DAY TRADING SYSTEM MODIFICATION

Day trading systems are dynamic, subject to modification in order to better respond to the current market climate and improve overall performance and profitability. Trade system modification requires that the trader keep accurate and complete records of each trade, including conditions before and after the trade completion. This is referred to as trading system feedback and ideally, the trading system feedback should span a variety of market conditions to fairly identify the systemic (persistant) strengths and weaknesses of the system.

For example, a day trader of the E-mini® S&P 500® futures may determine that the system works best when using 5-minute time intervals (for a bar chart) instead of 15-minute or 30-minute. It may also be that the system performs best only during certain times of the day, for example, during the first and last two hours of the regular trading day. How the trading system performs during the volatility that typically accompanies the release of important financial or economic news can also be determined. Finally, based on the relative size and frequency of gain versus loss, the trader can determine how much money to risk on any given trade to reduce the probability of ruin.

An analysis of the trading system feedback can provide clues for later trade system modification. For example, say that a system often tends to close a profitable trade too soon. This suggests that the condition for closing a profitable trade needs to be more accommodating. If closing a profitable trade with a trailing stop order, then the stop order can be trailed farther behind to accommodate more of a price reaction before a profitable trade is closed. Also, if trading more than one contract, then the trader may consider closing only a portion of the position on the initial signal with the intent of closing the rest at a later and better price.

As another example, say that the system generates a high number of trades that once established get quickly stopped out. However, subsequent to this, the market then moves favorably. In other words, the system correctly anticipated the market move but the trade was closed on a brief market reaction. The solution here may simply be that the protective stop order needs to be more accommodating, that is, set father away from the entry price to accommodate more of a market reaction and, consequently, risk more on the trade.

After any system modification, the system should then be implemented for a sufficient length of time to collect valuable feedback on the modification. If performance is superior, then the changes are maintained. If not, then the trader can return to the older system and perhaps try another trading system modification. Alternatively, the trader can create several "second-generation" systems, each one distinguished by a particular modification. These systems can then be implemented simultaneously and, after a period of time, the trader simply selects the one that performs best.