How do I do it?
At the core of any successful endeavor lies a strategic framework that serves as a guiding map, steering each step toward the achievement of the desired outcome. Progress becomes more attainable when one follows a well-defined path.
My approach has evolved through the conventional learning curve, where initial mistakes are embraced as opportunities for growth, ultimately transforming errors into valuable lessons.
Although I didn’t undergo formal study in this field, I suspect that my trading approach isn’t a unique discovery. What I engage in is a fusion of swing trading and grid trading, uniquely applied to an index instead of the conventional pairing of swing trading with forex and grid trading with crypto.
Now, let’s delve into the components of this strategy and see in detail what I do and what I don’t do.
- Macro over technical
- The grid
- Tapered bidirectional trading
- Tapered trade value
- Tapered trade intervals
24mm, ISO 125, f7.1, 1/160 sec
Macro Over Technical
While I may not claim expertise in this matter, I harbour reservations about the efficacy of technical analysis in trading. My skepticism arises from the belief that attempting to discern patterns and predict future movements in a market governed by irrational agents is a challenging endeavour.
Even in the absence of these challenges, the fact remains that technical analysis tools are accessible to all market participants. Consequently, it becomes challenging to gain a competitive advantage when all can anticipate the actions of everybody else to the same degree of precision.
Conversely, when examining the long-term behaviour of an index, a discernible pattern emerges. It becomes plausible to identify a range of values within which the index may operate, establishing a midpoint around which it oscillates. This range and midpoint exhibit a gradual, upward migration, occasionally disrupted by foreseeable yet unpredictable macro events. While “black swan” occurrences may be unavoidable, strategic attention to the macroeconomic factors influencing the index allows for a more precise delineation of the range and midpoint over time.
The Grid
Having conducted macro and historical analyses to arrive at a considered judgment on the index’s potential midpoint, the process of constructing a trading grid becomes straightforward. The likelihood of the index remaining closer to, and often reverting to, the middle zone is higher. Consequently, in this band trades can be executed at closer intervals and be of greater value. As the index deviates from the center, the intervals between trades increase, trade values decrease, and bidirectional actions cease—on the short side at lower values and on the long side at upper values.
The grid is segmented into five zones, radiating from the central point with a total radius of 600 points on each side. The accompanying image illustrates the gradients of greys progressing from the darker zone I to the lighter zones II, III, IV, and V.
Employing these three levers (direction, value and interval) together as the zone index ascends, expands the spectrum of trading possibilities while concurrently mitigating the risk of losses.
Let’s look at the three levers in more detail:
Bidirectional trading
Bidirectional trading takes place only in zone I and II. Within zone I the interval is 10 points and it grows to 15 in zone II. The value of the position in zone I is 1% of portfolio value (OPV) and in zone II upper is 1% OPV Short and 0.5% Long, while in zone II lower is 0.5% OPV Short and 1% OPV Long.
Value of trades
The value of the individual trades varies between zones for both Long and Short. For Short it’s 1% OPV from zone V upper to zone I, 0.5% OPV in zone II lower, and 0% OPV in zones III-V lower. For Long it’s 1% OPV from zone V lower to zone I, 0.5% OPV in zone II upper, and 0% OPV in zones III-V upper.
Trades intervals
Intervals differ between zones. They are:
- 10 points in zone I,
- 15 points in zone II,
- 20 points in zone III,
- 25 points in zone IV, and
- 50 points in zone V.
Expect the unexpected
It might all seem rather unconventional, and I, too, find myself continually intrigued by how such a simple trading style can yield such impressive results. However, it’s crucial to acknowledge that this strategy is not impervious to challenges, with a significant concern being symbolised by this captivating yet formidable creature—the black swan.
Many of you are likely familiar with Nassim Taleb’s groundbreaking work, “The Black Swan,” where he defines a black swan as an event possessing three key attributes: it is an outlier, so rare that its possibility is largely unknown; it has a profound impact when it occurs; and despite its outlier status, explanations are retroactively formulated, falsely rendering it predictable in the future. Unfortunately, examples of black swan events are all too frequent in the realm of finance—think the dot-com crash, the sub-prime mortgage crisis, and, more recently, COVID-19.
How does my strategy hold up against such events? Not particularly well, as do all others. However, I have three lines of defence in place should one of these unknown unknowns materialise:
- First, I limit my trades to a range of 600 points on each side of the center point.
- Second, I only allocate approximately 35% of my portfolio to trading, keeping the remaining 65% in cash to extend stop losses and address any other contingencies that might arise in the worst-case scenario.
- Third, and finally, I firmly believe that this trading approach cannot be automated until the advent of general artificial intelligence. My active presence serves as the last piece in the defensive puzzle, a pilot able to intervene with corrections when the market, or the world at large, teeters on the edge of the cliff.
While black swan events may lead to losses, the perspective shifts when considering a potential 50% loss in the context of consistent 30% compounded growth over however many consecutive years.
Rule No. 1: Never lose money.
Rule No. 2: Never forget rule No.1
Warren Buffett