades in Bank of America, Citigroup and, Sino-Forest Corporation.
His flagship fund, Paulson Advantage Fund, was down over 40% as of September 2011. So, how is it possible that with all the resources and a deep understanding of the market the same person can get things fundamentally wrong.
Trading is a combination of 2 activities, one mechanical and one emotional or psychological. The mechanical side of trading is very much like chess. You know all your moves and you can pretty much foresee the other sides moves and counter them. It eventually becomes a war of attrition. Whoever has the most knowledge, patience and willpower will gain the advantage. When things go as planned the mechanical side of trading is beautiful.
Then there is backgammon. The players know all the moves, yet the dice is the king. The game can change quite rapidly if you throw some bad numbers. The reality about trading is that despite all the theory you can not predict what can happen one tick from now.
But the best explanation for me, a mathematician, is Schrödinger’s cat. In the Copenhagen interpretation, a system stops being a superposition of states and becomes either one or the other when an observation takes place. The market can be dead or alive at any particular moment and it is only its observation at any particular moment that makes it relevant.
Financial markets have the same mathematical basis as natural laws. Why else would a Fibonacci number that measures spirals on shells, and spiral galaxies be relevant. There are financial models based on fluid dynamics, wave patterns, crowd dynamics and mass mood psychology. In fact there are very few purely economic models to trade, apart from following fundamental news. However, that can be extremely distorted at times too.
So what is it that makes the trader successful in this dynamic ? It is the persistent and powerful motion of the financial market. Any surfer who sits in the ocean will get a massive wave eventually and maybe it will be a Tsunami. The second he observes the wave he is doomed to act. He will either ride it to the shore or die.
The observation is part of the equation and being observed as an actor is the other. Your system observes the market waiting for the next best move but is all the decisions made by you that ensures the trade is successful.
Many traders sit through wave after wave waiting for the big one and nothing happens. Look in the right places and really observe the market and you will see trading opportunities in every candle. Sometimes you will get it wildly wrong and be on the wrong side of a Tsunami. But that is trading. Sensible money management ensures that you will not get blown out and you keep on trading.
Showing posts with label forex. Show all posts
Showing posts with label forex. Show all posts
Tuesday, 24 June 2014
Friday, 13 June 2014
Trader Dynamics Toolkit: Noise trading
The massive moves in oil in the past days made me wonder why loads of people sit and stare at the multitude of indicators on their screen all day. If you look a bit further back you will see oil has been moving for a couple of weeks, quite significantly. If you search in Google you will notice that there were stories about ISIS and Iraq and the impeding crisis around the same time. Suddenly, you have a neural trading system, which would normally cost, you an arm and a leg. But this kind of trading based on noise is age old. Even Edwin Leferve read the ticker and made quick trading decisions based on it in the 1920's
There are all sorts of labels for Traders based on what time-frame and system they use to trade. Everyone has heard of the swing trader and day trader or position trader. In my many searches on the web I discovered a label for a trader I had never seen before. Noise Trader. Actually, it was coined in a report written by Andrei Shleifer and the famous Lawrence H Summer titled “The Noise Trader Approach to Finance” . Link at the bottom of the page for your information.
Many of you think I am mad to think that a 21-year-old document has any relevance to modern-day trading. I agree its all pretty boring until you get to page 28 and positive feedback trading. “The key to success, says Soros, was not to counter the irrational wave of enthusiasm, about conglomerates, but rather to ride this wave for a while and sell out much later.” It goes on to say that this could lead to a bubble but can make you very rich in the short-term. Even back then they were scared of the noise traders as they suggest taxing them to the hilt. Well 20 years later and after a series of bubbles nothing much has really changed.
I guess that means all great traders are noise traders. Now to me that makes perfect sense. The false prophets and market Gurus that peddle indicators and mechanical systems inherently dismiss the one real mover of markets, Sentiment. Yes, some people say much of this is built into the market and I totally agree, if you are a high frequency trader, but most of us are not. For them lagging means a millisecond for us it could be hours or days. It is not bad if you want to make a few great trades, but to be a real trader you need consistency. That means trading well, most days for years. The only way to do that is to follow the successfull crowd, and follow it as perfectly, as you can.
So the question comes down to how one measures noise and sentiment in the markets. Most of trading these days is done by machines and even in dark pools where there is no transparency. The few indicators for momentum are based on the price anyway and are pretty much useless. A friend was following sentiment based on his Twitter posts. That is not a bad idea but its a bit like standing outside a football stadium and predicting the results based on the crowd cheering. You will get it right sometimes but you would be blind, literally.
The answer to all this is very much in built in the strategy. There are a host of analogies traders use, riding the wave, jumping on the bandwagon,and buy low, sell high. The implication for these statements is a fundamental shift in a market, towards a certain direction. Too many traders, these days want to know the whys and the how's. None of that is relevant.
The real questions are ”is the market moving ?” and “why aren’t you in it ?”
The Noise Trader Approach to Finance
http://scholar.harvard.edu/shleifer/files/noise_trader_approach_finance.pdf
There are all sorts of labels for Traders based on what time-frame and system they use to trade. Everyone has heard of the swing trader and day trader or position trader. In my many searches on the web I discovered a label for a trader I had never seen before. Noise Trader. Actually, it was coined in a report written by Andrei Shleifer and the famous Lawrence H Summer titled “The Noise Trader Approach to Finance” . Link at the bottom of the page for your information.
Many of you think I am mad to think that a 21-year-old document has any relevance to modern-day trading. I agree its all pretty boring until you get to page 28 and positive feedback trading. “The key to success, says Soros, was not to counter the irrational wave of enthusiasm, about conglomerates, but rather to ride this wave for a while and sell out much later.” It goes on to say that this could lead to a bubble but can make you very rich in the short-term. Even back then they were scared of the noise traders as they suggest taxing them to the hilt. Well 20 years later and after a series of bubbles nothing much has really changed.
I guess that means all great traders are noise traders. Now to me that makes perfect sense. The false prophets and market Gurus that peddle indicators and mechanical systems inherently dismiss the one real mover of markets, Sentiment. Yes, some people say much of this is built into the market and I totally agree, if you are a high frequency trader, but most of us are not. For them lagging means a millisecond for us it could be hours or days. It is not bad if you want to make a few great trades, but to be a real trader you need consistency. That means trading well, most days for years. The only way to do that is to follow the successfull crowd, and follow it as perfectly, as you can.
So the question comes down to how one measures noise and sentiment in the markets. Most of trading these days is done by machines and even in dark pools where there is no transparency. The few indicators for momentum are based on the price anyway and are pretty much useless. A friend was following sentiment based on his Twitter posts. That is not a bad idea but its a bit like standing outside a football stadium and predicting the results based on the crowd cheering. You will get it right sometimes but you would be blind, literally.
The answer to all this is very much in built in the strategy. There are a host of analogies traders use, riding the wave, jumping on the bandwagon,and buy low, sell high. The implication for these statements is a fundamental shift in a market, towards a certain direction. Too many traders, these days want to know the whys and the how's. None of that is relevant.
The real questions are ”is the market moving ?” and “why aren’t you in it ?”
The Noise Trader Approach to Finance
http://scholar.harvard.edu/shleifer/files/noise_trader_approach_finance.pdf
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