What we disliked

Too many missed opportunities

 

Missing an opportunity is as bad as being on the wrong side of a trade. That’s a common refrain among professional traders. And that’s one of the biggest weaknesses we encountered with the strategy: too many missed opportunities.

Consider this EUR/USD chart.

 

 

Between July 22nd and 28th, EUR/USD plummeted 1,318 pips! You would have thought the strategy would let us have a piece of the action. But it didn’t. Here’s why:

 

 

As you can see at the bottom of this EUR/USD daily chart, between July 21 and 28, RSI (Relative Strength Index) was greater than 50. Well, according to the strategy, when daily RSI is greater than 50 you ought to await a bull (buy) signal. If you get no buy signal, you simply sit on the side line and do nothing. Only after RSI moves below 50 would you look for a bear (sell) signal. This speaks to the ‘trend is your friend’ argument; the argument that states you should never trade against the trend.

 

Following that rule would have cost you a bundle in terms of the lost opportunity to participate in this massive downward spiral that occurred in just seven days. This was just one of many missed opportunities we spotted.

 

Unfortunately, the strategy keeps you out of the market during this crucial period when market sentiment is changing, i.e. when a trend reversal is in progress. You participate only when the trend is well established.

This is a major weakness. A very costly weakness.

 

Too manual

The strategy gives an entry or exit signal only when a candlestick closes above or below a specific Fibonacci (Fib) line without touching it. Only then do you enter or exit the trade. You have to sit at your computer and wait and wait … sometimes all day.

Surely, this is too manual a process in this software age. Finding a way to program the trading platform to enter and exit trades automatically once it spots a signal would be a real breakthrough, strengthening the strategy.

 

Too time-consuming

Let’s look at some of the trades presented in the promo as proof of the strategy’s profitability.

 

Symbol	Type	Open Time	Close Time	Duration )
USD/CAD	Sell	10/04/07 15:00	10/07/07 19:10	3 days +
EUR/USD	Buy	10/11/07 01:55	10/11/07 22:25	20 hours
EUR/USD	Buy	10/23/07 04:35	10/24/07 02:20	22 hours
USD/CAD	Sell	10/24/07 15:15	10/26/07 09:30	18 hours
EUR/USD	Buy	10/24/07 23:15	10/25/07 10:40	11 hours

 

Two observations stand out:

 

• To ‘catch’ the entry signals above (open time), you would have to sit before your computer       virtually the entire day
• Likewise, to monitor the trades and act upon the exit signals (close time) you would have to    be at your computer virtually the entire day.

 

No doubt, trading requires enormous sacrifice and discipline. But trading is a means to an end, not an end in itself. Trading is a business … the objective is to make money. But if by the end of the week you find yourself tired, run-down, miserable and agitated to the point that it begins to impact your quality of life and that of your family, you need to ask yourself questions.

If you could eliminate this burdensome nature of the strategy (through automation), you stand a far better chance of not only trading more profitably, but also of enjoying a more wholesome, balanced life.

 

Losses not cut short

‘Cutting losses short’ is fundamental to any profitable trading strategy. This means that you do not try to ride losing trades in the hope that it will turn around. Instead, you exit the trade when it moves significantly against you, to avoid an even greater loss.

But cutting losses short does not mean that you jump out as soon as a trade begins to move against you. That would be foolhardy and costly. You need to give your trade a chance to breath. You do so by setting a stop loss that is not easily hit but also tight enough so that if the trade moves against you, you preserve most of your capital to trade another day.

The original strategy uses a 50 pip stop loss. We believe this exposes our trading account to too big a loss. It works against the adoption of good money management practice.

With initial capital of $10,000, for instance, a 50 pip stop loss exposes you to a $500 potential loss on each standard lot that you trade. This constitutes 5% of trading capital, more than twice the 2% recommended maximum exposure per trade.  

We believed there was scope for a more efficient and prudent stop loss.

 

Poor profit protection

To see a handsome profit not only disappear, but turn into a loss is any trader’s nightmare.

Let’s look at this chart. Focus on the extreme right.

You entered the trade (bought) at the green candlestick. You’re now up about 30 pips and you’re happy. But let’s see what happens next.

 

 

This long red candlestick has instantly turned your 30 pip profit into a 15 pip loss!

 

Why? Because the strategy requires that you keep your 50 pip stop loss fixed in place. It does not allow you to move your stop loss to lock in your profits! Throughout your trade you are constantly exposed to volatile conditions that may wipe out your profit and create a loss.

That’s a major weakness, which, if remedied would significantly enhance the strategy’s profitability.

Exit strategy

In its quest to follow the golden rule of ‘let your profits run’, the original strategy employs an exit strategy, which, we believe, puts too much profit at risk.

Our next chart is the same as that in the preceding example, but it has been minimized to show data from earlier in the day.

 

 

The horizontal blue line shows the level of resistance. See how price has consistently bounced off resistance in the earlier period? The smart trader would have set his system to take profit at resistance.

Look across to the right at our trade. You can see that price reversed exactly at this point of resistance, when we were 30 pips in profit. We knew with a fair degree of certainty that the price would reverse at resistance. Why then stay in the trade and risk a major reversal, potentially eroding all our profit? That’s an unnecessary risk.

But it gets worse.

The original strategy dictates that you set a 50 pip stop loss. The stop loss is represented by the black horizontal line on the chart. Let’s see what happened after our initial 30 pip profit turned into a 15 pip loss.

 

 

We remain in the trade until the stop loss is hit. So, our 30 pip profit has turned into a 50 pip loss!! This could have been avoided had we sensibly taken profit at resistance when we were 30 pips richer.

It would be a major enhancement to the strategy if we eliminated this risk of eroding profits, but without sacrificing altogether the opportunity to let our profits run.

 

No danger warnings

There are times when the market can get very erratic and emotional. This occurs mainly during scheduled economic news releases. Although the big institutions and others do trade the news, these are very dangerous times for a small trader to be in the market.

The strategy, being strictly technical, does not forewarn traders of those dangers. This is no oversight; it is a deliberate policy. Indeed, the news could go either way, and could be very profitable for the trader if it goes his way. But with a 50/50 chance this equates to gambling.

We believe traders ought to be forewarned of impending volatility. Not that you should exit the market before every economic news release, but there are some releases that produce such high volatility that it would be foolhardy to trade them.

US Non-farm Payrolls report released 8:30am EST on the first Friday of every month is the most notorious of such economic releases. It is suicide to remain in a trade at this time. Even if the news pushes price in the direction of your trade, because the spread tend to increase significantly (sometimes by as much as 100 pips) your stop could still be hit.

The strategy ought to forewarn traders of impending significant news releases. You ought not to ignore the fundamentals.