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Poker, trading and the F-Shift Forecaster on $RUT (Russell 2000 ETF)

Is a professional poker player considered a fool when he or she is holding pocket Ace, King and makes an aggressive raise only to lose the hand? The answer is an emphatic NO - the odds were played and over enough hands like that, he or she is eventually going to come out a winner - a consistent winner. Sound familiar? Trading has been said to mirror poker so closely it's considered eerie and as a professional trader and a fan of poker I couldn't agree more. We have all had the "perfect" set up prior to initiating a trade only to see what "should" have happened - not happen. But therein lies the problem -the trader's mindset that something "should" happen. Nothing "should" happen, however you can have an expected outcome if you identify an edge. Each moment in the markets is unique even if the setup or trading opportunity looks identical to previous trades you may have taken and in fact been successful in. The old maxim in trading is "there is no shame in being wrong - it's when you know you are wrong and staying wrong". In other words, acknowledging that a particular trade that you have entered is not working out as planned and you chose to not take the necessary corrective action. I have written extensively on my 3 laws to successful trading - risk management, position sizing and probability. Prior to any trade I assess all 3 of the above using my m3- Money Management Modeller ©. I fact it was the financial and mental drain of taking undisciplined losses and the roller coaster equity curve that led me to develop the m3 platform in the 1st place.

I recently made a forecast using the F-Shift Forecaster© on the $RUT (Russell 2000 ETF) which called for either a pause or a reversal in the current rally.

$RUT forecast update using the F-Shift Forecaster

http://www.screencast....  (click to enlarge pic)

revised $RUT forecast using the F-Shift Forecaaster

That post was made on Friday of last week and of course Monday June 1,2009 the markets exploded to the upside causing me to step back and reassess the position that I had opened. The forecaster was indicating that the rally may be showing signs of exhaustion which could unfold into a consolidation or a possible reversal. I entered the latest data points from Monday's trading action into the forecaster and sure enough the results that I based my forecast on had changed somewhat suggesting that in light of this new price action, a breakout continuation was also a very real possibility. So, was I wrong in my initial forecast? Absolutely not - because at the time the forecaster generated the results it did, it was working with the most current data available. Just like the professional poker player who is dealt Ace,King, you act according to the probability of the outcome, you apply sound position sizing which will lead to disciplined risk management and after all of that, if the market still makes an unexpected move, you objectively stand back, assess the situation and take the appropriate action. That would also include closing out the position for a loss if that is determined to be the best course of action.

Returning to my initial forecast which I blogged about last Friday, the unique methodology of the F-Shift Forecaster© considers Mondays large up day in the greater context. The forecaster takes the most recent 60 trading days of data into account, it then "shuffles" the order to generate a random outcome using the RANDbetween function within Excel. The reason we can resample data successfully is because the platform is populated with percentage change from close to close and NOT with any price levels (i.e. closing price). Percentage change from one day to the next always happens (unless the market is completely flat from one trading period to the next) and it is within those percentage changes that we can data mine for tendencies and make inferences. So while the market was up substantially on a percentage basis from Friday's close to Mondays close, it still only represents one data point in a sample size of 60. Yes it altered my original forecast somewhat but not enough for me to change my forecast which is for a lower value twelve trading days from the date of my initial forecast. At the time the Russell 2000 ETF ($RUT) had a starting value of 489.86 and I was looking for the closing value 12 trading days later to be less than that. I still hold that opinion as of the time of this posting (June 3,2009)  although admittedly it is not with the same conviction as I one had given the probability for a lower closing 12 trading days from now has been reduced due to Mondays strong percentage move. For now - I am comfortable with the options condor that I initiated last week. This week's action has me already modelling out adjustments should we push even higher but for now, I have made no changes to the original position. Like all great traders or poker players, in a worst case scenario, I can fold and wait for the next hand. Remember - regardless of your methodology, define your edge and then remember - risk management, position sizing and probability are far more important that any trading system or signal. There is no holy grail out there nor will there ever be and it is you through your understanding and acceptance of the above 3 principles with which will have your equity curve rising at a steady 45 degree angle.


I have attached a screen shot highlighting some of the cosmetic changes and there is a new 5 minute web tutorial for your viewing showing the latest forecasts using the F-Shift Forecaster with yesterdays June 2, 2009 data.

 http://www.screencast.... (click to play)

As always, Enjoy and thanks for watching.



One final note - I am currently developing an add on to the Forecaster. It's an advanced concept called price dispersion trading where using options, you take a position on the index, let's use the $OEX (SP 100) for example and then hedge yourself using the actual components of the actual index itself. Stay tuned and I will blog about the updates as I get closer to finishing the programming and the testing phase.