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Forex Trading System: Choosing between Mechanical and Discretionary Systems

There are basically two types of Forex trading systems, mechanical and discretionary systems. The trading signals that come out of mechanical systems are mainly based off technical analysis applied in a systematic way. On the other hand, discretionary systems use experience, intuition or judgment on entries and exits. But which one produces better results? Or more importantly, which one fits better your trading style? These are the answers we will try to answer on this article.

We will first analyze the pros and cons about each system approach.

Mechanical systems

Advantages

This kind of system can be automated and backtested efficiently.

It has very rigid rules. Either, there is a trade or there isn't.

Mechanical traders are less susceptible to emotions than discretionary traders.

Disadvantages

Most traders backtest Forex trading systems incorrectly. In order to produce accurate results you need tick data.

The Forex market is always changing. The Forex market (and all markets) has a random component. The market conditions may look similar, but they are never the same.

A system that worked successfully the past year doesn't necessary mean it will work this year.

Discretionary systems

Advantages

Discretionary systems are easily adaptable to new market conditions.

Trading decisions are based on experience. Traders learn to see which trading signals have higher probability of success.

Disadvantages

They cannot be backtested or automated, since there is always a thought decision to be made.

It takes time to develop the experience required to trade successfully and track trades in a discretionary way. At early stages this can be dangerous.

Now, which approach is better for Forex traders? The one that fits better your personality. For instance, if you are a trader that finds it hard to follow your trading signals, then you are better off using a mechanical system, where your judgment won't play an important role in your system. You only take the trades that your system signals.

If the psychological barriers that affect every trader (fear, greed, anger, etc.) puts you in unwanted scenarios, you are also better off trading mechanical systems, because you only need to follow what your system is telling you, go short, go long, close a trade. No other decision has to be made.

On the other hand, if you are a disciplined trader, then you are better off using a discretionary system, because discretionary systems adapt to the market conditions and you are able to change your trading conditions as the market changes. For instance, you have a target of 60 pips on a long trade. But the market suddenly starts trending up pretty strongly, then you could move your target to say 100 pips.

Does it mean that trading a discretionary system has no rules? This is absolutely incorrect. Trading discretionary systems means that once a trader finds his/her setup, the trader then decides what to do. But every trader still needs certain rules that need to be followed, such as the size of the position, conditions that have to be met before thinking to get in the market, and so on.

I am a discretionary trader. The main reason I chose a discretionary system is that my trades are based on price behavior, and as you already know, the price behaves similar to the past, but it is never identical, therefore the outcome of every trade is unknown. However, I do have rigid rules on my system, certain conditions have to be met before I even think in getting in a trade. This keeps me out of trouble, once my setup is present and in accordance with the rules I have set, then I closely watch the price behavior and finally decide whether it is a good opportunity or not.

Whether you choose to be a discretionary or a mechanical trader there are some important points you should take in consideration:

1. You need to make sure the Forex trading system you are using totally fits your personality. Otherwise you will find yourself outguessing your system.
2. You also need to have some rules and most importantly have the discipline to follow them.
3. Take your time to build the perfect system for you. It's not easy and requires time and hard work, but at the end, if done correctly, it will give you consistent profitable results.
4. Before going live, try it on a demo account or even on a small account (I will go for the second option, since psychological barriers will be present.

Some Quick Forex Information

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USING CROSSES AND GOLD
EUR/GBP and GBP/JPY have a value as the leading indicators of EUR/USD and USD/JPY moves. EUR/CHF is similar to EUR/GBP in forecasting value but stopped trading and looking at it a long ago after experiencing difficulties in running good sized positions there.
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Increasingly, investors are turning to forex trading brokers to get in on some foreign currency trading. Unfortunately, not only is this branch of financial trading the one with the biggest profits and risks, but it is also most fraught with scams and shysters.

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Yes, but as a position trader I never use tight stops. Same goes for trailing stops. All very far away from the market not to be taken out by meaningless market noises. Initial stop is always 1% of my total equity, and never commit the whole position at a go but always scale in and scale out.
You can avoid your problem in most cases by leaving the market always by trailing stops, i.e., do not set the profit target. So, any winning trade must be held as long as market does not tell you to leave by hitting your trailing stops. When you enter the market by market signals and leave by stops or trailing stops, it solves the most difficult part of decision making process rather easier for traders.

USD/JPY HINTS
One of the silly rules of thumb in USD/JPY trading is it rarely moves 700-800 pips in a row without 200 pips or more correction in the middle and it almost always retraces back to 350 pips advance point from the start of its 700-800 pips move. All because of liquidity problem in Yen market.
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Some Forex News Stories

Toyota to bring Prius to South Korea

Thu, 20 Mar 2008 11:23:56 EDT
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posted by wealth maker @ 8:41 PM 0 comments

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Choosing a Trading System That Actually Works

I believe a good trading system should be considered for inclusion in one's portfolio in order to potentially enjoy superior returns. Finding a good trading system, however, can be a very difficult process. I believe a good trading system should be considered for inclusion in one's portfolio in order to potentially enjoy superior returns. Finding a good trading system, however, can be a very difficult process. So it becomes necessary to have a way of distinguishing good systems from the rest. Fortunately, there is a way to do this by using a demanding set of criteria that I believe must be met in order for you to consider using the system.

Futures trading is not appropriate for everyone. There is a substantial risk of loss associated with trading futures. Losses can and will occur. No system or methodology has ever been developed that can guarantee profits or ensure freedom from losses. No representation or implication is being made that using the Instant Profits methodology or system will generate profits or ensure freedom from losses.

The purpose of this report is to define the criteria that I believe will enable you to identify the good systems out there from all the rest.

Listed below are the key elements of the criteria set you should use in evaluating a trading system. A good trading system will meet the requirements of each key element whereas many systems will only meet some requirements. For example, a trading system may be advertised as having 80% winning trades which sounds pretty good. However, that same system's losing trades may be 5 times higher than the average winning trade, making the system a net loser.

Mechanical System

The trading system must be 100% mechanical without any human input or overrides. It must also not be tweaked or adjusted as time goes on to fit current data. Also, the system algorithms or rules must not be curve-fitting or tailored to short term, non-repetitive patterns of past data that eliminate otherwise losing trades. A good way to screen for curve-fitting is to look for consistently good results over a minimum of 5 years of past data that meet all of the other criteria outlined in this report as well.

Liquid Markets

The trading system should be aimed at liquid markets where sufficient daily volume exists to easily and consistently execute orders as intended by the system with a minimum of slippage. For example, the S&P 500 Index Futures Market is highly liquid, whereas the Orange Juice Futures Market is far less liquid.

Market Direction Independence

A good trading system will not be dependent on a bull market for its success. It should have the potential to generate successful trading performance in all market conditions; bull, bear, and sideways trading range.

Hypothetical Performance Results

The primary way of evaluating a trading system is based on its historical back tested performance ("hypothetical performance"). But the performance record must include real world trading commission and slippage assumptions. Commission and slippage can cause an otherwise winning performance to actually be a net loser. Beware of any futures trading system performance data where commission and slippage assumptions are not included or are understated.

Maximum Drawdown

An inherent characteristic of investing in general and in trading systems in particular is the maximum drawdown in account value from the most recent peak. This is a very important factor in assessing the risk associated with any system. There are two aspects to consider; the dollar amount of the drawdown as a percentage of the total account value (should not exceed the average annual return) and the duration of the drawdown until a new peak level in equity is realized (should not exceed 6 months). Some trading systems hype great profits over the past several years, but don't disclose drawdowns that sometimes exceed the initial capital invested and last for a year or more. Before selecting a trading system, you must be able to quantify the drawdown risk and find it suitable, both financially and emotionally.

Beginning Account Size

The maximum past drawdown (over a minimum five year period) plus the margin required for one contract is the absolute minimum account size required to trade a system. And to be conservative, it is prudent to add a buffer since the maximum drawdown for any trading system is always in the future.

Annual Returns

Annual returns are measured as net profit after commissions and slippage, divided by the beginning account size which gives you annual percent return on beginning account size. Two things are important here. First, the average annual net profit should be a minimum of twice the maximum drawdown over a period of at least 5 years. Second, ideally there should be no losing years.

Trade Profile

There are two aspects important here. First, the percent of profitable trades should be in the 40-60% range and the ratio of average win to average loss should be in the 1.3 - 2.0 range. Second, the average trade net profit (total net profits divided by the total number of all trades) should be at a minimum 3 times greater than real world per trade slippage and commission assumptions. Beware of systems claiming to deliver greater than 60% winners. Such systems usually exhibit a very poor average win to average loss ratio where a few losing trades can easily wipe out profits from several winning trades.

You Now Have the Tools

By following the guidelines in this report, I believe you are now in a position to distinguish the difference between good systems that have the potential to deliver superior returns and the rest. Remember, a trading system must meet all of the criteria elements outlined here to qualify as a system that you would consider trading for your own account.

The Next Move Is Yours

Trading systems are not for everyone. In particular, futures trading involves significant risk and should only be considered by those who have determined that futures trading is appropriate for them with regard to their financial situation. However, the appropriate use of a good automated trading system could mean the difference between mediocre and superior returns. I believe you now have the tools necessary to properly evaluate a trading system.

Martin Chandra is a full-time investor. He has been researching investment strategies and make his own living. For more information please go to http://martinchandra.com/peter-bain/

More Thoughts On Forex

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When looking at the technical analysis in the Forex, there are three basic principles that are used to make projections. These principles are based on the market action in relation to current events, trends in price movements and past Forex history. When the market action is looked at, everything from supply and demand, current politics and the current state of the market are taken into consideration. It is usually agreed that the actual price of the Forex is a direct reflection of current events.

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The more questions you ask, the more you�ll educate yourself about all aspects of foreign currency trading. It can be useful to subscribe to some electronic forex publications as well. With ongoing education and networking, you�ll soon be trading like a pro
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For the beginner, FX FOREX currency trading the popular currency pairs are Euro dollar and the US dollar (EUR/USD) or the British pound and the Japanese yen (GBP/JPY).
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Online Forex News

What to Expect for the US Dollar

Fri, 21 Mar 2008 20:58:00 -0400
- Eurozone Consumers Continue to Spend - British Pound: April Rate Cut Will be a Close Call

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posted by wealth maker @ 7:32 PM 0 comments

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Forex Strategy- Trading with Stochastics

Stochastics are amongst the most popular technical indicators when it comes to Forex Trading. Unfortunately most traders use them incorrectly. In this article we will review the correct way to use this popular technical indicator.

George Lane developed this indicator in the late 1950s. Stochastics measure the current close relative to the range (high/low) over a set of periods.

Stochastics consist of two lines:

%K � Is the main line and is usually displayed as a solid line

%D � Is simply a moving average of the %K and is usually displayed as a dotted line

There are three types of Stochastics: Full, fast and slow stochastics. Slow stochastics are simply a smother version of the fast stochastics, and full stochastics are even a smother version of the slow stochastics.

Interpretation:

Buy when %K falls below the oversold level (below 20) and rises back above the same level.

Sell when %K rises above de overbought level (above 80) and falls back below the same level.

The interpretation above is how most traders and investors use them; however, it only works when the market is trendless or ranging. When the market is trending, a reading above the overbought territory isn't necessary a bearish signal, while a reading below de oversold territory isn't necessary bullish signal.

Trending market

When the market is trending is necessary to adapt the oscillator to the same conditions: When the market is trending up, then the signals with the higher probability of success are those in direction of the trend �Buy signals�, on the other hand when the market is trending down, selling signals offer the lowest risk opportunities.

Thus when the market is trending up, we will only look for oversold conditions (when the stochastics fall below the oversold level [below 20] and rises back above the same level) to get ready to trade, and in the same way, when the market is trending down we will only look for overbought conditions (when the stochastics rise above de overbought level [above 80] and falls back below the same level. Taking all overbought/oversold signals during a trending market will lead us to many whipsaws. If you are not comfortable with the number of signals given, try expanding your trading to other currency pairs.

Trend-less market

During a ranging market we could use the interpretation explained above to trade off stochastics.

Divergence

Divergence trades are amongst the most reliable trading signals in the Forex market. A divergence occurs either when the indicator reaches new highs/lows and the market fails to do it or the market reaches new highs/lows and the indicator fails to do it. Both conditions mean that the market isn't as strong as it used to be giving us opportunities to profit from the market.

Stochastics can also be used to trade off divergences.

Price behavior

A price behavior can be incorporated into any kind of system or Forex strategy. When using divergences or overbought/oversold condition with a price behavior approach, the probability of success of our signals increases enormously. Why? Because price dictates at the end, how all indicators will behave, it also gives us a lot of information about the probable direction it will take in the future.

I hope this article helps you become a better trader.

Don't forget to read our risk disclaimer.

Forex Snippets

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There are even some auto trade systems available today that can do it all for you. In order to make an online fortune you MUST first learn how to do it before you attempt to use your own hard earned money to try and make money on the forex market. There the patient forex trading gurus who earn millions of dollars per month from currency trading every month, but there are also those who loose millions of dollars. The only difference between the winners and losers is that the winners took the time to learn what it is about and they traded with dummy account before the dived into the market. It is not that difficult to make a good profit from forex trading, just about anybody can do it if you are dedicated and serious

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I happen to believe if a child can learn to trade with some simple signals he will do better than most traders, most of the time, making a good living. But then again, movin market is more than just following the signals. Good trades to you.
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So, the Forex broker is an advisor who advises you about the forex market and allows you to work for 24 hours a day with major currencies like EUR, JPY, GBP, CHF etc against the US dollar on the spot, i.e. according to the current prices on the forex international exchange market. But the level of profits depends only on your abilities as well as your timely decision.
Check out the first commercially available Stock Trading Robot Which Earns $346.77 Per Week

All The Latest News From The Forex Software World

Dollar fell again as Fed made softer comment on US economy.

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