Category: Systems Trading

Richard Dennis on Computers

April 19, 2008

An excerpt of an interview with Art Collins and Richard Dennis follows. First the question from Collins and then the answer from Dennis:

Q. How hands on are you behind the programmers? Are you standing behind them explaining exactly what you want optimized, etc?

A. I spend most of my time talking to programmers and waiting for results. I've been working with most of these people for 20 years so I•m able to get into that intermediate zone between computer-ese and real English. I call them up and say here's the idea in English. Here's my idea of how it would go in the program, but you're the guys who are going to have to decide that ultimately. It's actually quite an adventure because a good programmer will get the first iteration wrong half the time.

Hedge Funds Behind Growing Use Of Quants

June 05, 2007

From Hedge Fund Daily comes the hedge fund world through the lens of a newbie reporter:

For hedge funds, it does not compute to use human analysts, when an electronic version can do basically the same job. And thus, Reuters reports, hedge funds, which were early to adopt new investment methods, are being credited (or perhaps, blamed, if you’re an analyst), for the burgeoning growth of quantitative strategies. “It’s all about trying to create an artificial analysts,” one unnamed portfolio manager at a quant hedge fund told Reuters. “It may not do it as well (as a human), but it makes up for it in volume.” Reuters cites as evidence of quant success to two of the industries top hedge funds that use them, D.E. Shaw and Renaissance Technologies, which were formed by math professors and are well-staffed with scientific types. Following their example, even non-quant hedge funds are expanding their use of computer models. “It doesn’t necessarily mean that Wall Street analysts are going to go out of business,” Ron Papanek, director of strategy at RiskMetrics Group, said in a Reuters interview,” but it does mean that there are other ways to be successful in identifying value.” He further noted that the fact that the biggest hedge funds are using its means “this form of analysis has legs.” Taking some of heat off hedge funds for equity analysts woes, Brad Hintz of AllianceBernstein, said the human kind are “doomed” also because regulatory investigations into analyst conflicts years ago has resulted in lower trading commission, and that’s put research on the cutting block as firms try to save on operating costs.

How can an author write about quantitative trading strategies in June 2007 and with a straight face make the case that these efforts are innovative or new? Systems trading has been around since the time of Richard Donchian - that's back to the 1950s and earlier. Don't get me wrong, Simons is a trading stud, a legend, but the basic ideas of 100% mechanical systems is not ground breaking.

Trading Lessons from Leonardo Da Vinci

May 30, 2007

A good read that adapts Leonardo Da Vinci precepts to trading.

Put Into "Code" Means What?

November 24, 2006

Feedback:

Hey Michael, Hello, I am a mathematics and philosophy student at Michigan Tech University. I loved reading your book twice; I am going to read it a third time. I find the trend trading philosophy to be very stoic and the concept, rather simple yet eye-opening. Often I find myself teaching others about your style of trading and even debating with others about indicators (basically all indicators never stack up to price in the long run or any run for that matter)...When you say "turn your philosophies into computer code" what exactly do you mean by this. If I am more of a risk taker, make bigger bets that sort of deal?

Real straightforward. If your rule, for example, is to buy when a market makes a 100 day high - then make that a rule you can put into computer code. That's it. Of course that can expand out to cover much more than my simple example.

Stop Making Sense

October 21, 2006

I received this feedback:

"Jim Sinclair said that just relying on computers and computer models cannot be a substitute for the real knowledge of the markets. What is your opinion about that?"

I responded: "Do you think his opinion makes sense given the public performance data of the traders you say he criticizes?"

He responded:

"Well, he seems to know a lot about gold and gold markets. He also seems to have forecasted correctly the present gold price action. It is not a bad idea to read first his comments."

Here are the comments in question. I don't understand how these comments refute trend following performance data.

Trading is not about hero worship. Meaning just because someone of note says something - do some homework. The numbers are either there or not. If trend following performance numbers did not exist for the many traders I have interviewed and or profiled, I never would have mentioned their names.

Inertia on Quants

September 03, 2006

James Montier recently wrote about the lack of acceptance of systematic trading:

"The industry has a large dose of inertia contained within it. It is pretty inconceivable for a large fund management house to turn around and say they are scrapping most of the processes they had used for the last 20 years, in order to implement a quant model instead. Another consideration may be the ease of selling. We find it 'easy' to understand the idea of analysts searching for value, and fund managers rooting out hidden opportunities. However, selling a quant model will be much harder. The term 'black box' will be bandied around in a highly pejorative way. Consultants may question why they are employing you at all, if 'all' you do is turn up and run the model and then walk away again. It is for reasons like these that quant investing is likely to remain a fringe activity, no matter how successful it may be."

In a zero sum world, Montier nails yet even more reasons why strategies like systematic trend following will excel into the future.

Bill Eckhardt Wisdom

August 26, 2006

A good piece of wisdom from Bill Eckhardt:

"If you make a bad trade, you have money management, you have a whole bunch of things that will come to your aid, and you're really not in so much trouble if you make a bad trade. But if you miss a good trade there's really nowhere to turn. If you miss good trades with any regularity you're finished, you're doomed in this game."

Which Moving Average?

December 21, 2005

Feedback received today:

"Hi, I was just experimenting using different moving averages to react to price movement in equities and futures. I notice that in your book, you mention only exponential moving averages of different time lengths. What do you think of using moving averages with different calculation methods (say exponential and triangular or time series) in order to track recent price movement in a stock as opposed to price movement in the past? It seems like that would be a pretty good way to track breakouts. Thanks. Joe."

I look at these issues in a different way. The key is answer the 5 questions presented in Chapter 10 of my book:

1. How do you determine what market to buy or sell at any time?
2. How much of a market should you buy or sell at any time?
3. How do you determine when you enter a market?
4. How do you determine when you exit a losing position?
5. How do you determine when you exit a winning position?

If after testing you determine that your variation or choice of moving average works to help you answer those 5 questions (to meet your personal goals of profitability, drawdown, etc.), then you are on to something. If it doesn't work, lesson there too. But don't get fixated on the entry indicator...

Minneapolis Star Tribune Quote

December 11, 2005

I was quoted today in The Minneapolis Star Tribune. The article was titled Computer Algorithms Increasingly Call Shots in Stock Trades. While the article may come off as a little simplistic, we should all appreciate this reporter tackling a subject still foreign to most traders and investors. [source]

Van Tharp on Trading Systems

December 08, 2005

Van Tharp, thinking appropriate for my audience, emailed me one of his white papers (PDF) regarding "trading systems". Take a read!

Data Verification

October 20, 2005

Ed Seykota includes a section on data verification at his web site.

March of the Robo-Traders

October 12, 2005

This report from The Economist contains the following excerpt:

"Beyond worries over market stability, might an even greater danger be lying in wait? Mr Hooper proposes a doomsday scenario. Some day, advances in natural-language processing and statistical analysis might lead to robo-traders capable of analysing news feeds, deciding which shares to buy and sell, and devising their own strategies. Given that companies are very keen to patent their algorithms, it is quite possible that just one company could then emerge as the victor in this algorithmic arms race, says Mr Hooper. This outcome would create a particularly challenging problem for regulators. "It is a possibility that you could have an unfair advantage and there would be nothing governments could do about it," he says. It is an interesting idea. But it seems unlikely, since there are so many possible trading strategies, and unlike simpler problems in computing (such as sorting a list) it is doubtful that there will turn out to be a single trading algorithm that outperforms all others. Yet perhaps such a suggestion should not come as a surprise. For whenever robots are being discussed--even if they are merely the software-based, share-trading variety--the idea that humans will lose their jobs and the robots will take over the world always seems to be lurking in the background."

A Simple Trading System

October 10, 2005

A Simple Trading System: Exponential Average Crossover from Ed Seykota. An online tutorial worth checking out.

Spare $5000?

August 22, 2005

One of the favorite questions by beginners is, "Can I trade your system or invest with a trend follower with $5000?" Not sure where this number comes from, but it always seems to be the same $5000 for all beginners!

I noticed the other day that Ed Seykota was asked at his site Seykota.com (and I paraphrase):

"I have $5000...should I keep trading or stop until I gather equity to diversify?"

In true Seykota style he responded:

"Say you want to buy a car and only have a few dollars. I wonder if you: Go out and purchase something in your budget, like a spare tire (or) wait until you can afford to buy a whole car."

He then added:

Plan A:
Drive this around for a while.

Plan B:
Save up and buy a whole car.

Plan C:
Develop a trading system and attract capital.

Another long standing view on the "capital" needed to trade.

Seykota on Backtesting

August 03, 2005

"Back testing can help you experiment with various methods for trend identification and risk management until you find some combinations that suit your temperament. Any back testing you do, and any subsequent trading you do, all occur in the moment of now."
Ed Seykota

Dean Hoffman Interview

July 26, 2005

The following interview is between Trade Center Inc. and Dean Hoffman:

Trade Center Inc.. What is your entry method to the market? Is it price-based or do you rely on some proprietary mathematical formula? Is position sizing done in the same method? How important is position sizing? What do you base position sizing on?

Dean Hoffman. My primary entry is based on some form of trend recognition. It is not merely a function if price but rather a combination of algorithms and filters. I also use money management overlays for position sizing considerations, as it's a critical component.

Continue reading Dean Hoffman Interview »

Limit Parameter Control

July 20, 2005

From CSI's Technical Journal:

"Every process you consider [in a trading system] requires some level of decision-making control to force a market profit. Your trading algorithm should have at least one trigger to explicitly buy or to sell a given commodity [or any market for that matter], and to take a profit or a loss as time and market conditions unfold. These triggers, called parameters, can be used alone or in conjunction with other triggers to develop specific trading signals. Overcomplicating the decision that gets you into the market tends to consume statistical degrees of freedom. The more freedom you take out of the market (adding process control), the less chance your trading algorithm will be successful. Factors such as commissions, slippage and inevitable errors made by you and your paid partner, the broker, all impact the likelihood that the market will pay back your risk capital. Excessive parameter control artificially minimizes their impact."

Ed Seykota on Testing Trading Systems

July 03, 2005

Ed Seykota was recently asked:

"I've got Excel on my computer...is it possible to make a good trading system on Excel or do I need to purchase...[a] sophisticated software program?"

Seykota Answered:

"A trading system is an agreement you make between yourself and the markets. You can use a number of ways to test the agreement before you make it. Excel has the advantage that you can see everything the system does. Other software has an advantage of speed and ease of use. You might consider starting off with Excel until you get a feel for system trading, and then move on to more specific software for comprehensive testing. You might also consider auditing a few runs of your testing software with Excel, to make sure you have accurate coding."

Visit Seykota.com here.

Caribbean Interview

February 26, 2005

I recently finished an interview in the Caribbean with a top trader. He currently manages over $1 billion in client capital using strict mechanical models. His dedication to master his niche over many years (by no means an overnight success) should be an inspiration to all. More to follow in the coming months...

Systems Trading Interview

July 15, 2004

Excerpts from an interview:

Omega Research: Jack, in your own words, how do you define system trading?

Jack Schwager: Well, the essence of system trading is that it applies a set of specific rules for getting into positions, whether it's on the buy or sell side, and every bit as important for getting out of those same positions. And there is no ambiguity. When certain conditions in the market arise that fulfill those rules, you enter the trade and when certain conditions exist that signal the exit of the trade, you liquidate it. And that unambiguous approach is what I would call systematic trading.

Omega Research: So do you believe that the systematic approach to trading is one of the best ways to trade successfully in today's markets?

Jack Schwager: Well, I think it's a very good approach for many people and it's a matter of personality. For someone like myself, who does not like or do well under the emotional pressure, I think it's a very good way of trading markets and it's one which I think many people would find works well for them.

Omega Research: Did you find in your interviews with the Market Wizards that any of that group of elite traders used the systematic approach to trading?

Jack Schwager: Some of them did. A couple that come to mind are Ed Seykota, who managed only a handful of accounts and kind of while ago, but he, over the course of about 20 years, transformed accounts from $15,000 to $15 million using purely systematic approaches. There was another trader by the name of Larry Hite who had a company, Mint Investment, who at the time I interviewed them, were managing close to a billion dollars. So a couple of the traders who did have particularly impressive results did use purely systematic approaches. To be honest, though, the majority did not and that is because a lot of the market wizards had very kind of almost intuitive types of approaches which don't translate into specific rules. And that is also a skill element which for most people wouldn't make any difference anyway because they don't have that natural instinct or talent to trade the way that these people do. So it still would mean, for most people, that a systematic approach might be the best avenue to start out with.

Andrew Lo on Simplicity

July 05, 2004

So you sat down at your PC and came up with a super-complex new trading strategy that mints money in everyone of your hypothetical back tests?

Watch out as Andrew Lo warns:

"..the first [rule of thumb] being that no matter how complex and subtle a strategy is and no matter how sophisticated it might be, it has to be possible to describe that strategy in relatively simple and intuitive terms to a sophisticated investor. In other words, regardless of how subtle and impressive and sophisticated the strategy is, I've never come across anything that couldn't be described in relatively straightforward terms as to what the value added of that strategy was, whether it was risk transfer, superior information, better executions, mean reversion, and so on. So, I think that's the first principle that I think is obvious to many investors; but to some who are not as familiar with quantitative methods, they may feel that they're just not really smart enough to understand. But, I think that's just not the case. The second rule of thumb is that you'll never see a bad back test. Now, again, this may be obvious to the experienced investor, but there's a very specific set of quantitative models that you can use to be able to gauge the bias that comes about from selection. The fact is that when I've talked with investors about doing due diligence, I've often said that, you know, whatever back test you'd like to see, I can certainly produce it for you. If you torture the data long enough, it will basically tell you anything you want..."
Andrew Lo

Robust Trading Systems

April 15, 2004

A very successful trend follower (Ken Tropin of Graham Capital) offered: "In order for a system to be successful, it has to be what I call robust. Robust means that I can test that system in a market I designed it around. Say I'm using it in the treasury bonds, and then if I switch that market and I try that system in the Euro, it still works. And if I change its parameters, it still works. And if I switch it over to corn -- something totally different than treasury bonds -- it still works. And if I look at some data that was out of sample from what I designed it around, it still works. Then I have something that might be interesting and have a chance of living in the future. Because the nature of data is it changes a little all the time. And so the key to success in systems trading is to have what I call a loose fitting suit. I can't have a suit that's so tight and perfectly proportioned to me that if I gain two pounds, it won't fit the data anymore."

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