Drawbacks of my trend systems

Although no system is perfect, I think it is a healthy exercise to consider what are some weaknesses inherent in my approach to trend trading.

Signals sometimes reveal that a trend has ended a little too early. Or in yesterday's trade, a little too late.

The problem of the Hard Right Edge

• A signal to go long is actually a signal to go short in a much more important price trend. The problem is you never know when or where than much more powerful price trend will begin. This is what you might refer to as the illusion of control. No matter how many technical indicators you place on your chart or how thorough your backtest reveals an edge, making each and every trade is an act of random faith that price will behave in the accustomed fashion. As we observed yesterday, things can go wrong all at the same time and there is little one can do to protect the downside than to keep risk to a minimum via position sizing.

• Profitable signals are usually pared by periods of random drawdowns which have no discernible beginning or end. These signals can be seen in non-traditional trading markets such as pre-construction real estate buying trends, a colleague of mine has cataloged popular Miami condos that yield seeking traders are gravitating towards in Miami these days. Before reading on, check them out here: http://miami-real-estate-trends.blogspot.com . Last week saw one of the best single day returns while this week saw all signals sucked into the false dollar bull run.

• Profitable signals appear at random intervals and can continue for an indeterminate period.

A few golden rule lists I have found both counter-intuitive and true:

Gartman's 20 Rules of Trading

Tim Morge, Master Your Trading Master Yourself

8 Rules that Simplify Futures Trading

Nesting

There are quirks to each persons trading which create undefinable edges. In my case I think there is a very subtle pattern in the signals created from meantrades setups. I define this as nesting.

No, not a birds nest. Although a tasty and very expensive Asian delicacy, it is not what I am referring to.

When I think of a meantrades setup, the idea of a coiled spring comes to mind. The idea of a rapidly expanded spring which snaps into action and has no control is a beautiful image once I am in a trade, as long as the spring is heading in its intended direction of course.

Specifically the nested signal is when price violates a keltner band and then returns for a reversal setup, however it has not yet closed below the median keltner line (which is actually just a 20 period sma). This type of setup has always appealed to me a very deep level but I never understood why.

After some consideration I realize now it creates a very subtle edge in my signals. It allows the signal to be created as close to the swing high level as possible.

Take two hypothetical signal examples from the meantrades setup, one with a nesting price point and one without.

As you can see from the first scenario, the ideal stop level is further away than preferred. By taking a trade without a nested price bar between the outer keltner band and median line, risk is increased. Over time this will eat away at profits and create doubt about the system, we want to avoid this at all costs. Even though you can easily scan through the charts and find quite a few huge winning trades which did not nest, it is the risk tolerance of each account which should be kept in mind first and foremost.

In the second photo we see an ideal nesting scenario, price retraces, tests the lows and then carries higher to successful target completion. Trades like this are why I am so confident in the potential for meantrades to remain robust and kind well into the future. All you need is momentum and retracements and the profits will come consistently week after week.