Traders World Expo VII - KJ Trading Systems

www.kjtradingsystems.com

Traders World Expo VII

“Finding and

Exploiting

Statistical

Tendencies”

By Kevin J. Davey


Today’s Agenda

Who Am I?

How to Find Statistical Tendencies

– Tips

– Pitfalls

FREE spreadsheet tool for

evaluating systems

Questions and Answers


Disclaimer

U.S. Government Required Disclaimer - Commodity Futures Trading Commission

states: Futures and Options trading has large potential rewards, but also large potential risk.

You must be aware of the risks and be willing to accept them in order to invest in the futures

and options markets. Don't trade with money you can't afford to lose. This is neither a

solicitation nor an offer to Buy/Sell futures, stocks or options on the same. No representation

is being made that any account will or is likely to achieve profits or losses similar to those

discussed in this document. The past performance of any trading system or methodology is

not necessarily indicative of future results.

CFTC RULE 4.41 - HYPOTHETICAL OR SIMULATED PERFORMANCE RESULTS HAVE CERTAIN

LIMITATIONS. UNLIKE AN ACTUAL PERFORMANCE RECORD, SIMULATED RESULTS DO NOT

REPRESENT ACTUAL TRADING. ALSO, SINCE THE TRADES HAVE NOT BEEN EXECUTED,

THE RESULTS MAY HAVE UNDER-OR-OVER COMPENSATED FOR THE IMPACT, IF ANY, OF

CERTAIN MARKET FACTORS, SUCH AS LACK OF LIQUIDITY. SIMULATED TRADING

PROGRAMS IN GENERAL ARE ALSO SUBJECT TO THE FACT THAT THEY ARE DESIGNED

WITH THE BENEFIT OF HINDSIGHT. NO REPRESENTATION IS BEING MADE THAT ANY

ACCOUNT WILL OR IS LIKELY TO ACHIEVE PROFIT OR LOSSES SIMILAR TO THOSE SHOWN.


Who Am I?

Futures Trader for 20 years

1st or 2nd Place Finisher in the worldwide

futures trading contest 2005-2007

– Over 100% annual return each year

Profiled as “Market Master” in 2010 Wiley book “The

Universal Principles of Successful Trading”

Writer for SFO Magazine, Active Trader Magazine and

others

Although I write about futures, consult and offer signals

to public, ABOVE ALL I AM A FULL TIME TRADER


My Trading History

During the first 10 years of trading, I spent a lot

time PICKING THE WRONG SYSTEMS!

– Cowboy Trader “1-2-3” method >> LOST $

– Simple Moving Avg Cross >> LOST $$

– “You Can’t Lose…” Method >> LOST $$ Visit my website for article on why scale trading is dangerous

– Averaging Down Method >> LOST $$$


My Trading History

But, those early losses forced me to research the best traders and ideas

– Market Wizards books

– Other Classic Investing Books

– Van Tharp’s Trading Psychology Courses

Combining what winning traders did with my own personality/psychology led me to where I am today


My Trading History

Now, I develop systems using an objective

approach

Data Mining,

Brainstorming

Limited Feasibility

Testing

In Depth Testing,

Optimization

Walkforward

Testing

Monte Carlo

Simulation

Initial Real Money

Testing

Full Size, Real Money Operation

It takes approx 100-200

trading ideas to yield 1

tradable system


Data Mining & Brainstorming

Objective is to discover statistically valid

tendencies in the market, and develop

systems that exploit them

Can be as simple as “buy Friday afternoon,

sell Monday morning” or complex as

“when Gold/T-Bond ratio exceeds X, buy

stocks with low beta values”



Can use variety of tools

– Trading software

– Excel

– High level math/statistics software

No one right way to do this

– Follow my tips, avoid pitfalls

Let’s look at 3 examples



Example 1 – Seasonal Analysis

Example 2 – Time of Day Analysis

Example 3 – Opening Gap Analysis



Tip #1

– The best statistical

tendencies have a solid,

easily explainable

explanation behind them


Seasonal Analysis

Is there a seasonality

play in Orange Juice?

What if I:

– buy in early Summer -anticipating hurricanes

– sell in Winter – after freeze

is priced in Is there a

seasonality play in

Heating Oil? What

if I:

– Sell in Fall – opposite

of most retail traders

– Buy in Spring

Is there a seasonality

play in Orange Juice?

What if I:

– buy in early Summer -anticipating hurricanes

– sell in Winter – after freeze

is priced in


Why Do You Need Explanation?

Would you fly in a plane

if the pilot said “I have

no idea how this thing

works, but I haven’t

crashed yet!”

To trade well, you need confidence in

what you are doing – logical

explanations help instill confidence



Look at a number of different commodities– Buy beginning of one month

– Sell Short 6 months later

– All commodities must have explanation behind them

Run thru past data (20-30

years or more) – Statistical

significance?

Go to Testing

Phase

Get a New Idea!

“YES” “NO”


Example 1 Results

Seasonal Strategy - Hypothetical, fixed contracts per

trade, 1/1/2004 to 9/19/10Past Performance is no Guarantee of Future Results

($50,000)

$0

$50,000

$100,000

$150,000

$200,000

$250,000

$300,000

0 20 40 60 80 100 120

Trade Number

Net P

rofit

Walkforward Results

Realtime Results from 11/09


Example 1 Results

Starting with an idea, we were able to:

– look at past data

– determine some significant patterns (without

over optimizing)

– put the concept into a comprehensive

system

All started with simple explanations to

market movements



PITFALL: Testing thousands of

combinations of entry and exit

dates, keeping the best one as

“proof” concept works.

Maybe you are only seeing a

statistical fluke!



Tip #2

– Observations you make about market, or that you hear about, can lead to great ideas

SO

– Don’t underestimate your ability to suddenly “discover” market tendencies



Trader/author Al Brooks mentioned in book that “usually” day high/low hit in 1st hour for ES futures

– Does statistical analysis back this claim up?

– If so, can this be used to create an edge?



Put High and Low Data (and Times) in

Spreadsheet, see what results

date high time low time

Did H or L occur

before 10:35?

971211 1030 1220 1

971212 945 1240 1

971215 1535 1125 0

971216 1300 1530 0

971217 940 1555 1

971218 935 1430 1

971219 1550 1110 0

971222 1000 1310 1

971223 1120 1600 0

971229 1615 935 1

971230 1600 935 1

971231 1425 940 1

980102 1615 1020 1

>>> 67% of days,

either High, Low or

Both occur in First

hour of Trading!


Example 2

So, what do I do

now?


Example 2 Results

Knowing this tendency, look for action

consistent with bottom/top

Or, use OB/OS indicators to find extremes


Example 2 Results

Today –

reversal bar

and lower high

(from

yesterday) was

good High of

Day marker



PITFALL: Statistical tendencies

are only part of a strategy –

remember confirming

patterns/indicators, stops, profit

targets, and money

management!



Tip #3

– Take a well

known/perceived edge,

modify or add to it


Example 3 – Open Gap Analysis

Two popular gap observations

Buy Fri close, Sell Mon open Open Gap >> trade same direction



These observations are generally true, but can

they be “twisted” to be even better?

>>> Buy Mon, Sell

Tues is even better

than weekend

trade!

Perform Simple Excel Analysis…

-0.40

-0.30

-0.20

-0.10

0.00

0.10

0.20

0.30

0.40

0.50

Fri-Mon Mon-Tues Tues-Wed Wed-Thur Thur-Fri

Av

era

ge C

han

ge

(P

oin

ts)



These observations are generally true, but can

they be “twisted” to be even better?

>>> Possibly

Buy (don’t

sell) big

down gaps!

Also, avoid

small gap

days

Perform Simple Excel Analysis…

-3

-2

-1

0

1

2

3

4

<-20 -20 to

-15

-15 to

-10

-10 to

-5

-5 to

+5

+5 to

+10

+10 to

+15

+15 to

+20

>+20

Opening Gap (pts)

Avg

Dail

y C

han

ge (

pts

)



Other possible analyses

– Could the Gap day of week be combined with gap size?

– Does Long term trend have an influence?

– Could this be combined with first hour high/low

observation?

Basically, anything can be done. Just make sure

– You have enough observations

– You can explain what you are seeing

– You add in other components of a good system (stops,

etc)


Final Pitfall

PITFALL: Don’t take cliches,

books or magazine articles as

“truth.” Be prepared to verify

it yourself, and test variations.


Summary – What Did We Learn?

Tips

– Explain

what you

find

– Always

Observe

– Re-invent

known

edge

Pitfalls

Avoid

overtesting

Edge only

part of

strategy

Check

“truths”

Tendencies(be sure to verify!)

Buy OJ – Aug

Sell OJ – Feb

Buy HO – Apr

Sell HO – Oct

67% of time, Hi/Lo

hit in ES 1st hour

Buy Mon, Sell

Tues better

Fade big down

gap


For More Information


– Information on my systems

– Articles, videos, webinar materials

– Learn about following my trades

http://www.kjtradingsystems.com/


FREE For Attending!

Monte Carlo Spreadsheet Tool – I use it everyday

Visit www.kjtradingsystems.com, join mailing list

INPUTS IN LT. BLUEMonte Carlo Simulator

Base Starting Equity $ 15,000 RESULTS IN YELLOWStop Trading if Equity Drops

Below $ 5,625 Start Equity Ruin

Median

Drawdown Median $ prof Median Return Return/DD

# Trades, 1 Year 167 $15,000 1% 21.2% $15,696 105% 4.88

System Name Gen 3 - Mini S&P Only $18,750 0% 17.8% $16,084 86% 4.83

$22,500 0% 15.3% $15,988 71% 4.59

$26,250 0% 13.8% $15,861 60% 4.31

Inidivdual Trade Results $30,000 0% 12.4% $15,718 52% 4.23

Profit/Loss $33,750 0% 11.3% $15,615 46% 4.16

($317.50) $37,500 0% 10.4% $15,695 42% 4.04

($892.50) $41,250 0% 9.7% $15,830 38% 3.90

($155.00) $45,000 0% 8.9% $15,704 35% 3.87

$432.50 $48,750 0% 8.4% $15,761 32% 3.84

$282.50 $52,500 0% 7.8% $15,910 30% 3.84

($292.50)

$32.50

$282.50

$915.00

$107.50

$665.00

$495.00

$795.00

$732.50

($1,390.00)

$1,052.50

$595.00

($55.00)

($55.00)

Rate of Return

0%

20%

40%

60%

80%

100%

120%

$0 $10,000 $20,000 $30,000 $40,000 $50,000 $60,000Start Equity

Ra

te o

f R

etu

rn

Rate of Return / Drawdown

0.00

1.00

2.00

3.00

4.00

5.00

6.00

$0 $10,000 $20,000 $30,000 $40,000 $50,000 $60,000Start Equity

Retu

rn/D

raw

do

wn

http://www.kjtradingsystems.com/


FREE For Mailing List Members

“Super Tips”

– 2 Tips for Mechanical/Automated Traders

– 2 Tips for Discretionary Traders

Of all the things I’ve learned in 20 years of trading, these are the key ones

To be sent to E-Mail List Members in October


Thank You For Attending!

Thanks For Joining Me Today! I Hope Your

Data Mining (and Trading) is Successful!

Traders World Expo VII - KJ Trading Systems

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