ES E Mini Future Trading – Simplicity Versus Complexity

In the past 20 years I’ve been privileged to watch a wide variety of trading systems gain popularity and then recede in popularity. There are number of reasons for this, some are valid and others are simply a function of the fickle nature of the trading public. Invariably certain systems perform well in specific markets; say for example, some systems may excel in a bullish environment, but then fail miserably as the market becomes choppy or worse yet, turns bearish.

And that’s always been the problem with trading systems; certain systems work well under favorable conditions and yet cannot maintain their record of success when market conditions change. Oddly enough, the investment community’s answer to this phenomenon has been to develop more complex systems incorporating what seemed to be endless variables in an effort to develop a system for “all seasons.”

The general sentiment is that the trading system for all seasons has yet to be developed. My personal opinion is that a system for all seasons will never be developed. But I have a belief in randomness in the market, and that assumption alone precludes any system from prospering in all conditions. To date, history has proved me right.

Oddly enough though, some of the most popular indicators currently being used were developed by Welles Wilder in his landmark book published 1978 called “New Strategies in Technical Trading Systems.”In this remarkable book the Relative Strength Index, the Average True Range, the Directional Movement Indicator, the ADX, and the Parabolic SAR were all introduced. And I believe a random sampling of most traders oscillators will include one or more of these important indicators. Yet, these indicators are 30 years old and just as vital today as they were when they were published.

Why?

In recent years there’s certainly has been no shortage of complex market indicators and oscillators. Many of these new indicators are based on recent theories related to Efficient Market Theory and the Capital Asset Pricing Model. To be sure, I am not singling these two particular theories out as example of great theory gone awry because there has been a spate of modern theory that has simply proven to be out and out wrong or, at the very minimum, horribly flawed. The most recent housing bubble and the resulting credit crisis are an example of modern theory misapplied, with tragic and catastrophic effect.

Which brings me to the point of this short article; many of the “old standards”in oscillators and rate of change indicators remain remarkably effective and popular. There is little debate that Welles Wilder’s indicators circa 1978 remain among the most effective trading indicators most traders still use. These indicators have shown they work well in both bullish and bearish markets and can be relied upon to yield consistent results. Yet the question remains, why the preoccupation with progressively more complex indicators? I suppose there is the quest to somehow increases the success rate in trading past its current level.

And who, in their right mind, would not want to be more successful in the trading?

The answer is a simple one; we all want to be a successful as theory and probability will allow. And the ever-increasing complexity in trading indicators is indicative of our attempts to organize what is essentially a random system. Of course, we have not been able to significantly increase our rate of success despite complex mathematical modeling and massive amounts of computer analyzed data.

It is my opinion that one of the most difficult precepts for traders, or for that matter modern man, to accept is the notion that there is a component of randomness in our lives which is beyond our control. No amount of complexity, or simplicity, has made significant inroads in solving this vexing futures trading problem. Yet we continue to develop more complex systems with predictable results. In recent years, quantitative analysis made a nice run at bridging this problem, but the housing bubble and credit crunch sent the quantitative analysis crowd scurrying for cover. Quantitative analysis was no more accurate in down markets than any of the other well-established trading systems.

And that brings me to my thesis in this short article; the secret to effective trading is learning to trade, not developing complexity in our trading style. While we have a difficult time accepting randomness in our lives and in our financial markets, history has shown us unequivocally that randomness is an integral part of the systems we try to master. The tried and true methods of Welles Wilder continue to perform as well as any of the complex systems of recent vintage. This fact is one of the most bitter pills the trading community has been forced to digest. In my opinion, they never will. Our search for more complex systems will continue, with the same result of the past complex systems. Randomness in our financial system is simply a fact most traders refuse to accept.