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Here are the final results of the trading automation experiment I conducted about 3 weeks ago.  The two stocks I chose for the experiment is FAZ and SRS.  Both are leveraged ETFs.    FAZ ended up making 30% on the first try.  However, SRS ended up having 5 losers in a row.  So the net is up 2.5%.   Here is the whole series 1 2 3 4 5

Here is what I learned so far from this experiment.  100% machine trading is probably not feasible.  If I had turned on the machine when FAZ and SRS were close to 100, then I would have lost my shirt trading this reversal pattern.  Nevertheless it does not mean that this reversal pattern is bad or not even tradable.  We need to find out WHEN we can turn on the machine. Preferably, it should be close to when a true reversal will happen.  It does not have to be very precious.  Using this experiment as an example, if a true reversal started now and the machine opened a trade, it would hit the 25% target.  This would cancel out all the 5 previous losers, which would result in a break-even in SRS.   That would leave us with a net 30% profit in the FAZ position.  So it is my next major project to find out when I can start to automate the trading of this reversal pattern.

Here is SRS’s chart with 5 losers on it.   Click on the image to have a better view

Machines can beat a lot of traders out there since machines do not have 4 very lethal problems that human traders have

1:  hold onto losers
2:  cut winners
3:  fear
4:  greed

However machines are susceptible to the following.

If my machine is based on trend following, it might be whipsawed to death without even knowing it being in a range-bound market.  Because it has no fear, it will keep taking fake signals.

If my machine is range-bound based (mostly using some type of oscillators), it might trade against a trend when it keeps shorting a overbought signal in a bull run. Because it has no fear, it will keep doing that until it has no money left.

The system opened another trade in SRS.   Now we are long 200 shares of SRS @24.53.  This is the third try.  Let’s see how it plays out.   For people who are not familiar with this experiment,  Here is Planning Day 1 Day 2 Day 3 Day 4

Here is the chart. Click on the image to have a better view

I do not know about you. I just like to short stocks.  I did very well in 2007 scalping the market   ,averaging 40-50 round trip trades per day.   Most of year 2007 saw a bull market.  However, half of my profits were from the short trades.  As far as I know, we do not have to pay interests for short positions as long as they are day trades. 

I think that a scalping system is like a BB gun. BB guns are known for its accuracy and rapid firing due to its small caliber.  Nevertheless you can shoot only flies with a BB gun for the same reason. Do not look down on the effects of a super accurate BB gun though. If your marksmanship is good, flies will pile up in front of you in no time.  Swing trading is like a canon, very powerful yet less accurate.   My marksmanship has deteriorated a lot since 2008.  I had greased and put away my BB in a very secret place until a few weeks ago.  Now,I have taken it out and re-greased it. It is still shiny as new. What it needs is a good shooter.

As ususal, I was looking for a short position today.  And I found shld (Sears Holdings Corporation), which would have made a good short position if only I could short it.  I also had a few other candidates. But Shld would have worked out the best.  I left out one task this morning.  That is to check with Tradestation what stocks are shortable.   I remember I checked with TS last night and I saw that SHLD was shortable and It was not today though.  Either my eyes lied to me or TS pulled shld off the list this morning.  The shortable list changes every day. 

Speaking of the shortable list, Tradstation has a staggering 8000 stocks that are shortable every day.  We have around 17000 stocks listed on the US market.  Some brokers are jokes when it comes to shorting.  You need to check with your broker if it even publishes a shortable list every day.  TradeStation,ThinkorSwim and Interactive Brokers all do.

Day 4 Of the automated trading experiment

The computer sent in a buy order right after the market open.  SRS churned all day long.  And it was stopped in the afternoon.  So we have 2 losers in a row now.  See the chart below.

Click on the image to have a better view

A BB Gun works best used in a choppy enviroement.

The market moved in a choppy way today.  Wells Fargo led the Finical sector in the AM and ran out of steam in the PM.  The sell-off near the market close was really hard and fast, which is one of the reasons why it is hard for people to profit from shorting.

As we can see from the picture below, the weakest sector was Financial today partly because of Morgan Stanley (MS).  That is why I took a short position in it.  The entire move from my entry was about 6%.  I captured half of it, which was not too bad. The market has many opportunities everyday from either side.  Trading is not like any kind of 5-9 jobs.  Your success can only be limited by yourself.

There is no entry yet in the automated trading experiment.  The last 60 minute bar is an engulfing bar.  However, the system is programmed to wait until the bar is closed. Once the engulfing bar is closed, it will send in a buy order right at the open of the next bar.  In other words, we will have an entry tomorrow morning no matter where SRS stands (gap-down/up).  Let’s see what will happen.

Today is the second day of the experiment. The computer closed both of them.  The FAZ trade was up 30% and the SRS trade lost 5%. 

When I woke up this morning, FAZ was up 15% in pre market.  And the computer sent a sell order right after the opening bell rang.  It kept checking the gain/loss of these 2 positions tick by tick.  In terms of the FAZ position, if the gain was = or > 25% and a sell order would be executed. Due to the gap up, it was 5% more than the targeted 25%.  That was a bonus.  Of course, that would be extra risk if it were in the different direction than my trade. For the SRS position, the gain never reached 25%, and it hit the stop loss, 5% and it was out.

The FAZ exit was perfect.  It was almost the high of the day.   Question is whether it should be considered luck or discipline.  The computer knew it captured a giant return (30% in 2 days) and it was neither afraid nor greedy.   Greed and fear are the biggest enemies of traders.  The computer has none of those issues.  So It held onto the FAZ position and closed it according to the plan.  It never flinched in any order executions.  I have no problem closing a position when it hits its target.  If you have been reading my blog for while, you know that.  But I still have issues pulling the trigger when there is entry signals  The computer also showed rock solid discipline in the execution of the SRS trade because it followed the trading plan religiously.  The experiment will carry on with SRS.   Let’s see if SRS will show us the darkest side of machine trading.  That is 5 losers in a row. 

Here are the 2 trades closed today.  Click on the pictures to have a better view

What do you think?

Today is the first day of the experiment.  The market dropped really hard today and my inverse leveraged ETFs did pretty well. There was not any meaningful retracement during the whole session.  This means the bears were in total control. So we might see further weakness in the next few days.  As I mentioned a week ago that 8000 is a very strong resistance.  And it is.  The market has been chopping around 8000 for a while.   It is way overdue for a correction.   The economy is not going to get any better just because the accounting method was relaxed.

Bank of American released their first quarter earnings that is 10 times what most analysts expected.  And it tanked hard. Some people must be perplexed.  Do not be.  Most traders/investors think their earnings are just fluff.  Price action triumphs over anything.  Capital One and C also tanked hard.

I did not take any day trades. I was basically just monitoring the automated executions of SRS and FAZ.   Sometimes Tradestaion malfunctions although the software is very stable for my regular trading. Monitoring  is a piece of cake since all I have to do is to make sure it takes/exits the trades as planed, the Internet connection is on, and the trading windows are not jammed.  I did not have to make any trading decisions,which made my life a lot easier.

Probably you are more interested in seeing the trades than hearing me babbling. OK without further ado, here you are.  I will do a thorough analysis of the trades after the experiment is finished. The significant bars are marked with white arrows. Please note this is a variant of the engulfing pattern I showed you.  Fill the gap with some green play doh, you have a big green engulfing bar. In real life, it is rare to see text book set-ups.

Click on the pictures below to have a better view. 

SRS opened @ 30.16

FAZ opened @ 10.18

I am going to have an experiment here to test out automation of trading SRS and FAZ.  I do not know if it works.  It just might. I will open 2 small positions, 5k each in SRS and FAZ.

The set-up is simple.  I am looking for an engulfing bar using the 60 min charts.   The engulfing bar must be big enough to engulf(cover) the last significant red bar. A market order will be sent right after the close of the engulfing bar.   Here is the illustration of the engulfing pattern.   

Here is the Set-Up

• Go long right after the close of the 60 min engulfing bar
• Stop Loss will be 5%. If it gaps down by 10% and it will be considered 2 losers in row. 
• And the risk/reward ratio will be 1:5.   That makes it 5%:25% 

A good outcome will be anything that I do not have 5 losers in a row. The experiment will finish either when one hits the target before sustaining 5 losers in a row or when it loses 5 times in a row. It will start from Monday.  The computer will totally take emotion control out of my hand.  Let’s see how it works. I think it is going to beat me.  The trades will be excluded from my portfolio.   Feel free to ask me questions.

Here are the 60 min charts of SRS and FAZ at the end of 4/17/2008.

Here is the ongoing experiment:  Day 1 Day 2