Tips to Help You Trade Like the Pros
Few other fields have more
published rules and guidelines than trading. After all, there’s no Idiots Guide To Trial
Defense. We’ve been inundated for decades with the old saws about cutting losses quickly and
letting winners run. Still we see little improvement in the trading performance of most participants.
Futures trading is truly a zero sum game.
Each night the Clearing House pays out the same amount of money it collects. Toss in commissions, charts, research and the endeavor quickly reaches negative
expectancy. Since I began trading on the CBOT floor in 1982 much has changed. Electronic access,
FIFO and lower commissions have vastly leveled the playing field between professionals and the rest
of us. While technological advancements have made trading short term more appealing than a
generation ago, in my view retail traders should consider trading less. In fact rather than enhancing
returns and cutting risk most short term strategies only accentuate the losses associated with futures
trading. Allow me to share with you some cautionary aspects and a bit of advice that could help you
clear some preliminary hurdles.
Commissions:
One of the least talked about advantages of being an Exchange member are ultra low
commissions. I’ll let you in on a dirty secret. The most legendary floor traders would have been net
losers if they’d been paying the same commission schedule as you. In the larger financial products it
was very typical for a floor trader to trade 1000 contracts a day in hopes of making just $1000 a day in
profits. Superstar traders like Tom Baldwin would trade 20,000 lots on a busy day. I’d wager that many of you who’ve suffered grave drawdowns in your futures account are gross positive! Think about the paradox. Profitable trading yet net losses.
If your trading style is of a scalping nature I have a couple of suggestions. If you’re trading more than
several hundred contracts a day then lease an exchange membership. I won’t go into the details here but
for larger traders a seat will cut your costs dramatically. If you choose to remain at the retail level then
try trading an exchange or product with low fees. Eurex charges far less than U.S. Exchanges. If you
must scalp in America then look at low fee products like Treasuries. Or if you want to scalp a non-fixed
income product choose a market with a larger minimum tick size. Paying $4-5 a r/t to scalp markets
with $5 tick size is nonsensical. Cutting transaction costs is one of your most viable edges.
Short Term Technical Trading: I’m going to be both emphatic and controversial. There’s is no system
based on short term indicators generating anything other than real time random performance. It’s utterly
naive to believe the next few ticks can be handicapped by a stale set of variable equations. Now I know
some of you are thinking I’m out of touch. That’s because you’ve just successfully back tested some
esoteric system with divergences, crossovers and filters.
You’re sure this new optimized system is gold.
Think again. First the obvious. The Goldman’s, Morgan’s and big bucks CTA’s with their vast
computing power and impeccable tick data have already tested every conceivable indicator under the
sun. Even if you’re onto something remotely consistent you’ll be subject to all the problems of high
frequency short term trading such as commission costs, unable price orders and slippage. Now here’s
the rub. There’s many signals derived from longer term strategies that will produce quality short
term trades. Which signal has a more reliable chance of generating short term follow through? A new
5 minute high or a new monthly high? As a technician doesn’t it make better sense to monitor a wider
array of markets and spot higher percentage opportunities then to “specialize” in a single market and
take a series of weak signals derived from noise?
Trade The News:
One of the pretexts of technical analysis is the theory that news is already reflected
in price. Nonsense. Markets are organic. Market moving institutional participants are constantly
reevaluating their positions based on evolving perceptions of fundamental information. Think of the
market as a basketball game. We’re watching a half court offense methodically passing the ball around
the perimeter in search of a high percentage shot. Suddenly an athletic defender intercepts the pass and
runs down the court uncontested for a slam dunk. That defender’s name is News and he can spoil even
your most conservative plans. News often comes unannounced. News can be as subtle as a dry Sunday
in July when perceptive traders figure out there’s a potential drought and push futures to an up limit
open on Monday. No matter how mechanical and detached your approach you’ll be frequently
confronted by decidingly anti-technical factors.
Position Sizing:
It only matters how much you bet. Too many times we’ve all made historic market
calls only to take a small profit much too soon and then watch the market explode for weeks on end in
the direction we anticipated Then the next time we try to milk a winning trade for a bit more and see
our open profit evaporate. It seems that picking the markets direction is seemingly easier than
extracting consistent profits. I preach two approaches. For folks who’re reasonably well off and seeking
more modest returns I suggest you vastly under trade. Practice with scaling out of winners along with a
hard protective stops. Larger accounts should risk no more than 1-2% their equity on each trade. One can always save up an additional $5000 in trading capital but refunding an account with an extra million isn’t as simple as moonlighting at your day job.
For smaller accounts I advocate a more wide open strategy. You’re probably not going to double your
account 12 consecutive times trading for 1 tick at a time. None of us are that good. What you can do
however is hit an occasional home run. I’m not saying just let it rip without an uncle point but you must
intelligently look for opportunities that’ll give you a quantum leap in return. Unless you’re still a
teenager, compounding $5000 by 20% a year isn’t going to be a life changing experience.
Learn About Options: Like futures themselves, options are increasingly traded electronically and have
enjoyed tremendous surges in volume and liquidity. For small traders the ability to over leverage with a
defined stop loss on equity is a boon to your big play potential. I’ll give you a pertinent example. This
past December I had strong resistance on the March e-mini S&P at 1511. I decided I wanted to risk
$10,000 on a short position. Index futures margins would have allowed me to short just 2 futures.
A 100 point down move would in turn have resulted in a $10,000 profit ($50 per point x 2 contracts). Instead
I bought $10,000 worth of put spreads with an expected 8-1 payoff if futures closed below 1400 at
January expiration. Fortunately the trade worked and my 10k turned into a minor windfall of $80,000.
Another advantage to long premium options trades is the ability to trade futures contrary to your
options position. If you’re long calls you can then be a natural seller of futures.
Often if you’re in a rhythm you’ll quickly pay the cost of your options with the proceeds from your gamma hedging.
Accept Your Psychological Shortcomings: We’re all flawed in one way or another. Discretionary traders
in particular are subject to the pitfalls of poor trade selection, over trading, undefined risk tolerance and
revenge trading. A movie actor can vacillate between bi-polar feelings of arrogance and guilt but what
makes his foibles different than a traders is the simple fact that he gets paid no matter what. We will
never trade perfectly but must attempt to at least minimize our natural self destructive impulses. Keep a
journal of your trades.
Don’t just mimic the information contained in your brokerage statement. Instead
keep a log of you felt emotionally about each trade. Like me you’ll find there’s commonalities with
many of your losses. For instance if I fail to take a signal that would’ve resulted in a big winner I’ll
invariably next act on a weak signal and often over trade it to boot. Doing nothing more than
eliminating your “trouble spots” will save you money that can be dedicated to the next good setup you
perceive.
Hopefully I’ll have an opportunity to expand on these points in subsequent articles. Till then, best of
trading and good health to all.
Kurt J. Eckhardt has been trading since 1982 when he began his career as an active floor trader in the CBOT Treasury Bond pit. Kurt is President of Eckhardt Research and Trading and its subsidiary Agility Trading. Agility offers both individuals and funds cutting edge technical strategies along with high performance instruction. For more information go to www.agilitytrading.com or email Kurt at kurt@agilitytrading.com.