Get out of the loop!

Graybox Trading

May 04

Recently, I started to lose trading a stock that I had previously made significant money on. This is a trendy stock with strong momentum. I made money scalping with a tight risk in the past. I also made money trading with my system. But, I started to lose using some of “manual market making” techniques. That style has me averaging down and taking off repeatedly to improve my entry price. The problem is that I can never get filled in this stock to reduce my size which makes me end up stuck with more and more size. This is really bad because it leaves me holding a position unable to use my market read and losing more and more.

If I did this once or twice and realized it, there would be no loop. But, I have used some of the “market making” techniques in other stocks to better effect. And, it was hard for me to truly believe I couldn’t make it work. This created a loop where something I was rewarded for on other stocks was punished.

The bad movie is simple. I add at an opportune point when the flow goes against me. I put the new orders on at break even to reduce my size. The market fills me and trades right to the price where I’m trying to reduce and never fills my exit then breaks lower. This generally leads me to taking a huge drawdown and working off the loss to still a modest to large size loss. No gains.

I was thinking: executing this strategy is really a sign of “reduced awareness” on my part. I needed to take a decisive action to stop this problem from happening again. But, more importantly, I need to address the underlying weakness that allowed the problem to persist.

There are basically 2 paths to approach it:

  1. Clean the plate and restart from scratch to try to address the root problems. One problem was crystallizing in my plan the different methodologies I plan to use. I have got into a habit of working positions just from no basis. It’s a method that can work on the right stock, from the right location, and under a thesis.
  2. Make use of the information of how this stock trades to develop better edges. Example would be hitting the trade at the points where I know that one cannot get filled on the opposite side.

What’s important to raise our awareness so we can see these sorts of patterns that impact our trading and take corrective action. Our “consciousness” is primarily constrained by memory. On the memory side, one solution I recommend is to create a workbook and detail out the obstructions and planned solutions. Another tool recommended by some is a program called Obsidian. You have to create a conscious stream that is unconstrained by your limited human memory.

The other aspect is that market cognition is what drives successful trading. A trading system encapsulates the market cognition into a discrete form. Now, I have trading systems that I have built that have a certain market cognition built into them. I have a general idea of how they work in terms of what they are looking for. But, I rarely recall everything that goes into them. And, you see this is the problem with discretionary trading in general is that over time- the trader is likely to lose information. Information that is edge. This is why building systems is a big part of what I do and will be more and more going forward.

Again, part of what allowed this to crop in was just pure discretionary trading without using my graybox, systems, or other methods. There can be a place and a space for more discretionary trading but more on that in a future post.

About the Author

The author is passionate about markets. He has developed top ranked futures strategies. His core focus is (1) applying machine learning and developing systematic strategies, and (2) solving the toughest problems of discretionary trading by applying quantitative tools, machine learning, and performance discipline. You can contact the author at