Fakeout Shakeout
Moving Averages are great but are a sure fire way of being knocked out by a fakeout one too many times.
Even if you get it right your profits are eaten up while you wait for the moving average to reverse signalling you to close your trade.
I started thinking surely if I look at historic data and analyse what was happening just before the perfect entry and exit points then you can figure trading out.
Wrong! There is a difference between brave and stupid and a lot of these so called perfect entry points fell into the stupid category for sure.
I started to realise there is no shame entering late and exiting early as long as it was profitable in the long run.
I also stopped trying to create a system which never caused a loss.
I think the hardest thing about back testing systems is really being honest with yourself - you always want your system to do well so your bias will make it look better then it is.
So here it is - simple but effective. The Fakeout Shakeout. I have a full time job which is why I got interested in trading so maybe I didn’t have to have a full time job! This means I trade of daily charts as the shortest time period.
I have tested this system on the EUR/USD and GBP/USD with a result of earning about 3000 pips (In total) over the last 3 years. 1000 pips a year - 80pips a month may not sound great but for a system which only requires 5 minutes of work a day then I’m not arguing.
Fundamentals - I hate them - it’s like watching a film with the biggest amount of plot twists known to man. You can guess, double guess and triple guess what some news release will do to the price of a pair but it’s only easy to see the logic after the price has moved
Before that you can read countless articles by supposed experts who will take the same facts and draw polar opposite conclusions. It’s chaos - you will turn your brain to mush trying to figure it out.
I do like the babypips economic calendar though - it keeps you aware of those major events which could cause some volatility and might just persuade you to not trade when your indicators are positive but weak
I would never trade with the fundamentals - I would use it as an reason not to trade.
The trend is your friend so rule number 1
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Never trade against a 50 day SMA
Retracements are great for intraday traders but forget them for this system. The sure fire way to get faked out is by trading against this trend. Sure sometimes you will catch a new trend early but in the long run the odds are against you.
When the 50 day simple moving average is on the verge of reversing it can be very difficult visually to see whether it has tipped from one side to the other. You can use the actual data to work this out but my theory is that a picture paints a thousand words - if a pair has been in a downtrend for a while but is creeping towards a reversal then the bulls will be looking for any reason to get back in especially if all other indicators give the green light.
So if the line is flat (maybe even arguably still in the current trend) then I would give it the green light if all other indicators say go. -
MACD Histogram
I think this is the key to the fakeout shakeout. Take a look at a daily MACD histogram now and it seems to seamlessly go up and down in a perfect pyramid. The times when it goes positive for 1 day and then back to negative are few in number and occur most often when it’s against the 50 day SMA.
What I don’t like though is assuming that just because the histogram is falling that its going to carry on falling and switch. Especially in long trends where you can earn 300+ pips you will see it drop and rise and sometimes not switch for months
I like a positive Histogram I can see without squinting - again it’s because other traders are looking at the same thing - a positive Histogram which is barely visible is still positive but it won’t have the same impact as a nice visible histogram - I wish all traders were logical but there not and if they were then well there wouldn’t be money to make from technical analysis.
But I want 2 positive histogram readings because I am just greedy! The 1st one doesn’t need to be visible but the 2nd must. Forget what the MACD line and signal line are doing - if they support your trade then great - if not don’t wait for it to be too late -
5 day EMA, 10 day EMA, 15 day EMA?
I struggle with what gives me the best indication. The 5 day 10 day EMA combination is quick and sometimes to quick, the 10 day 15 day EMA is slower and sometimes too slow. I think we have room for both in this system. More detail to follow but first a comment of EMA over SMA.
I like the 50 day SMA because a trend indicator should do exactly that - indicate the trend and nothing skews a trend indicator more than recent volatility which could have been caused by some overworked tired broker hitting the wrong button or putting a couple of extra zeros on an order by accident - only kidding!
That’s why I give the 50 day SMA a bit of slack as sometimes you just need to get on the train
But I am EMA all the way with rule number 3 because when that train is off then its off and only a brick wall will stop it. I like to think of it like sitting on a plane as it taxis around the airport. I am always trying to anticipate just before the pedal hits the medal for take-off. Sometimes you think your off but it turns out your still in a queue, its only when you get thrusted to the back of your seat and your palms start to sweat that now you know that your off and you wonder how you ever fell for those fakeouts!
So using both combinations here are the rules
3.1 - open trade when the 5 day EMA crosses the 10 day EMA only if the MACD histogram is above 0 for 2 whole days and the 2nd day is more positive then the first
3.2 - open trade when the 10 day EMA crosses the 15 day EMA only if the MACD histogram is above 0 for 2 whole days and the 2nd day is more positive then the first
Wait I hear you say - isn’t that the same rule with just different EMA’s - why yes it is!. My logic is I could just work with my preferred 10 day 15 day combo but sometimes the price has taken off and therefore relaxing it to also allow the 5 day 10 day combo is needed as long as the MACD histogram test is good. In this sense 3.2 is irrelevant however I like to keep it in as I like looking at the 10 day 15 day combo as standard and only revert to the quicker EMA’s if I think I should be getting in to a trade.
Whilst working on this system at one point I abandoned EMA crossovers altogether and just looked for increases and decreases in the 10 Day EMA with a rule that if it increases 2 days in a row then your good to go. I found though that by the time the MACD histogram test passed I had normally crossed over anyway. In cases that it hadn’t the 5 day passed the 10 day EMA
- Close that trade! Is 200 pips enough
This is a real battle of emotions. There is the system I want to work and the system that does work. The system I want to work is the one where taking every 200 pip profit is more profitable then letting your profit run. The system that does work does however depend on the state of the pair.
If it’s trending then profit running is a winner, if it’s ranging violently then taking those 200 pip wins is the winner. Psychologically an auto 200 pip profit take has some great health benefits as it hurts less to win 200 when you could have won 500 then to lose 100 when you could have taken a 200 pip win.
But stats are stats and if I back test this over the last 3 years for the EUR/USD and GBP/USD then letting your profit run wins. Stressful though and requires more of your time.
So what are the indicators to close.
4.1 If the 10 day EMA is flat or decreases for 2 days running then its time to leave.
Don’t wait for the crossover - the average high low price swing is over 100 pips a day and waiting for that crossover to close your trade will leave you feeling sore. Rarely do I find that after a flat or decreasing 10 day EMA does it then suddenly rise the next day. It can happen especially if the 50 day SMA is strong but in the main its better to get out and then renter if the rules permit so
- If you want to renter the trade you just left then you better have a god damm good reason
Damm - I left to early - stupid system - that’s 200 pips I missed out on. I’m back in so I don’t miss anymore of these winnings………next day………WTF…I’ve just lost all the profit I made in the previous trade.
I was finding this double slap in the face again and again. I’m in I’m out I’m shaking it all about and bamm the price reverses. Serves you right - you may have fallen for an exhaustion gap.
The indicator to get out was there and you took it but bulls being bulls didn’t want the good times to end and one more party before the bears moved in
So what is a good reason to renter?
5.1 Renter the same trade after closing only if the MACD histogram is increasingly positive for 2 days (Standard). The MACD must be over the signal line and both MACD and signal line must be above/below zero (Depending on direction of trade). At this point your pretty much guaranteed the 10 day EMA over the 15 day EMA test has also passed.
Oh yeah don’t forget about your 50 day SMA. Given all these conditions you can be sure the price in trending strong and a renter is safe!
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Stop loss - 300 pips no arguments
A system where you take 200 pip profit but allow a 300 pip loss seems daft but I’m just playing the numbers. A 100 pip stop loss will slap you at least once a week, 200 at least once a month, 300 - hardly ever.
One day movements of 300 pips against this system happened once in 3 years. That’s not to say you wouldn’t lose 300 pips over a few days but by then your 2 day falling EMA rule should have kicked in.
Not much more to say about this. It makes the size of my position easy. I have £10k. I won’t lose more than 3% in one trade and 3% is more than a lot of pro’s will risk. 3% of £10k is £300. That’s a really nice £1 per pip. -
Other Indicators
I don’t like to use too many indicators as you can tie yourself up in knots over it but we are missing a good oscillator maybe in the form of RSI or Scholastic. Use them if your unsure - if your indicators are weak but positive then maybe use a 3rd indicator to decide. -
Summary
Its not for everyone - it only earns £1000 a years with my position size. I do think its versatile though and can be applied across quite a few pairs and is a good supplement to other trading tactics. In theory you could apply this system over 10 pairs with £10k capital and therefore double your money in a year. That’s not bad in my book. Also you may notice it’s not overly strict because it often uses visual analysis rather than hard data. Therefore may not be suited as an EA or automated system.
Please feel free to criticise and improve - its half the reason I shared
Cheers
But it surely looks tempting right. 
I have been there to.
