Thursday, February 21, 2008

Should I Override the Forex Strategy?


Should I Override the Forex Strategy?
Trading is all about percentages. You enter a trade because you believe that it's more likely to succeed than fail. The job of finding favourable trades goes to your trading system. There are numerous books and courses about trading systems. The actual trading system you use is beyond the scope of this article, but please, please, understand this: If you're searching for the perfect trading system - you know, the one that delivers profits on demand - you'll be searching until the end of time.Successful trading is simply a game of probabilities. Does that disappoint you? Were you hoping for something a little more intellectual? Do you know how many academics - doctors and lawyers particularly - lose fortunes in the market each year? The positive bias comes from your trading system. Our advice is keep it simple. Find a system you're comfortable with. Know the setups. Understand why and when you enter and exit. Then stick to it.Today was a perfect day to test your discipline: We went long at 1190.00 and the reversing order was placed at 1192.25. Prices moved up to 1192.00 and reversed. One hour later we tried to reverse at 1191.00. Again prices moved up to 1190.75 and reversed. Two times we missed our profit goal by one tick.Should we change the strategy? or should we manually override the strategy when something like this happens?Doing any of this is like opening Pandorra's Box: Let's say you start lowering your profit goal by one tick. Of course you will be instantly rewarded, because the number of winners would increase. Next week you might experience the following situation: Your stop is hit and you are taken out of the trade, but then the market turns and takes off and you are missing a nice winner. What now? You start moving your stop a little bit further away and again you are instantly rewarded: The number of losers decrease.One week later you experience a similar situation and you continue "finetuning" your system by slightly moving down your profit goal and minimally increasing your stop loss. And very soon the winning system that you once had turns into a losing one, because your losses are much bigger than your profits.I have seen it many times: A trader backtests his system over 700 or maybe even 1,000 trades and then "finetunes" it after the first 5 trades. This doesn't make sense: If you have a sound logic why your system should work then it won't need "finetuning" after 5 trades.You should evaluate your system periodically, but instead of curve-fitting your system's parameters you should ask yourself: "Does the logic of the system still apply?"If you have a trend-following system and markets are trading sideways, then "optimizing" the system parameters won't help: It's the wrong market condition and the market is just not right for your system.Exercise discipline: If your system worked well over 1,000 trades, and you have a sound logic and didn't curve-fit the system, then you should not override the system or "finetune" it after only a few trades.

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