The E-mini Trading Professor

Archive for the ‘Trading Account’ Category

I seldom trade a chart without either a Simple Moving Average (SMA) or an Exponential Moving Average (EMA) displayed. Both are exceptional tools in an e-mini day traders repertoire. Of course, there is no agreement as to exactly which type of moving average works best-and that is as it should be, because no two traders trade with same mind set and personality.

In the world of moving averages there are two contenders for consideration. The diminutive simple moving average (SMA) and the more complicated exponential moving average (EMA). Because the EMA has a more sophisticated method of calculation, many consider it to be the superior of the two averages, but that would be jumping to unfounded conclusions.

The SMA is a basic arithmetic mean: you add together the closing prices from the last 10 periods then divide the product by 10. As I said, the result is a simple arithmetic mean. Pretty simple? Too simple for some people, especially those who tend to associate complexity with efficiency.

Complexity does sometimes yield superior results, but that is not always the case.

EMA’s are really not that much more difficult to calculate. The formula is simply 2 (n+1), and the result is added to the prior days exponential calculation. With some simple deduction you will see that an EMA emphasizes the most recent days prices, or weights the most recent days prices more than prices early in the exponential sequence. Since any moving average uses historical data, or data that has already occurred to calculate the average, any moving average can be considered a lagging indicator. It should be obvious, then, that the purpose of the EMA is to “speed” up the lag factor that is inherent in all moving averages.

Do EMA’s really speed up the lag factor?

To a certain extent EMA make the lag factor in moving averages less distinct, but like all things, there is a cost. EMA’s are notorious for causing a raft of early buy and sell signals, as the last variables in the sequence overweight the average. For that reason alone, I am not a huge fan EMA’s and prefer SMA’s. Does that mean SMA’s are better than EMA’s? Not at all, all it means is that in my trading mentality I am far more comfortable with the results from an SMA than I am an EMA.

I always strike an 89 period SMA on my charts and watch the price action relative to the price action and the SMA. If the price action in more than 3 or 4 points below the SMA(on the ES contract) I immediately decide that long trades are out of the question until the price action moves closer to the SMA, and visa versa on price action about the 89 period SMA. I can also glean some nearly instant information regarding the trend of the market by looking at the slope of the 89 period SMA, and the sharper, or more pronounced the slope appears, the stronger the trend.

I also use a number of paired moving averages to back up some of my entry and exit points. I generally use Fibonacci numbers starting with 5 and up to form my two moving average lines. I find it best, on short term trading, to use to SMA’s that are within 15-20 points of each other. I will leave to you to discover which set of moving averages intersect at point which best suit your trading style.

So we’ve talked a bit about moving averages today, and seen some applications for the SMA. The EMA’s are also used by many traders and I would encourage you to explore the applications for this moving average.

It is not uncommon to hear trading educators describe e mini trading as part art and part science.  In my opinion, nothing could be farther from the truth.  Trading is about probability and consistency in thought.  That’s a difficult pill for many to swallow; but it is, nonetheless, the essence of e mini trading.

Great traders take high probability trades consistently and pass on low probability trades.  The Hollywood notion of the high-stakes trader taking big-time risks and consistently winning is a folly.  Traders who consistently risk too much usually end up broke.  For this reason, novice traders should not buy into the notion that trading is a get rich quick proposition.  It isn’t.  Yet late-night infomercials trumpet the million dollar a year potential that exists in day trading.

The name of the game is low risk, high probability trading day in and day out.  This is only possible when a trader has complete control of his trading from a psychological point of view.  Quite simply, good traders trade only the chart in front of them.  They do not trade the economic news, the talking heads on the financial news networks, or rumors that are found daily on the Internet chat boards.

How does a trader become consistent?

It is not uncommon for inexperienced traders to have several losing trades in succession.  The natural result of this experience is to worry about the amount of money in their futures trading account, and this is precisely when the problems begin because the trader tends to lose sight of sound trading technique and risk management in order to get his account back to where he started the day.  No one likes to lose money.  But there are two ways to approach this problem:

1. An experienced trader continues to trade with sound technique no matter what his trading results may be.  He or she knows that there are no 100% guaranteed trades out there and even though he or she has chosen high probability trades, he or she has come out on the wrong side of the probability equation.
2. And inexperienced trader often times makes adjustments in his trading style in an attempt to get caught up to his opening balance.  These adjustments may include trading at a higher number of contracts or taking lower probability trades hoping they will “work out.”  This is, of course, the recipe for account meltdown.  Over trading and taking a higher risk trades is not the answer to the problem.  Yet it is precisely what I have observed over many years of watching novice traders who fall behind.

The ability to maintain self-discipline under duress is a trait all good traders possess.  I suppose some people are born with this self-discipline, but I suspect that most good traders learn this trade through experience.  There is no need to panic after a sequence of unsuccessful trades.  If the trader took good trades, high probability trades, and losses he or she must understand that this is part of trading.  Even the best setups have a probability component that includes losing.

What is the answer to this problem?

As hard as it may seem to swallow, the answer to a sequence of losing trades is to continue doing what you’re doing; that is to say the trader must continue trading a reasonable number of contracts on high probability trades.  Changing your trading style to accommodate the balance in your futures trading account is not the answer.  Yet, even among experienced traders I see this phenomena.

The exact opposite of the above situation can be true also.  Imagine a trader who puts together several very profitable trades.  In this situation, there are two possible outcomes:

1. An experienced trader continues to trade with the same methodology as usual.  He or she realizes that stringing together a few good trades means nothing except he or she has taken high probability trades and the probability of the trades has been true.
2. And inexperienced trader may suffer from the delusion that he or she is having a “hot” day and trade more contracts or take lower probability trades with the thought that he or she is on a winning streak.  There are no winning streaks and e mini trading.

The point here is a simple one; you have to trade the chart in front of you consistently regardless of the outcome of your trades.  If you are taking high probability trades and losing, that is an integral part of the trading game.  Of course, losing several trades in succession can affect your trading account balance; we do not trade our account balance; we trade the chart in front of us.