28 December 2010

Precision in Forex Investing

Does past data have a bearing on future data ? This is an assumption in forex, especially with systems and back testing. There is evidence of persistence in the equity markets and other markets like commodities, but very little else which can link data over time. Is it the case forex though is a more dynamic system than the equity markets, that is, is there a more controlled use of data within the system.

Persistence is effectively anti-control and acausal as attempts to trade on it have shown. The assumption is that this dynamism reflects control structures, but the question is as well is this control black box systemic control, is it evidential control or is it imposed from traders and so on.

It may be the case this control exists precisely because of the lack of momentum order within it, of the kind found in the equity markets, namely the way a company will grow in certain circumstances. That is to say all those traders are trying to find order or impose it in some cases. As has been noted this can lead to sharp reversals, suggesting that momentum in forex is not really momentum at all, as all who have traded using momentum indicators can probably attest.

It is the case in equity day trading as well, but the fact one can invest in equities means that it is the dominant reality of that market, though the problems with investing right now may have changed that. It is an interesting question to what extent one can use the growth of companies to structure day trading though.

It may be the case that this growth reduces the number of possible patterns at a given point, as the actual solution space being traversed by that market is simpler and more directional. One can ask is it more difficult to trade patterns in equities right now.
The question is really can forex help one find greater precision in investing. The first target is where investing traditionally takes place, the equity market. By doing this one brings a trading market into a market where trading itself is problematic. The patterns may be more reliable, but the costs make day trading a problem.

But the day trading environment is a necessary one to invest, if you do it correctly: you need to enter at a good price, unless you have amazing predictive skills in the analysis of financial statements. So the idea is to look for signs in the forex market if and when to invest. The problem is the forex market does not seem to contain information about specific companies.

But the assumption in equities is that the market does contain specific information about a company. But it may be the case it does not. Why should it. One could also surmise that the day trading time frame is influenced by events in forex.

Thus it maybe that one is reading forex information to deduce movements in a stock, even if only when to enter (financial analysis has presumably taken care of whether to enter). The point is where is the information coming from that one is reading in a chart pattern of a company. It may be the case that technical analysis gives information about the depth of the order book.

But it may be the case that a chart pattern is a creation of structure that is nothing to do with this kind of structured data. Think about those forex traders finding and imposing structure on data. Are day traders doing this, one can assume yes. The similarity is money flow and the connection is this as well between these markets.

At the day trader level large money flows move stocks up and down (though this is happening at longer investing time frames as well). In forex this blog suggests one can use indicators to detect the infusion of equity order into forex. But can one detect the infusion of money flow disorder into equities.

Well yes, that is exactly what indicators such as RSI are looking for. And can one detect that de-structuring back into forex. That would be something like the end of a trend, something of a holy grail in forex.

Perhaps one can look for it in equities, as one does not have the equivalent of companies in forex. One does have currency pairs, but this blog has delineated a way of looking at what their structural role is and it maybe one does not need anything more fine grained, as one most certainly does in equities. That fine grain is why one needs greater precision in equity day trading.

What all this suggests is that past data is not important at all, that structure is forming and dissipating. It suggests indicators are looking for moments when this happens. So what is a trading system doing, it is probably a snapshot of a particular structural event. But do structural events themselves have a template.

The suggestion is that the way forex does not have persistent structure but does have a dynamic powerful precise structure and the way is imposes into equities suggest that they do not in a meaningful way. And it suggests trading systems are even more problematic in forex.

This may be why what we see in equities is persistence, not a more dynamic formation of structure, in the way it seems to happen in forex (and why persistence is not seen in forex). Remember that equities have the structure they seem to have is reasonably clear, but why is not. For forex both are unclear.

The analytics of this blog suggests that the control is real, it comes from optimization, and it is not black box to the mind. But as always there are problems in trading control with intuition (i.e. sudden massive losses that overcome even the best rules).

But the suggestion is that forex is may be more tradable than equities, considered as separate markets as the interface between them is itself a huge research issue (a favorite of mine), because the kind of impossible precision of equity day trading is not required and the suggestion is as well if done correctly it may actually be more investable. Why, well, investing one must remember is always best seen as a trade (note Phil Towns's delineation of how to invest for example).

To do it in forex with leverage and the fact growth structures come and go, one must hop on and off the wave of imposition and market reaction/reformation with much greater rapidity and that is generally an insurmountable problem for the individual trader and we are assuming that systems cannot get at this.

The assumption here is that the cost structure is more advantageous than in equity day trading, that is a debatable issue though, but one is making the assumption that one can make for an investing return that overcomes costs and makes them part of the ride. But that ride is happening from masses of traders, so the suggestion is one needs to tap into that to make clear in a more structured way than with intuition, what the causality is.

The assumption is that forex traders are doing something more in tune with the market system than equity day traders, which makes for a smoother ride and hence a better cost structure.

What one needs in forex is the ability to read the market, since one is assuming it is actually readable. That is to say this control can be evidential, not black box, but the reality is it is black box, but it need not be. It is not entirely systemic as the assumption is it is in equities. That is the say the lack of back box determinism may be an advantage to trading and if done correctly may make for successful investing.

One can always look for signs of equity market determinism forming in forex, but that is what traders may be doing in coherent and expert use of indicators. One wants to get at the decisions of those traders, or make them yourself. Otherwise one is looking at a black box of unclear market causality in data, even more unclear if it is past data.

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