How to design a trading system

The structure of the trading system should be based on the market behavior, but rather on the movement of the trend. To do this, first you need to understand inner organization and life cycle of trend. Taking into account the previously described behavior of speculators and hence the price movement, we can assume that at any moment the markets consist of three trends. The first trend is the longest, consisting of several months, you need to use to determine the direction of the market, and in the direction which you want to open positions. The second observable movement of the market can be a correction of the trend, which will consist of a few days, and determined by, the use of more sensitive indicators. Recent market moves a little bit like a sideways trend between correction and main trend extension is the short-term price movement in one or two days that is used for precise entry. For accurate output should be used also is a short-term movement, but in this case the main trend will not be followed by correction, and a new trend in the opposite direction. Following this understanding of the market, to open positions you need to use two or more trend indicator, which signalizes about the opening position, and an oscillator or trend indicator to close a position. A more detailed description of the use of these indicators are reported below.
Rules for opening a position.

A curious analogy is carried out, the authors of the book “Computer analysis of the futures markets,” Le Beau and Lucas between the entrance to the market and a pistol shooting at a target: you must first aim (to find direction). Then to cock it (get ready), and then smoothly pull the trigger (enter the market). In fact, the same two, and even three-step process of finding the moment of occurrence happening in the market. In the first place by using less sensitive indicator with larger order the system determines the main direction of the market movement or major trend. Then after a long-term direction of the market was identified, the next zadaca to find a medium-term indicator which will give a series of signals in the long-term trend. These signals can occur at the end of the correction of the main trend. Also a series of signals will be needed due to the fact that the first intermediate signal of the medium-term indicator will arise before long-term indicator will allow the system to trade in that direction. Please remember the clear sequence of feed signals from different sensitivity indicators, according to which short-term signals arise first, then medium, and finally long-term signals. By the time when it is determined the long-term trend, the first intermediate and the short term signals will arise and the system will be more important getting repeated intermediate and short-term signals for several times within a long-term trend.

There is a relatively large number of useful intermediate indicators, among which are single and double moving averages, channel breakouts, the signals of the parabolic system, the regression line trends. When the system is the importance of the individual intermediate indicator, as a rule, is suppressed in the total system, in consequence of the fact that the system is built around a combination of indicators, which can in the worst case contradict each other. In such a situation it is important to choose the indicator which a trader would experience trust and confident which would give a series of short signals during a very long trend.

Open positions start in market activity, followed by an intermediate signal. In addition, there is a choice of trigger. For example, you can place the entry point at the new peak or trough movement or to select a point of entry beyond the borders of today's peak or depression, placing the corresponding order. Some traders are being very cautious, decided to wait with the entrance to a series of peaks or troughs in the desired direction, but this tactic leads to loss of potential profit. If to trust the first signal system, the input can be choose at the first closing in the right direction, this entry allows software of the exchange complex MetaStock, on the basis of which the third part of the work will be carried out testing and optimization of trading systems. The important thing here to remember is that you need to price action confirmed signals of other indicators of the system and allowed the market to run the entry system. Most good traders profit immediately after the start of operation of the system, as their systems tend to behave synchronously with all three trends from the beginning.
Rules of position closing.

After it was designed rules of opening positions need to be determined and with the rules output, the definition of which, according to many traders, more difficult. The problem is that the right to be able to determine the end of the main trend, or the beginning of a correction, moreover, need to be able to keep control of himself while getting a minor profit or loss.

It should be noted that the opening of positions on the signal system is not always profitable since trend indicators can be wrong, in this case, you should define the stop signals to which the system will close positions. Loss by stop signals necessary to avoid catastrophic losses. Any experienced trader uses stop signals implemented protective suspensions, and traders who speculate in the markets without a stop loss is doomed to failure, and the only thing that may change is the time at which they go bankrupt. As correctly noted by the authors already mentioned book: stop loss is similar to the contributions in the insurance policy and should be considered as necessary cost of business.

When a trade goes in the expected direction, the trader should choose between getting quick but sure profit and further trading with hopes of a bigger prize. How to do trader in this situation? Probably, one of the outputs can serve as floating suspension, the other exit can serve as oscillators whose ability to guess the correction and the reversal points of the trend are described below.
the Use of stop signals.

There are five types of the most popular stop signals used by the creators of trading systems:

1. Source stop signal (max loss stop): Signal flow which is carried out by the appointed percentage of loss from the original account or a fixed amount in an open position.

2. Floating stop signal (trailing stop). The position is closed if a predetermined amount of current profit is lost, that is, a stop signal follows the market and when the profit decreases by a certain percentage or agreed amount the positions are closed. Floating stop signal refers to a tracking interruption.

3. Removing the profit (profit target stop): This stop signal closes the position if there is a certain amount of profit, originally set by the trader.

4. Breakeven (breakeven stop). Allows the user to determine the level of current profits, and when the market exceeds this level the price of opening the position becomes a stop signal to the output. So the trader actually insures your investment.

5. The lack aktivnosti stop signals in time (inactivity stop). This type of stop signal is triggered when the market fails to provide a certain percentage of the income in the direction of the open position within the stipulated period.

In addition to selecting the type of suspension should solve the problem of the magnitude of the suspension. Stop losses in the General case are divided into two categories: close and distant. Ideal stop should be one of those that are located far enough to barely to go beyond the accidental, or, from a technical point of view, meaningless price movements, and at the same time be close enough for comfortable control risks in trade. In fact, these goals of an ideal suspension are mutually exclusive of each other, forcing us to reduce the search to stops that are set either very close or very far. Should consider all “pros” and “cons” of each option.

Close stops offer the obvious advantage of small losses at each position and kept aggregate risk at the portfolio of open trades. However, this procedure leads to financial weakening of and psychological discomfort experienced from stops on many trades, which could be very profitable if the original position allowed to go its own way. Traders can around this issue by simply defining a convenient method of re-entering, which will return them to the market in the original direction just in time to catch most of the remaining potential income. However, as always, is a compromise. The logical step of returning to the market inevitably leads to increased activity of the system, which significantly increases the cost of transaction and slippage costs.

System that uses a close stop will face a lack of expressed in a larger percentage of losing trades, but will enjoy the privilege of lower average losses. System that uses the far stop, will tend to increase the percentage of winning trades compared to the system with close stops. Remote stop is not faced with the problem of re-entering and keeps under the control of slippage and commision cost. This picture is complemented significantly increased the average losses on trade and significantly increased the overall risk on the portfolio. It seems that here lies the lesser of two evils or a compromise between these two equally unpleasant possibilities.

On the basis of technical indicators, you can develop not quite ideal, but still acceptable procedure which will include the basic principle of the job stops, avoiding most part of the problems associated with random price fluctuations. As one of the possible approaches could be to use the standard deviation of prices from the moving average and then place a stop a few steps from the standard deviation from the moving average.

As a practical and perhaps as an effective alternative to the complex approach standard deviation, can be used the average daily price range as the minimum distance for the job stops, which will help to avoid most of the small fluctuations, leading to the twitching. For this you can simply install the 5-day or 10-day moving average peaks or troughs, and then to place the initial stop at a minimum distance that is equal to the distance between the moving averages. While the market moves favorably, too, can stop coordinated this distance. This technique helps to avoid what is called “random fluctuations during the day” because it keeps stopping far enough to avoid the daily fluctuations. To stop the position will require the abnormal fluctuation during the day or a series of hostile daily price changes. Maybe this method does not give perfect stop, but it can be very helpful in terms of finding a minimum distances for stopping, to avoid unnecessary twitching.

Other acceptable methods set stops that fit the definition of ideal suspensions are points on the chart, such as levels of support and resistance, peaks and troughs of recent days, parabolic stop and possible envelopes or trend lines, however, methods such as levels of support and resistance are almost impossible to programming and therefore impossible as part of the trading system.
Popular exit strategy.

There are some of the most popular exit strategy. One of nihw method of entering and holding positions to earn a great income. This method is more similar to investing than medium-term trade and working for prolonged periods. Method of entry and retention is more suitable to those traders who do not mind large losses and painful losing periods, which will deprive of courage and very expensive on short trends. This method is convenient for trade only their own significant capital and requires a lot of trust experience and discipline, and most suitable large pension and mutual funds. The main component risk of this method of the pursuit of a large income is that a single trader almost inevitably ends up way out in the middle of a severe period of losses. The vast majority of traders can't stand the sight of large revenues, which they missed, and they are psychologically not able to withstand the inevitable loss, regardless of how well they were trained or educated. At the same time, large mutual and pension funds in accordance with their strategy may be more flexible.

Less popular exit strategy is a method of sighting the exit, when traders closed, reaching pre-defined price targets. However, each strategy has its drawbacks. In this case, there are some major problems associated with the possibility of predicting certain levels with a certain degree of accuracy. Anyone can point out some obvious levels of support and resistance which can make the trend difficult, but with the exception of this General analysis, all doubtful that more careful aiming is actually possible. Nobody knows where the market is unlikely to be able to predict with any accuracy.

The trader who uses a sighting exits, gets the advantage consisting in the fact that he will not face the problem of monitoring large losses unrealized income. On the other hand, he will definitely suffer from the frustration that many prices have not reached the predicted targets. The trader will also need to learn to withstand disturbances, caused by observation of how they were obtained less income, while you could get more with a little more patience.

Another well-known strategies is a compromise, providing the advantage of a rapid income and leaving at the same time, the possibility for large incomes. The bottom line is that the trader simply uses a dual trading account and receive income from one position to reserved price target, and the second position allows you to be open, hoping to get a big win. This method requires large capital investments compared with one trading account, but it has obvious advantages, in the case of correctly predicted the movement of the trend. A quick profit on one contract will always give more freedom on the second, and you can afford to be very patient. Putting on account of one win, you can give the second position for sufficient time in order to avoid premature stopping.

In this strategy the benefits there are also negative aspects. The obvious disadvantage of a dual strategy is that if the position is opened in the wrong direction, losses will be at two positions instead of one, with the usual strategy. A double strategy can be a great choice as an exit strategy only if the trader has a very good entry strategy, and is convinced that most of the trades start in the right direction. But before you can start using this strategy, you should make sure how would behave such a strategy on historical data, especially when the entry strategy did not work correctly.

Another output method that could be applicable to one account, gives in the beginning some space for maneuver on the market in the form of a broad suspension until then, until it becomes overbought or will not provide an unusually large movement in the predicted direction. Then you must narrow stop of income to protect most of the profits, but at the same time have the opportunity to generate revenue and further, if the market will continue moving in the right direction.

As an indicator signaling the onset of the overbought market, you can use shestidesiatniki relative strength index, from which it will be necessary to raise the stop. For example, when the relative strength index climbs above 75, and then drops by 10 or more points, you should raise the stop to the minimum level of prices over the last three trading sessions and adjust them with the rise of the market. Often, this procedure allows you to stay in a strong market and throws very close to the top.
the Use of oscillators and trend indicators.

Consider the use of trend indicators and oscillators to guess the end of the trend or beginning of a correction. As you know all the technical trend indicators are trend. Their very construction, be it moving averages or directional system, suggests that they react to past price movements indicate the beginning of a new trend only after it appeared, but do not predict its occurrence. They help to detect a new trend or to determine the nature and strength of the new trends as early as possible after its occurrence. But what does it mean when it arises? This means that some time will already be lost, and during this time the trend will change and prices will move in an undesirable direction. Therefore, the trader will lose part of the profit, if he does not have a protective floating suspension.

The way out of this situation, delay can serve as indicators of fluctuations or oscillatory some alternative indicators following the trend. Unlike the latter, the oscillator is highly effective in the absence of obvious trends when the market dynamics is reduced to movements within a relatively narrow horizontal price corridor, otherwise known as “market corridor.” That is a corridor of prices, as already described in the first part of the work, replaced the main trends. These are the periods when the bulls are no longer able to move the market higher, while the bears have not yet felt its strength and inert. In this market the corridor so the price often changes direction that the most difficult problem is to detect the beginning and end of short movements up or down. In such conditions, most of the systems following the trend, are ineffective or unprofitable. At the same time, the use of oscillators allows a trader to successfully close positions and exit the trade.

The efficiency of oscillators is not limited, however, only outside of the market corridor. Combined with the analysis of the price charts in a period of domination on the market of a particular trend, oscillators can predict short critical periods in the dynamics of the market aktivnosti so-called overbought and oversold condition of the market. In addition, the oscillators can be seen a weakening in market tendencies before it obviously will affect the price dynamics: the divergence between the direction of the movement curve of the oscillator and price dynamics shows that adherence to market a particular trend is about to end and soon will come the turn.

A strong underlying trend due to the abrupt change of the driving oscillator to jump up into the overbought zone. Overbought the oscillator is until the trend force measured by the ability of prices to grow as fast, not waning. Then comes the period of short-term sideways trend, consisting of two to three days. During this period, prices did not significantly izmenyayutsya there is a short-term weakening of the main trend. It is on a short-term sideways curve of the oscillator leaves the overbought zone, what indicates a decrease in the rate of growth of prices. This oscillator signal can be a signal output, after which the trend will either reverse or will have a correction. After the correction the system will need re-occurrence, which is written in the following paragraph, this part of the work.

As already described, the ideal stop loss could be developed, if you try to place the stop just over the border of random price jumps. However, even a perfect stop can be wrong in the case of market entry of large players trying to pull the market towards correction. In this case, if one of these stops work at the moment when the trend still continues, you will need a method of re-entering, which will bring the trader back into the market, at a time when the short term trend will resume its movement in the direction of the long-term trend. The method of re-entering will help avoid setbacks due to absences of any significant price movements.

In the previous section we considered some methods of closing positions, the correctness of which depended the efficiency of the system. A good way differentiates a winning trade from a loser, and is probably the single most important element of any system. Unfortunately, very often the traders closed positions before the end the main trend, is able to significantly increase the profit system. In those cases, when the trend continues, you'll need a way of re-entering the market. Strong trends are rare and too valuable to ignore, so closing a position the trader must be sure that he is back on the market, if the previous stop was premature.

The manner in which signals for repeated occurrences may be quite different from the main entries, because the market is in the middle of a strong, well-developed trend, where price fluctuations are much higher than at the beginning of a trend. Being in the middle of the trend, the trader does not need signals trend indicators, but only the signals of the oscillators with small orders for greater sensitivity.

Oscillators, which determine the overbought or oversold can very well work in determining the re-occurrences. Assume that the system has been stopped floating stop signal on profitable long positions when the price adjustment, which was stronger than one would assume. You can observe the behavior of the relative strength index or stochastic oscillators in such a situation to obtain a signal about the end of this deviation. One of the techniques is to wait until the stochastic oscillator falls below a certain level and then turn back. Drop the stochastic oscillator to any value below 40, followed by a rise, should initiate a workable re-entry. Typically trade on the purchase, if not the trend of the market is caused by the stochastic oscillator fall below 20 or 30 and subsequent rotation. However, since the trader was in a clear uptrend, it is unlikely that the stochastic oscillator reaches very low levels at 20 or 30.. the stronger the trend, the higher the level of probable reversal stochastic oscillator. If the stochastic oscillator falls only to 50 or 60 and then unfold, perhaps the system does not receive the exit signal, closing the original position and should not think about re-joining. After launching a new trade of buying, you can put a new stop loss under the level of depression correction, and then raise it to the point of avoiding losses when it reaches a new peak. These trends are dying slow and difficult, so that the probability to get a good trade in re-entry rather high, especially if you can log on after a fall, without waiting for the next peaks.

The secret of success of re-entry is to wait for the time correction and start quickly purchased as soon as the system found the direction of the main trend. Waiting until the market will produce a new peak is too long wait, but it is necessary to ensure sufficient strength, indicating that the correction is really over. Here you can talk about a very subtle point that requires careful thinking, along with the availability of sensitive and reliable indicator.

As an example of how sensitive can be an indicator of re-entering, it should result the method of using very short-term oscillator, such as a three-day relative strength index (RSI) as a starting signal re-entry. Usually a three-day RSI so often jumps, that he is worth little as an indicator. As this is a very sensitive indicator, any correction, strong enough to stop the system and close the initial position, lower the three-day relative strength at a very low level. When RSI turn back the mark of +50, it will be possible to conclude that the correction is over. Therefore, you need to buy the next day, when the market goes from the peak of the day, lifted the RSI to 50.

The technique the RSI gives two signs of the trend continuation (the value +50 and confirmation), and at the same time it is fast enough to return the trader to the market well before reaching a new peak. Other counter-trend indicators like stochastic oscillator, %K and the commodity channel index also can be used in a similar way. %K - is a sensitive indicator, which will work almost the same as the three-day RSI. The idea is to use one of these indicators to get a signal about the end of correction. For this you need to set the indicator more sensitive than usual because in this case it is necessary to measure precisely the short-term correction and not the main trend.
Requirements to the trading system during the design process.

The important point, without which the design of the system would not complete the psychological and capital resources of the trader. What is behind these resources? As has been discussed in the first Chapter of job, the temper of the trader and the ability to control their behavior and emotions plays a significant role in obtaining profitable and unprofitable positions, and the frequency of transactions. Trading systems are not independent after they start, they can be interrupted at any moment at the request of the trader, weakened by losses, or the number of open positions on several markets. It is therefore necessary to match the type of trader, type of character.

This is very important because otherwise, even while in this position, the trader will either experience the indescribable joy of a profit greater than he could count, or is depressii from losses more than he could take. These emotional States are equally bad effect on the psychological balance and contribute to early departure of the trader from the market. This implies the fact, in accordance with which it is important to Orient the system on their own perception of the market, or to set up your own market perception on the behavior of the system, otherwise an imbalance will occur leading to early withdrawal from the market.

The following types of restrictions to which you should pay attention to is traderas capital resources the amount of funds available to the trader and can invest in the market. Most Western traders are inclined to figure to $ 25,000 Ssaw kind of limit below which the probability to reach a positive income is very low due to the payment of commissions and slippage. If the trader has the funds specified below, then the only possible solution could be to trade breakouts with the arrangement is very narrow, protective suspensions, but this trade almost did not implement a system, and implies a subjective approach.
Advantages of trading system over other methods of decision-making in the market.

Not to be the sheep and pigs, and if and be then be able to quickly exit the market, you need to understand the strategies on the market to all these groups of speculators, ranging from professionals to ordinary investors.

Approach any stockbroker to trade either 100% mechanical or 100% subjective. Those speculators who have developed and well-planned trading system, there is no need to make trading decisions independently. They have a plan that says exactly what to do in any situation. All they trebuetsya is to monitor the market to determine what dictates a trading plan and transmit orders to the broker. Most of these trading plans are computerized. A speculator enters the market data and trading system tells him what to do.

On the other hand those who trade not according to plan, does not have any fixed rules. He makes trading decisions subjectively when he pushes the moment, he has no clue but his ideas about what will work well. Although he tries to learn from previous oshibkah this does not help, because the correct decisions are not always end up with a profit and incorrect decisions do not always result in losses. However, do not categorically assess the chances of such speculators, the history knows examples of the successful traders use Gann analysis, Fibonacci or astrology, and suggesting that markets are a certain order, but in this case their success can be attributed to good technique money management and disciplined control of risk, rather than the correctness of their provisional theories or prediction methods.

For speculators trading not mechanical also possess the emotional side of decision-making. The effect of fear and greed is just wonderful. Human nature is such that under the influence of these feelings he inevitably takes the wrong decision on the speculative arena: so instead of closing profitable positions, it additionally gives purchase requisition to the broker at the moment when the trend has weakened. One of the main distinguishing features of the professional stockbrokers that they have learned to control their fear and greed. They do this through self-discipline, which implies that the decision-making process has a certain structure, planned, moreover they obey the signals coming from the shopping systems in fact, it is the only way to minimize emotional tension, inevitably destroying every trader.

All more or less successful stockbrokers, not to mention the large investment companies, are used relatively mechanical approach, perhaps without knowing it. On the contrary, most fans are more inclined to use a subjective approach, following a short-term change as a guru. Many professional money managers have a system which is 100% mechanical. Those who are not 100% mechanical, usually allow myself only a tiny amount of their own opinion beyond their system.

With a fully mechanical approach, the stockbroker will be a group of markets with which it will work. He will have mathematical formulas that are based on the previous prices will say when to buy and when to sell. Are entry rules, exit rules for losing positions and the rules of exit for winning positions. There are rules when to trade and when to finish for each system. The only task of the speculator would be to initial of the optimal selection for each market with their mechanical trading system and optimize its parameters on the basis of available historical data to fit his trading system for the historical data and at the same time to achieve the statistical advantages according to which:

(average winning trade)*(%win) in an s (the cost of the broker and slippage) > (average losing trade)*(%losses)

Such a statistical advantage, however, can not reach the trader subjectively based on their perceptions of the market. Their income is more likely to depend on simple everyday factors, since these factors, not to mention the impact of rumors and guru, will influence the perception of subjective what traders will see on the computer screen.

In technical analysis there are a whole lot of mechanical trading systems automatically make decisions on buying and selling securities. Some of them quite complex, have their own methodology and understanding of the market and contain several indicators, while others based on one indicator: be it moving averages or parabolic system, and also show good results. Many, deprived of experience, stock analysts are trying to use as many indicators in the trading system, and the output you wish to obtain any one of the generalized signal. Typically, these analysts use several indicators of trends for receiving a signal that the trend has started and many of the indicators characterizing the area of overbought and oversold. However, such search of a cherished system with multiple indicators, according to the author, in the vast majority of cases are doomed to failure because of two simple reasons.

The first reason atomov contradictory signals: for example, by the simultaneous use of a parabolic system and a directional system on a mild trending markets often signal different forces, and if we consider the oscillators, here they more often can conflict with each other. The second reason for the undesirability of using many indikatorov this time lag. Even if the system is composed of, for example, several trend indicators, her strength build, you must receive signals from at least the majority of indicators. But due to the fact that the trend indicators are lagging or at best simultaneous, the signals from the trend indicators will come only after the beginning of a new trend, and the total signal will come when the trend will enter a period of maturity. At this time, professional speculators will gradually close their positions, and speculators such trading systems to help them, engaging with them in a deal. Closing positions in such stockbrokers would also come at a time when the trend changed and began to gain strength. From all this it follows that the use of such trading systems are either not effective or unprofitable and risky.

In view of the foregoing considerations, it is advisable to use a trading system with a small number of indicators and to detect the trend early, not to catch her “tail”.