In my Tickmill UK review thread I was asked about my trading system. Rather than derail that thread, I thought I'd post an overview here.
From Dr Elder's The New Trading for a Living (emphasis mine):
Chaos Theory has achieved prominence in the recent decades. Markets are largely chaotic, and the only time you can have an edge is during orderly periods. In my view, markets are chaotic much of the time, but out of that chaos, islands of order and structure keep emerging and disappearing. The essence of market analysis is recognizing the emergence of orderly patterns and having enough courage and conviction to trade them. If you trade during chaotic periods, the only ones to benefit will be your broker, who’ll collect his commission, and a professional day-trader, who’ll scalp you.
The key point to keep in mind is that once in a while a pattern emerges from chaos. Your system should recognize this transition, and that’s when you should put on a trade! Earlier we spoke about the one great advantage of a private trader over professionals—he may wait for a good trade instead of having to be active each day. The chaos theory confirms that message.
This is probably the most profound thing I have ever read about trading, and it underpins my entire strategy. I look for orderly periods, and open positions based on the statistically probable consequences of that order. There are many ways to do this, but my primary tools are Bollinger Bands.
I use a basic Bollinger Band squeeze strategy to find periods of low volatility (ie, order) and then place pending orders on either side of the price. When the breakout occurs, my pending order triggers, capturing the price movement. Note that Bollinger Bands are not the only way to do this; there are other volatility indicators, such as envelopes and the ATR, which could just as easily be used. However, I dislike off-chart indicators, and I find Bollinger Bands are visually very effective for me.
I'm trading the EURGBP, GBPCAD, GBPJPY & GBPUSD H1 charts, typically the London session, simply because it's my local timezone. I don't hold positions overnight, and dislike holding positions for more than 3-5 hours. I'm a proponent of knowing a handful of pairs very well, and these are the only pairs that I currently trade. They are all correlated, which means I'm only ever trading one of them at a time.
This is an example from earlier this week - my first trade of the year actually, and my first trade with my new broker.
There are two sets of indicators on my chart - those with a solid line, and those with a dashed line. Solid line indicators are trading signals. Dashed line indicators are trade/risk management signals.
I get a positive trade signal when the Bollinger Bands (blue) contract to within a certain distance of the price average as marked by a set of envelopes (green). This signals a valid price compression, or a moment of relative order in the markets.
Once I see this signal, I can set pending orders on either side of the price. The inner gray line is my entry point, and the outer gray line is my profit target. The red line is my stop loss. I continue to tweak these levels, set by envelopes in reference to the average price, to improve my results. When I first started, for example, my stops and my profit targets were much wider, forcing me to stay in trades far longer than I liked, and with only a 1R ratio. Now my stops and targets are much closer, so my trades finish faster, and my ratio is up to 1.5R. I expect to continue to improve this over time.
In this chart, one of my positions has been triggered, and the unused pending order has been deleted. But it was essentially a mirror image of the triggered order, which ended up giving me 27.7 pips over the course of about 4 hours.
There are two primary ways to go wrong with this strategy.
First, you can have a valid breakout start in one direction, but then reverse in response to a news event. You minimize the risk of this by not trading around scheduled news. You are looking for periods of order, and want to avoid anything that is likely to increase the chaos of the markets.
Second, you can have a false breakout that nevertheless reaches your stop order, triggering your position, before reversing and stopping you out, forcing you to absorb a loss. While you can mitigate this by moving your entry point farther out, the larger your spreads, the more likely this is to happen. Moving to Tickmill's low spread, commission based 'Pro' account was all about reducing the risk of this second issue.
As the system is a work in progress, take all stats with a grain of salt. However, over the last three months I have averaged:
1) 12-18 triggered positions per month
2) A hit rate ranging between 40-60%, depending on the month
3) All three months were quietly profitable
As with any good system, the overall strategy is simple, but fine tuning your entries, stops, and profit targets makes a huge difference in the final outcome. As I continue to refine the system, I hope to improve my results without altering the underlying mechanics.