Mechanical Trading System

Mechanical Trading System

If mechanical trading systems work, why don't more people use them? Or if they don't work, why do so many people want them? Certain mechanical trading systems can and do make money if traded by the right person, but more often the investor gets frustrated using the system and eventually ends up abandoning it. Bad results may not necessarily be the fault of the person or the system. The person may be incompatible with the system.

Mechanical trading systems require certain concessions from the trader. The trader must yield to the signals of the system and surrender control of the trading, but accept responsibility for the resulting profits and losses of the system. This relationship of lost control, but responsibility for actions, is fraught with conflict and will prove tenuous at best.

We do not want to consciously lose control of our actions when trading, especially in an environment which can be so chaotic and confusing. Of course, anyone using a mechanical trading method has ultimate control and may always override 'the trading signals, but doing this too often eliminates the need for the system in the first place.

A trader wanting to use a mechanical system will find a better chance for success with a system with rules which are compatible with the way the trader thinks. How can a system think? It can't, but a trader should look for a system that provides trading signals similar to the way the investor would view or trade the market. For example, a trader who is used to fading the market (buying weakness and selling strength) should not look for a trend-following system (buy strength and sell weakness), but instead investigate countertrend systems.

Most people pick the system with the best track record and then try to live with it. This is no different from choosing a blind date who looks great, but you know nothing more about the person than what your friend told you. Appearances can be deceiving. What are the chances of success or a long lasting relationship?

There is another choice. We can change the way we view the market. If you are used to fading the market and are currently using a trend-following system you can try to learn to trade with the trend. This requires you to change and not the system. It is much easier to change a trading system, or find one compatible with you, than it is to change your personality to fit the trading system. However, it is possible for some to change, and may be quite beneficial as well.

Assuming you have found a match made in heaven, why can it still be hard to actually use the system? There are many practical reasons for this. For example, assume the market opens at 301 and a trend-following system yields a sell signal if the market declines to 300. An hour later a bearish news report sends the market crashing to 300, but you do not want to put a sell order in because of fear of a bad fill. The market continues to drop to 299.50 where you place an order to sell at 300 on a limit. The market trades up to 299.90 but then promptly collapses, never to see the 300 level for the rest of the day.

Is this a worst case scenario that usually doesn't happen? Yes, but trading methods, systems, and traders do not get abandoned because they make money consistently. They fade away because bad periods and the loss of money also entails the loss of confidence.

There is a misconception that mechanical systems take the emotion out of trading. Anyone who becomes too emotional in making trading decisions may not necessarily find solace in mechanical systems. A trader using a trading system will not magically abandon all feeling and emotion and automatically begin dispassionately trading by the dictates of the system. The individual trying to subdue or eliminate emotional feelings will have to consciously work on this, irrespective of which trading method is chosen.

There is another reason why some people find mechanical trading systems troubling. When the system is profitable, who made the money-the system or the person? Perhaps there is more to trading than simply making money. Many of us seek success in what we have done--not what someone else, or something else, has done. And for those who are only in it for the money, they will end up abandoning the system as soon as it begins to lose money and renew their search for the next great hope.