The markets are a volatile thing. Every day is different. Every currency pair is different. Each day, new economic and political events shape which way the markets are going to go and then there’s the manipulative existence of Smart Money – in short, throughout the trading week, no two days are the same as far as the markets’ predictability is concerned.
So why do you expect one strategy to work every day?
There’s a common myth in the algorithmic trading world that goes something like this:
“All I need is the best EA that will trade 24 hours a day, 5 days a week while I go do other stuff”
Nothing could be further from the truth.
Algorithmic trading was never about eliminating the human element from trading but to extend its reach, capabilities and performance using the computational power of computers and algorithms.
If you think you can find a strategy that runs on autopilot and makes you a decent income everyday then you’re either onto something you should not tell anyone about or you’re completely nuts. Either way, I am writing this article for the less fortunate ones like myself who had to make it in the world of Forex through downright hard labor and tactical thinking.
So all the holy grail-ers… please exit the building…now!
I’m now talking to those that are interested in learning to trade Forex with consistency, motive and discipline.
4 Major factors that are often ignored by every trader
Understanding currency strength and how it contributes to movement in the market is very very critical for every trader to understand. Typically, when the Dollar is strong, you will notice pairs like EURUSD going down and USDJPY going up. This is Forex 101. However, this theory does not always hold true. For example, the dollar could be strong compared to the Asian currencies but when compared to the European currencies, its not that strong (or weak at worst). So EURUSD is expectedly going to be moving sideways while USDJPY and other asian pairs could be locked into a relatively stable rally.
Days of the week
Like I said earlier, no two days of the week are the same. So its a fallacy to think that your strategy will work with the same settings and give you the same performance every day of the week. Typically, coming out of the weekend, Monday’s are what we call a “dull fest” where you’re just staring at the charts doing nothing. However, if you look closely, even in the dull moments, there’s a 10 or 20 pip profit hidden somewhere. The key is to understand what Monday’s are like – markets are usually flat, moving sideways with no clear trend or direction. Perhaps a range-based trading strategy is more apt for Mondays. Analyse other days of the week and you will see that Wednesdays and Thursdays are better suited for short term position trades, news trades or even short term scalping trades. Similarly, you can analyse other days of the week and build your own strategy based on what the market shows you.
It is true that more than 70% of all Forex trades are related directly to EURUSD. But that’s not the only pair in the market. There are other very low spread pairs such as USDJPY, GBPUSD, EURCHF, AUDUSD, CHFJPY etc. that can offer good, short term gains if the trader is focussed and able to intercept a move just in time. If you’re starting out in the world of Forex then my express recommendation for you is to focus on currencies you KNOW about. To all my aussie amateur Forex traders, I suggest you stick to AUDUSD, AUDNZD, NZDUSD, GBPAUD and AUDJPY to start with. Between these pairs, there’s enough volatility for anyone with discipline to make a consistent 100-200 pips a month. Find your pair, study it, understand it and exploit it till the Nth degree.
I mention the broker in this list because a good broker can make all the difference between a good strategy and a bad strategy. You need a broker that will a) be transparent and not manipulate the market against you; b) offer competitive spreads (under 2 pips max for all the crosses and minors) and c) offer good trade execution without any virtual dealing. In short, you need a real STP/ECN broker that will work with you as a partner, not as a supplier of platforms and fees.
Why do most strategies fail
Besides being the CEO here at Manhattan Global Markets, I’m also an algo developer and a serial algorithmic trader myself. I have built and released over 800 algos that have been tested in real market conditions over the years. In doing so, I have witnessed strategies with great potential getting dismissed because they did not produce great results on the currency pair it was designed to trade. However, with a little bit of fine tuning, every strategy has the potential of becoming a winning strategy. Here are some tips for those that are experimenting with new strategies.
Always start your back-testing in Visual Mode?
Watch what your EA is doing. Every downward pointing red line and every upward pointing blue line is a win. If at the end of the backtest, your EA shows a downward pointing graph, don’t dismiss it. Try to understand why. Here’s good way to understand why. Look at the average profit, average loss and the overall win ratio. If your EA was using stop loss setting, check that too. Sometimes increasing the stop loos and introducing a trailing stop can make all the difference. Talk to your developer and get help with optimising EAs.
Not all Tick Data is the same
Tick data varies from broker to broker. Not every broker stores all the tick data in its servers and if you are testing your EA on your broker, you may or may not see good results. For serious algorithmic traders, I strongly suggest setting up a completely separate testing environment with live and accurate tick data where you will build and test your altos. There are some useful tips about how to setup a perfect test environment for algorithmic trading in one of my other articles.
Practical steps for building a strategic trading portfolio
Every trader needs to understand the realities of trading Forex in 2017. The markets are not the same. Bank liquidity is not the same. Trading conditions aren’t the same. Popular strategies like latency arbitrage, 2-way arbitrage etc require far more fine tuning and adjustment now than they did 2 or 3 years ago. So as a trader, you need to have multiple trading strategies to compensate for the peaks and troughs, the lulls and spikes in your favourite strategy. Build a portfolio of winning strategies. Pick the right currencies and focus on the fact that not every day is the same. In my opinion, every algorithmic trader must have one or all of the following strategies in his/her arsenal.
- Range trading strategy – get an EA that accurately maps support & resistance levels and uses limit orders to trade the range. Target the M15-H1 timeframe.
- Trend strategy – there are hundreds of EAs out there. There’s got to be one trend based strategy you can use. Find something that works on M15-H1 timeframe.
- News trading strategy – This one is harder to find so you’re better off building one yourself or manually trade the news based on price action based indicators.
- Scalping – The most popular strategy and also the most overused one. Get a good scalper. M1-M15 timeframe preferred. By the way, H1 is not a scalper friendly timeframe.
- Grid – Not martingale but a good grid that simply relies on the “there’s a 50% chance the market will go up” concept.
Balance & Equity
Please don’t start trading with $100. You’re wasting everyone’s time. If you’re serious about trading, the lowest deposit amount you should consider is $1,000. Why? Because you don’t want to risk too much of your balance and equity to make the kind of returns you need to make in order to make this your full time occupation. It is relatively easier to convert $1,000 into $1,500 in a month than it is to convert $100 into $150.
Why? Because of leverage. If your strategy relies on 10 pip movement and you have 100:1 leverage (by the way, be aware of anything over 200:1) then your $100 account will give you maximum buying power of $10,000 which is 0.10 lot. If you risk your entire account and place the 0.10 lot… and the trade does go in your favour and generates 10 pip profit, you would have made $10. Imagine this. 100% risk, $10 reward. You just risked $100 to make $10. Now lets do this same math on $1,000. You would have still risked $100 to make $10 but this time, you didn’t bet your house on it. By the way, 10 pip movement on 0.01 trade = $1. If you are fine with spending a year turning $100 into $200 with $1 each time…then that’s fine. But if you’re serious, you’ve got to start with at least $1,000; ideally $3,000.
Plug: At Manhattan Global Markets, we allow traders to start with $500 for an MT4 or cTrader account.
Don’t have EAs?
Please… do not go out there and start buying EAs. There are plenty of websites that offer free EAs or EAs that should cost money but don’t. Download those EAs. Run some tests. Setup multiple demo accounts. Get VPS and load all those tests and let them run for a month. Analyse, adapt, improve and then go ahead and purchase the EAs that should cost you money but you got them for free (somehow 🙂 )
However, if you’re serous abut algorithmic trading, then you need to consider having your own algo-developer. Build your strategies the way you understand them. Translate them into a simple brief and have a good developer build them for you. This is the only way to keep ahead of everyone else. Remember, the best chef’s in the world, always maintain their own “herb garden” – this way, they know exactly what’s going in their food and before you know it, it becomes their “secret ingredient”.
Alan Moody, Head of Forex Products lent me his valuable insights about day-trading which helped me put this article together.
Vitaly Anuzhnayev, Head of Quant Strategies has taught me many interesting things about backtesting over the years that I’ve known him. I used some of his insights into algo development for explaining my view on backtesting.