The other interesting performance detail is that buying the market during times of strong market returns produced some of the worst performance. Long positions are exited if today’s close is the lowest close of the past 20 days. How did I know subpar returns were ahead for trend followers? The volatility of T-bonds and corn are not equivalent. As a result, the right tail of a lognormal extends further from the mean than does the left tail. If today were the lowest close of the past 35 days, then today’s Second Order Breakout statistic would have a value of –35. What caused the Dow to fall 25 points?

The probability of this event is 0.45100, which is so small that it requires scientific notation to express its value. Of course, traders selling the breakout are eventually doomed. PART 1 Structural Foundations for Improving Technical Trading 64 The volatility breakout entry is comprised of three pieces: a reference value, a volatility measure, and a volatility multiplier. After creating new scatterplots, we will be able to determine if this year’s performance is above or below average, and what it might mean for next year’s performance. The theory is that the extension of these lines will act as support or as a resistant in the market’s future moves. Bars Bars Loss Win Loss –20,655 20 8 –17,804 18 7 –29,912 91 24 –18,578 21 8 –19,938 21 8 –20,787 21 8 –20,048 20 8 –19,234 19 7 –19,349 19 7 –18,946 21 7 –23,971 20 8 –20,085 20 8 –19,182 21 8 –19,663 21 8 –22,170 20 8 –21,942 21 8 –20,467 20 8 –21,007 20 8 –21,248 21 8 –19,874 21 7 –21,901 22 7 –21,537 19 7 –21,541 20 8 –20,984 23 8 –23,464 21 9 –19,100 24 10 –22,707 21 8 –23,564 23 8 –21,575 21 7 –23,051 22 7 –20,870 19 7 –21,361 21 7 –21,867 21 8 –25,724 22 8 –21,297 23 8 Portfolio Statistics Net Profit: –19, 547,613 Sharpe ratio: Drawdown: –22,783,630 Correlation to breakout: K-ratio: –0.45 Correlation to 10-40 MA: Dec-01 Jan-01 Jan-00 Jan-99 Jan-98 Jan-97 Jan-96 Jan-95 Jan-94 Jan-93 Jan-92 Jan-91 Jan-90 Equity MACD 12 day minus 26 day exponential moving averages; 9 day EMA for signal line Buy when MACD crosses above signal line, sell when MACD crosses below signal line 1/1/1990 – 12/31/2001 # Avg. This confirms that using the average true range exit will provide the strategy with a quicker exit should the trade become immediately unprofitable. Prevailing valuation measures such as price-to-earnings and price-to-sales were thrown out the window. Relative Strength Index In testing a 14-day Relative Strength Index, long entries are established if today’s 14-day RSI falls below 35 and short entries are established if today’s 14-day RSI rises above 65. The equity curve above performs well in the first half but then flattens towards the end of the test. An example is to draw trendlines, or lines that connect market tops or bottoms (see Figure 1.2). Profit Average Average Average Market K-ratio Sharpe Ratio Max DD Num Trades % Win Per Contract Net Profit Sector Energy –217,854 72 26 0.00 –72 –0.13 –454,182 Materials –626,360 –218,755 129 –0.05 26 –0.13 –292 Industrials –606,443 –220,678 67 –0.05 28 –0.12 –330 Discretionary 372,771 –274,753 61 0.09 33 0.20 287 Staples –472,577 4,269 65 0.06 26 0.01 –4 Healthcare 807,269 56 28 0.13 312 0.35 –475,801 Financials –580,517 14,003 70 0.04 23 –0.02 –59 Info. It becomes clear that when I buy the call and put combination, I am indifferent to whether the stock rises or falls. We divide the product of the two momentum measures by the variance of recent price changes in order to scale the indicator so results can be compared regardless of the market studied. Win FX AD 77,660 –0.02 0.04 –742,670 51 53 25.21 66 56,696 BP 547,650 0.11 0.28 –400,000 50 66 16.84 662 47,723 CD –571,480 –0.18 –0.27 –936,010 57 44 46.78 –229 49,422 JY –965,038 –0.22 –0.43 –1,191,775 53 49 14.28 –1,447 42,796 SF 156,775 0.00 0.08 –715,288 53 60 16.33 206 58,521 Rates ED –845,550 –0.19 –0.36 –1,429,175 49 51 87.58 –207 68,902 TY –1,036,750 –0.30 –0.50 –1,504,016 54 46 30.36 –629 51,854 US –765,094 –0.12 –0.39 –956,500 54 43 21.35 –635 53,174 Stock SP 270,713 0.07 0.15 –489,813 45 58 9.11 792 56,709 Metals GC 293,850 0.05 0.13 –600,440 51 47 47.58 125 75,804 HG 10,325 –0.02 0.01 –909,838 50 62 33.59 22 53,506 PL 810,680 0.19 0.40 –323,695 55 64 48.59 330 51,191 SL 873,135 0.15 0.48 –202,330 46 65 30.55 577 52,889 Energy CL –844,400 –0.07 –0.35 –1,487,060 55 49 27.54 –514 51,028 HO –816,904 –0.12 –0.34 –1,089,682 50 54 23.04 –641 48,270 HU –833,226 –0.11 –0.35 –1,113,563 60 53 22.34 –592 42,819 Grains C –255,750 –0.03 –0.12 –508,213 56 46 76.26 –65 60,792 S 120,488 –0.01 0.06 –538,700 52 50 29.32 52 50,914 W 676,563 0.14 0.35 –445,638 57 60 48.81 238 61,980 Meats FC 173,005 –0.04 0.09 –509,600 62 60 39.67 57 45,552 LC –8,220 –0.04 0.00 –831,324 44 61 49.93 3 49,835 LH –513,352 –0.22 –0.26 –833,136 54 50 31.67 –291 44,270 PB –202,960 0.04 –0.09 –531,900 60 53 20.72 –110 47,413 Softs CC 1,056,490 0.15 0.56 –316,140 50 60 49.47 428 64,446 CT –664,015 –0.09 –0.38 –752,025 42 60 24.00 –662 47,626 JO –1,253 0.04 0.00 –482,213 59 58 33.48 26 40,626 KC 384,570 0.09 0.15 –641,618 50 66 11.90 623 58,052 LB –596,960 –0.04 –0.20 –1,030,408 72 60 32.79 –239 48,822 SB 358,377 0.09 0.19 –544,264 45 53 54.43 144 63,475 Average –103,689 –0.02 –0.04 –735,234 51 53 33.45 –64 51,504 0 –1,000,000 –2,000,000 –3,000,000 –4,000,000 –5,000,000 –6,000,000 –7,000,000 –8,000,000 –0.23 –0.49 –0.51 © 2002 Lars Kestner – All Rights Reserved FIGURE 8.9a MACD Histogram Retracement Strategy Applied to Futures. Tech. The channel breakout using the stop loss produces a net profit of $9,486,543, a Sharpe ratio of 0.36, and a K-ratio of 0.15, all greater than the standard channel breakout, which produces a net profit of $3,511,542, a Sharpe ratio of 0.16, and a K-ratio of 0.06. Available at SSRN: https://ssrn.com/abstract=908615, Douglas J. Jordan & J. David Diltz (2003) The Profitability of Day Traders, Financial Analysts Journal, 59:6, 85-94, DOI: https://www.tandfonline.com/doi/abs/10.2469/faj.v59.n6.2578. Bars Loss 161 243 41 116 120 146 144 137 116 120 169 126 141 163 137 146 156 147 167 143 139 167 147 103 157 104 139 160 125 158 123 160 144 92 140 Net Profit: Drawdown: K-ratio: Portfolio Statistics –7,032,755 Sharpe ratio: –13,381,024 Correlation to breakout: –0.13 Correlation to 10-40 MA: Dec-01 Jan-01 Jan-00 Jan-99 Jan-98 Jan-97 Jan-96 Jan-95 Jan-94 Jan-93 Jan-92 Jan-91 Jan-90 Equity 14 day RSI 14 days in RSI calculation Enter long when %K falls below 35, enter short when %K rises above 65 1/1/1990 – 12/31/2001 # Avg. We may be able to explain the success of these trend-following strategies using a combination of prospect theory and mean reversion theory. Very strong performance is generated on technology stocks and on stock indices, with every market producing profits. The market did not change; rather, the performance of the trader’s strategy reverted to results of the average overall parameter sets. These performance numbers show that even if we knew in advance which market would perform the best, we would still prefer to trade the portfolio over any single market since our risk-to-reward statistics are maximized by utilizing the benefits of diversification.

The movement of ADX and VHF are similar.


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