Trade Aptitude
Results of Friday’s Best S&P Turning Points: The buy @ 3976.75 was only good for a 7.75-point bounce.
Today’s Best S&P Turning Points (consider wider stops and less size in fast moving markets):
Buy 3865.50 stop 3861.00. Short 3924.50 stop 3930.25
The World Sentiment Index: (+100/-100) jumps from -50 to -7. Historically, price has closed higher than the open 74% of the time.
Catalysts: Maybe the Housing Market Index @ 10:00. Nothing else obvious.
Quick Tip: Probabilities Rule
One certainty we have in trading is that price will move. Which way and by how far are what we must figure out. Guessing doesn’t work. Using probabilities based on a large body of evidence does (at least enough of the time).
You get your probabilities by capturing and analyzing your trade data (lots of it). Most traders will initiate a strategy by back-testing and documenting what happened. The more stats you have for each historical trade the better.
Here are the key statistics you’ll need to know for both long and short entries (strategies are rarely “symmetrical” which means your eventual rules for longs and shorts may be different): win%, average winner, loss%, average loser, maximum adverse move, maximum favorable move, time of day, higher timeframe trend, and any other information from your favorite indicators.
You already know to capture and use the win/loss data. A strategy that wins 50% of the time and has a bigger average winner than loser is a great candidate. Any combination of those stats that has a positive expectation is good.
What may be new to you is the concept of Maximum Favorable and Adverse Excursion (MFE, MAE). This is simply how far did price move IN and AGAINST your direction before the trade terminated.
Logically, the MAE is your stop loss price. But what is vitally important is knowing for all those trades that DIDN’T stop out, how far did price go in your favor, MFE. This will help you decide on profit targets.
Friday’s suggested buy level only had 7.75 points of MFE. Without knowing the probabilities this was a losing or breakeven trade for many traders.
For this strategy we know that historically price moves at least 4 points in our favor about half the time. Why not start to scale out then? Call it a “risk management profit target.” Not enough to terminate the trade but enough to pocket a little profit, reduce your risk substantially, and tighten your stop.
The MAE/MFE will vary with each strategy you trade. You’ll know how much by capturing the data. For example, in our trend trading strategy the S&P has historical MFE of 4 points 67% of the time and 7.50 points nearly half the time.
If you’re looking to join a trading team that uses evidence-based rules, click here for a no-risk 30-day offer.
Trade Fearlessly,
Mike Siewruk
P.S. Feel free to share this blog with all your trading buddies.