But Where's the Advantage?


Recently we had some discussions on my trading channel how I'm personally trading. My approach is "unusual" in the way that I don't spend much time on trend lines, or support or resistance. I haven't found these things work out too well. You've seen me test all kinds of weird trading strategies on the channel. I'm very open on my losses, and my wins. And I'm very open with the strategies I'm testing. The problem I have with things like support and resistance is that it's too easy to work in reality. So, let me explain.

A Word About Patterns

One word about patterns before we continue. I don't trade patterns. I don't trade trendlines. For the same reasons you're going to read below. It doesn't work. For me it's more important what a trendline or a pattern means. So for example higher highs, and higher lows is generally perceived as a wedge pattern. But what do higher highs and lows tell us? Uptrend. And knowing that is far more important than trading the pattern. Uptrend means "buy the dip", and so the question becomes "where can we buy a dip?" Personally I love clean patterns only. Triangles and wedges mostly. Other patterns have a low chance of success. Check chartpatterns.com for studies on patterns. Also keep in mind that every pattern has a defined set of rules attached to it. A head and shoulders pattern needs a certain volume fingerprint or else it is not a head and shoulders pattern. Also keep in mind that a pattern needs to complete to be actionable.

Where's the Edge?

As you read previously, I learned there are generally two approaches to trading financial markets. Mean reversion and trend following. Problem is when is a trend a trend, and when is a range a range? I've spent many many hours figuring out all kinds of measurements to determine mean reversion and/or trend. Let me say this much, I'm a terrible trend follower.

What is mean reversion? How is it measured? Basically the idea is this:

When we look at certain data set. Let's say the closing prices of the last 20 candles on BTCUSD. We can then go ahead and calculate the so called standard deviation of those closes. If you ever used Bollinger bands, that's how they work. John Bollinger defined the "mean" as the average of the last 20 closing prices. Average should ring a bell. If it doesn't: what's the average? Or better the moving average? Yes, a simple moving average 20. And so it becomes easier to realize what the Bollinger bands actually show us. We know that purely statistically, when price touches one side of the bands, that the likelihood is 40% of price continuing further, and a 60% chance of price reverting to the mean. That is quite an edge. And that is most of the work I do. Where is an edge case to be found in mean reversion or trend folllowing?

How Does It Work?

Most of the time I'm thinking of certain rules and strategies. I often following the CEST approach: Conditions, Entry, Stop Loss, Target. So

  • Conditions: what would make me think I'd I'd have an edge in the markets?
  • Entry: Where do I enter?
  • Stop Loss: Where do I set a stop loss? Swing lows/highs, fixed ATR-based values?
  • Target: After the stop loss has been set, where is a take profit?

These things can be programmed. I test them at least 100 times to get an idea whether something has the potential to have any edge at all.

The reason why that is important should be obvious. If what we're doing is purely random, then we can't make money (statistically.) If our chance of winning is only 50%, but our risk management is good–meaning risk less than we win–then we will be making money, even after a bad losing streak. The question becomes: where do we have an advantage?

Speculation vs. Trading

And that is a big issue I have with Crypto Twitter. People make these crazy wild calls for Bitcoin to 100,000$, when we have just no way of knowing that it will do that. That is all speculation. I can't see into the future so far, and you probably can't either. What I, and you, can do is determine the likelihood of a narrow-future event, say tomorrow, is more likely to occur than not. What comes after tomorrow we'll see, but that's how I build a trade thesis.

If you find someone who gives lofty price targets like: "XRP to 200$! It's programmed!" Then you know that you need to run far and fast.

There is no magic strategy. No magic indicator. These things just do not work.

I don't trade, or try not to, enter something based on someone else's calls. That is very hard for me because I often have the feeling that this other person might know something that I don't. After all, they seem far more experienced, so they clearly must be knowing what's going to happen next right?

Support or Resistance?

As with trendlines and patterns, support and resistance don't work that well. These things are far too subjective. Where do we draw "levels of importance"? I've tested it, it does not work! I think people like to believe these things work, because they are easy to understand and see. But let's be honest and perfectly clear: if it were so easy to draw a bunch of random lines on the chart, then why aren't we all get rich from it?

That said, I do draw support and resistance lines, and here's why. I draw lines for levels that I'm watching (set notification for horizontal lines, etc.) I have a certain trade thesis. Let's say I want to short Bitcoin. First I'd need the market to actually go down. For example I might get interested once I see a bearish MACD cross is happening on the daily, or there's an extreme deviation on the weekly, the funding rate is majorly off. Something that might give a clue that the market is very one-sided. Once I have identified an opportunity, I use one of my algos on it. For example I check whether I get a specific TF signal on it. TF would be a close downwards, out of the "chop zone", i.e. a breakdown. If that breakdown happens along with a break of the range (determined by support and resistance), I might get in. Overall that these things just add to a thesis. The hard thing is going from thesis to execution. I often hesitate to put the trade on, although I know have a 60% chance of winning on certain things.

Maybe this all explains it a lot better why I normally can't tell anyone about targets. I have none. After my minimal target has been reached, I have literally no other targets. I try to let it open for as long as possible, and then when it made it enough money, I close it. I'm not an investor. I don't invest in "value". I'm a trader, I only care if it moves. I care about percentages. If it moves, good. If it doesn't, bad. I can't tell you whether Bitcoin reaches 80,000$. All I know is: breakout, trend following. Didn't breakout, mean reversal.

I also can't make up my mind whether I like mean reversal plays more than trend following approaches. Actually I like mean reversal a lot more because markets range most of the time (about 70% I believe), so you're better off improving your range game.

But… obviously that is all a lot easier said than done, but that's why you guys follow my channel, isn't it?