swing. After I grasped that concept, it was a matter oftrying a few different measurement paradigms to ﬁgure out what Charlie wascalculating to and from.I’m not done researching GCCS—I plan to run an in-depth computerstudy of it soon—but I’m conﬁdent I have the basic key to it right now and soI am sharing it with you via the example in Figure 5.29. I hope you ﬁnd this example interesting.GCCS is identical to GSCS, except that instead of using the vertical(price) length of the swing components to determine a price objective, you usethe horizontal (time) distance from trough to trough and from peak to peak ofswing components to achieve a time objective.The underlying logic is somewhat similar to GSCS. In GSCS the values ofswing component 1 and swing component 2 determine the price objective forswing component 3. In GCCS, the trough-to-trough or peak-to-peak measurement of swing component 1 and the peak-to-peak or trough-to-trough measurement of swing component 2 determine the time objective for swing component 3.
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23222120191817161514
10
131211
12
10987
7
654
4
3210
10 20 30 40 50
60 70 80 90 100 110 120 130 140 150 160 170 180 190 200 210 220 230 240 250 260 270 280 290 300 310 320 330 340 350 360 370 380 390 400 410 420 430 440
FIGURE 5.29
The Goodman Cycle Count System.
This is an important distinction between GSCS and GCCS: You need anextra (prior) swing component (called 0 swing) to generate and/or calculate aGCCS time count.Figure 5.29 displays the basic GCCS paradigm. If you are familiar withGSCS, perhaps you can work out the mapping to other Goodman ordinal andcardinal principles. If not, stay tuned!For GCCS, measurements are taken from the peak of a swing componentto the point horizontal with it on the previous swing component. The nextmeasurement is taken from the most current point in the next swing component back horizontal to the ﬁrst swing component. Just as in GSCS, the mostcurrent swing is in process, so measurements change with time and price.If the ﬁrst measurement is a primary swing and the next one is a secondary swing (as in Figure 5.29), the secondary swing cycle measurementshould be one-half the primary swing measurement—in this instance, 6.Here, the secondary measurement is 7. Calculation is as follows: The nextprimary swing will fall (in time) ± 1 from the ideal measurement point of 6 onthe secondary swing measurement.I’ve also calculated the GSCS price count for this wave. The union of thetwo boxes is the calculated landing area for the integrated price (GSCS) andtime (GCCS) measurements.Again, as the most current swing component builds, both calculationscan change and, thus, the landing area.I ﬁnd this quite exciting—a technical analysis tool hidden for so manyyears. I’m currently working on GCCS intersection, carryover, and cancellation
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aspects; these appear to be slightly different from their GSCS concepts. Thereare also some special formations worth noting, and ordinal versus cardinalprinciples, as well.Don’t work with GCCS until you’ve mastered both the ordinal and cardinal rules of GSCS. I ﬁnd GCCS works best as a check on GSCS and not as atrading method in and of itself. But if you have a strong opinion in favor of trading cycles, it may well reward further exploration. As new research on GCCS iscomplete it will be published on www.fxpraxis.com, so please check for updates.
Nofri’s Congestion PhaseIn 1975, a well-known Chicago grain ﬂoor trader, Eugene Nofri, publishedThe Congestion Phase System (New York: Pageant-Poseidon Press Ltd.). Thissmall but power-packed volume detailed a short-term trading method usingsimple but effective “congestion phases.” Although not precisely a work on the50 percent rule, it touched on some of Charlie’s ideas from a different angle.Mr. Nofri was a corn trader, but the congestion phase system is applicable toFOREX at all trading levels. Other congestion phases identiﬁed by Mr. Nofriare in his book. See Figure 5.30.
Simple Congestion Phase
100%90%80%70%60%50%40%30%20%10%0%
FIGURE 5.30
A Congestion Phase.
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I mention Nofri’s work also because Charlie was especially taken by itssimplicity and because it can work well in conjunction with GCSC. The ideaof melding GCSC with a congestion phase approach ought to produce amethod of ﬁnding those high-percentage ducks that the Belgian Dentist lovesso much.
IndicatorsAs I’ve written earlier, I am not a big fan of indicators. I think they are too farremoved from the actual market data, which makes it difﬁcult to reconnectthem with fast-moving markets requiring instant decisions. Nor is it alwayseasy to determine what they are actually measuring. You can’t determine whatyou did wrong (or right) if you don’t really know what you did! The visual cluesusing market environments offer a better approach.Nevertheless, I do watch two very simple indicators. One of them is asimpliﬁed calculation of a market environment ratio; the other attempts tomeasure how important the price activity of any given period is to the broaderscope of the market.DM/V Ratio IndicatorThis ratio will give you a quantiﬁed view of the relationship between directional movement and volatility for a market. It is also useful for observing howthese two factors might be evolving for a particular market pair. The equationfor calculating the DM/V ratio is as follows:DMV = 100 · DMVImpact Ratio IndicatorThis is the ratio between the range of the open and close for a speciﬁc timeframe and the full high to low range for that time. The theory is that thehigher the ratio, the less critical the price action for that time period. If the ratio is low, it is assumed the price action for that time from high to low heldmore validity because it is closer to the open and close for that time period.See Figure 5.31.The equation for calculating the impact ratio is:
ÊClose – Open ˆImpact = 100 ¥ ÁË High – Low ˜¯
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EURUSD 07/07/2006 Fri 0800 to 1000 ET1-Minute OHLC, Impact Ratio1.28601.28551.28501.28451.28401.28351.28301.28251.28201.28151.28101.28051.28001.27951.27901.27851.27801.27751.277010075502500800
FIGURE 5.31
0830
0900
0930
1000
Impact Ratio.
SummaryWith the exception of the Trend Machine, which is beyond the scope of thiswork, this is the entire set of tools I use for my own FxCodex trading. For information on the Trend Machine, refer to my web site, www.fxpraxis.com.Don’t worry if you are unclear on how to apply all these tools right now.The best way to learn how to use a tool is to use it. I show all of them in use inParts Three and Four.Remember, your money management techniques and trading style decisions are at least as important as your tool set.I strongly advise against using more than ﬁve or six complementing trading tools. Beyond that number you are making the markets more complicatedthen they really are, and you will spend too much time just analyzing the markets. It is too easy to get confused. The confused trader is prone to letting hisemotions take over, and that is not good.
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FxCodex ToolboxThis is the toolbox, sans the Trend Machine, that I use to trade:• Market environments and eyeballing• Bar charts• Swing charts• GSCS• Nofri• DMV ratio• Impact ratioYour personal codex may contain all these tools, some of them, or noneof them. You may want to substitute tools or add additional ones that haveworked for you and that you are comfortable with. It is important that yourtools complement each other, are easy to use, are transparent, and that you understand them thoroughly.Keep it simple!
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StyleStyle is a touchstone when you need to make a quick decision.—Charles B. Goodman
ost FOREX traders never consciously develop a style. A specific stylewill assist you in determining what pairs and crosses to trade, whichopportunities to pursue, and which to ignore. A style can be thetouchstone allowing you to make a quick and accurate decision about a trade.Of course, style evolves over time. You will find some of your initial selections and decisions to be incorrect in light of actual market experience. Butmaking those selections before trading is still essential to the codex approach.
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The Trader ProﬁleThere are four primary trader profiles. These determine your market focus andhelp you select other style and money management parameters.1. The guerilla trader.2. The scalper.3. The day trader.4. The position trader.Moving down the list, each type trades for successively bigger profits.Conversely, each trades less often.I recommend the new trader focus on being either a scalper or a daytrader. If you trade small positions as a guerilla. the pip spreads and ballooningspreads during news and announcements will make it difficult to succeed.
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If you hold positions over several sessions as a position trader, you open yourself up to enormous risks, even if you use stops.Each trader will use bar charts covering three distinct time frames orranges. The middle-range chart is used to monitor the market on a per-sessionbasis. The smaller range is used for timing entry and exit, and the largest is usedto determine long-term trends and keep a perspective so that you don’t lose theforest for the trees. See Figures 6.1, 6.2, and 6.3.Trading Levels for Trader ProﬁlesUse the middle-range chart and prices for selecting candidate markets.Use the largest-range chart to gain a longer-term perspective. Use thesmallest-range chart for timing entry and exit.Guerilla: 5 second, 1 minute, 5 minutes.Scalper: 1 minute, 5 minutes, 30 minutes.Day trader: 5 minutes, 30 minutes, daily.Position trader: 30 minutes, daily, weekly.These are only general recommendations and may be adjusted to yourown trading needs and propensities. Be sure you select a broker/dealerwho offers the chart types and time frames you require for your trading.
FIGURE 6.1 Trading Level Bar Chart Example 1.Source: FXtrek IntelliChartTM. Copyright 2001–2007 FXtrek.com, Inc.
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FIGURE 6.2 Trading Level Bar Chart Example 2.Source: FXtrek IntelliChartTM. Copyright 2001–2007 FXtrek.com, Inc.
FIGURE 6.3 Trading Level Bar Chart Example 3.Source: FXtrek IntelliChartTM. Copyright 2001–2007 FXtrek.com, Inc.
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Codex MarketsI recommend that all traders begin with a single market—the most popularone: USD/EUR. This pair represents the interaction between the two mostwidely held currencies in the world.The first determination for selecting further markets to trade is yourtrader profile. The shorter term you decide to trade, the more volatile the markets you should seek.Some factors are not quantifiable. If you like the looks of a market andhow it trades, add it to your codex. Conversely, don’t fight a market that treatsyou badly; deselect it and try another.Currency PersonalitiesSome traders never figure out this simple and valuable fact: Different pairs andcrosses exhibit their own personalities. These personalities do change, but typically only over a long period of time.Personalities can be defined by the market environment factors of directional movement, volatility, thickness, and rhythm.Over a period of time trading you will find currency personalities thatagree with your style of trading—and personalities that do not. By keeping arecord of basic ME characteristics in your codex notebook you will learn whichare which.I recommend a battery of five pairs and five crosses. As you trade, you willcertainly find other markets that appeal to you. Be sure to have a good sense oftheir volatility before trading them. Watch a market for 30 days before evertrading in it. Get a fine-tuned sense of its personality.Markets for Trader ProﬁlesMy favorite FOREX markets. Work with Tier One, move on to Tier Two.Avoid Crosses and Exotics until you have mastered a few pairs.The euro/U.S. dollar (EUR/USD) is the most popular pair traded. itoffers lots of liquidity and variety for all trader profiles. Be aware of U.S.Federal Reserve announcements and U.S. Bureau of Labor and other governmental reports. These news items can have a powerful and immediate effect onprices, directional movement, and volatility. Pip spreads may balloon from 1 or2 pips to 30 or more pips, especially if you are using a retail market-makerbroker/dealer.My advice: Stay out of the markets during these times. Sit on your handsand watch the reaction to the news for price trend indications. It is notuncommon for prices to react in one direction after news, only to graduallymove back in the opposite direction over the course of the trading session.
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Keep in mind that a market can look enormously different on differentchart scales and also within different time frames. Use only your three barcharts and no others. A market’s personality may look different on different barcharts, as a function of either the scale of the chart or the range of the chart.The same currency pair may exhibit different personalities and market environment characteristics over a 5-second chart, a 30-minute chart, and a dailychart. Don’t let chart scales or ranges confuse you; it is easy to let this happen!Chart ScalesRemember, how you configure a chart can make a world of difference. Try different colors and backgrounds. A 5-minute chart for 6 hours can look muchdifferent than a 5-minute chart for 24 hours. Trading platforms and chart services scale the data to fit the same size window. Select a time period that worksfor you and keep to it consistently. Even resizing a chart on your computerscreen can make it appear different.In FOREX little things mean a lot—it doesn’t take much to throw atrader off stride!
Style and Market EnvironmentAfter you’ve decided on markets to trade, keep an informal record of their market environment characteristics. You’ll soon find you do better with some MEcombinations than with others. Armed with this information, you can moreeasily sort future potential selections and market candidates. Eyeballing a market involves watching the four market environment factors and the matrix ofyour three time-scale bar charts. With this simple and visual tool set, you willalways be in very close touch with any market.
Psychology and AttitudeThe sum total of all buy and sell orders determines what the market does andwhere it goes. But all traders are human, and the primary emotions of fear andgreed lie hidden—sometimes not very deeply—beneath the buy and sell orders.Even in this day of robots, black boxes, and computer-based trading withno human involvement in the order-entry process, fear and greed reignsupreme. A human had to write the program, and that person’s propensities forprofit (greed) and loss (fear) are built into the code.Your attitude and emotions will play some part in every aspect ofyour trading. Every decision you make, large or small, has an emotional
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component—from the tools you select to the markets you monitor, to whenyou enter and exit a market. They are always there, and denying them is apoor solution.Controlling your emotions is the key to success. Knowing they are there,constantly monitoring them, and being able to keep them in check are yourgoals from the time you sit down to trade to the time you walk away from yourcomputer.Steps to Emotional Success“Know thyself ” is the old Socratic adage. Nowhere is it more important than inthe markets. The more leveraged the markets, the faster and harder personalityweaknesses will be driven to the surface.Step One: I, Trader What sort of personality are you? We tend to definetraits in terms of pairs or dichotomies: positive/negative, introverted/extroverted, calm/excitable. It is certainly possible any combinations from eachdichotomy could define a successful trader. But the odds, and my experienceover 30 years, seem to favor certain combinations over others.A happy/extroverted/calm personality is probably the ideal successfultrader candidate. I am a positive/introverted/calm type. The greatest traderI ever knew was Charles B. Goodman. He was a negative/introverted/calmpersonality.Perhaps the most critical personality spectrum is calm/excitable. Themarkets want you to get excited. The excited person will tend to wear rosecolored or gray-colored glasses when making decisions. Human nature beingwhat it is, we all tend to get excited at the most critical times—just when, astraders, we need to be calm.The only way to avoid this dilemma is to know in advance that gettingexcited can and will happen. By monitoring your emotions, you can detectearly clues of the onset of overexcitement. Part of this solution is the daily tradeplan that I discuss in Part Four.Keep notes of when emotions interfered with your trading—what markets, what time of day, at entry or exit, and so on. You’ll soon see patterns, andjust knowing what causes your emotions to come unglued is a big step in controlling them.Step Two: Charting Your Emotions Use a chart to monitor your emotions. Ihave used biofeedback techniques and they have worked well for me. Othertechniques are also effective.Keep an hourly chart of your emotions for the spectrum that may giveyou the most problems as a trader or just on a per-session basis. If it is
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calm/excitable, as it is for most of us, make copies of a simple chart as shownin Figure 6.4. You are attempting to quantify an emotional quality and that isvery difficult, but as a trader, you need something to help you consider youremotional state. It also provides a long-term record for review.At the end of each week you may want to line up the markets you’ve beenwatching against your emotional points and observe for any correlations. Youwill be surprised at what you see and what you can learn. Perspective is sometimes enormously valuable to the trader.Step Three: Handling Profits and Losses The biggest driver of emotions isprofit and loss. This is why paper trading is almost never particularly useful, atleast with respect to seeing how good a trader you are in the long run. Profitsmake us happy and excited; losses make us sad and irritable.Every new trader I have ever known has made money when trading ademo account. When they begin trading real money in a real account, thingshappen. The dynamics of trading real money are enormously different fromtrading for fun.If profits and losses cause too big an emotional swing, you may be making trades involving too much money. There is an old saying, “Trade down to agood sleep.” The money in play may be too much, or you are counting tooheavily on success. Don’t ever trade with money you couldn’t afford to lose orgive away to charity.Don’t count your chickens before they hatch. I have seen traders do sowell on small accounts that they have quit their day jobs to trade full time, andthey quickly fail. Trade as a hobby. If you ever get to the point where you havemade a year or two years’ income in the markets over some significant period oftime, only then consider full-time, professional trading.
10
Losing
Fear
5
Winning
Greed
0
FIGURE 6.4 Emotional State Chart.
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How much should you commit to trading? The simple answer is never tradewith money you couldn’t afford to lose or give away. That may be $500 or$500,000. If you make some substantial initial profits, don’t get the King Kongsyndrome, quit your day job, buy a $10,000 trading station, and order brochuresfrom the local Mercedes dealer. Do add money to your account. Yes, add money.This is an old psychological trick Charlie taught me, and—for newbies with smallaccounts—it really works if only because it keeps the King Kong syndrome at bay.How much should you commit to any specific trade? Many traders like torate their trades, perhaps from 1 being a good trade to 3 being a fantastic opportunity. This may work when you have traded for a year or longer, but I don’trecommend it initially; it’s just one more parameter to juggle, one more decision to make. As a new trader, your pretrade ratings may not be accurate.The “Trading Campaigns” table (see box) shows my recommendations fortrade size vis-à-vis total account size. I offer more on this subject in Chapter 7. Irecommend dividing your capital into 30 trading units with 10 units, or trades,in three different campaigns. I learned this from Bruce Gould, commoditiestrader extraordinaire, and it’s golden. Mr. Gould is perhaps the sharpest moneymanagement guru in the trading business. His old newsletters from the 1970sand 1980s are available from his web site, www.brucegould.com, and are definitely worth reading by any new trader in stocks, commodities, or FOREX.Trading Campaigns$500
5,000 units
$2,500
10,000 units
$5,000
20,000 units
$10,000
50,000 units
$25,000100,000 unitsEach trader should adjust his three 10-trade campaigns accordingto the appropriate risk/reward and stop/proﬁt level for his owntrading proﬁle.As an alternative, you may trade by leverage ratio. Manybroker/dealers allow you to trade ﬁxed leverage ratios between10:1 and 50:1. Start low (10:1) and go up gradually (15:1, 20:1)with each successful campaign.
Don’t let losses discourage you. Even the best traders have periods of longlosing streaks. My record is 16 lemons in a row. I came close to throwing in thetowel. If you have several losses or a single large loss, the first thing to do is turnoff your computer (after closing all your trades, of course) and take a break.
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Make the break time long enough to accomplish two things: (1) Clear yourhead of trading and the intense emotion of the loss. This usually takes morethan a few days. (2) When you feel refreshed and clearheaded, analyze thelosses. What caused them and what can you do to prevent them from recurring? Make the appropriate adjustments and begin afresh, slowly. Don’t dwellon losses or profits; come to each trading session fresh.Another tip: Don’t discuss your trading with anyone, at least not in anydetail. Avoid trading clubs and getting addicted to the numerous FOREX blogsand forums now populating the Internet.Ten Most Common Causes of Losing Trades1. Overtrading.2. Stops too close or unrealistic with respect to price objectives.3. Spur-of-the-moment trading.4. Trading high-volatility, high-directional-movement markets.5. Trading the news instead of the reaction to it.6. Trading outside of your market environment proﬁle.7. Trading crosses and exotics.8. Trading over multiple sessions.9. Trading when under duress.10. Trading with money you cannot afford to lose.
Record KeepingAccurate, honest record keeping is essential to knowing your emotions andkeeping them at bay. By studying your trading records, you’ll get all the feedback you need to see how emotions are affecting your trading. In Part Four Idescribe a daily and weekly trade plan and other records you should maintain.If you can’t keep a daily report, at least keep a diary at the end of eachtrading session. Whether you keep a diary or a report, each one should have attached a session chart of each market you traded. In this way, you can periodically review what you wrote vis-à-vis the markets you were trading at the time.
SummaryI wish I could be more objective and quantitative about psychology and attitude.But the nature of emotions is that they are qualitative and vary enormously
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General Investor PsychologyLong-Term Greed/Fear Oscillations
Bubble
BubbleValuation
Greed
Burst
Greed
Greed
Burst
Boom
BoomFear
Investor Psychology (Valuation)
SELL
FearBUY
FearBust
Time (Decades)
Bustwww.ZealLLC.com
FIGURE 6.5 Don’t Ride These Trends!
among traders. Each trader is unique and needs to think over all the factorsinvolved and make his own realistic decisions. In trading, the Socratic admonition to “know thyself ” is so very important.If you have psychological or emotional weaknesses, nothing will bringthem out faster, in the form of financial loss, than the markets. The more leveraged the market, the faster it will happen. (See Figure 6.5.) Consistently monitor your emotional state, keep good records, and frequently review your tradesvis-à-vis your emotions. When you make mistakes, learn what you can fromthem and move on to the next trade with a clear head.
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Making MoneyManagement DecisionsThe goal of money management is to break even.—Charles B. Goodman
oney management is neither sexy nor easy to come to grips with formost of us.Because money management crosses over between trading tools andstyle, it is always somewhat subjective. It is almost a soft element, but it is possibleto build a hard money-management framework. The trading campaign frameworkI discussed in the previous chapter is such an idea. As long as the trader doesn’tstray from the framework, ad hoc and subjective decisions are possible withoutcausing too much trouble. The markets are enormously dynamic and change isnecessary. The key is to keep changes evolutionary instead of revolutionary.
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Money Management ParametersAs I wrote in Getting Started in Currency Trading, there are three basic moneymanagement parameters to be considered. Although they are important individually, it is critical that they work together and aren’t contradictory with eachother or with your trader profile.1. Trading capital.2. Trade size.3. Risk/reward (stop/profit objective).
110
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These should all work in harmony with your trading profile. For example:• Don’t position-trade if your trading capital is $500.• Don’t trade 100,000 lots with $1,000 trading capital.• If you are a scalper, don’t expect to set 5-pip stops and 50-pip objectives.Matching Proﬁles with ParametersNow consider these three parameters in conjunction with your profile.Guerillas: 10 · 3 trades per campaign, 15-pip objectives, and 10-pip stops.Scalpers: 10 · 3 trades per campaign, 25-pip objectives, and 15-pip stops.Day traders: 10 · 3 trades per campaign, 50-pip objectives, and 20-pip stops.Position traders: 10 · 3 campaigns, 1-pip objectives, and 25-pip stops.The longer term your trader profile allows, the lower can be your overallwin-to-loss ratio.Feel free to alter these parameters, at least slightly. But don’t go offboard—that is, outside of them—too often without good reason.Unrealistic ExpectationsThe guerilla profile on small trade capital is not recommended. Retail pipspreads, an occasional reversal, ballooning pip spreads on news, and inability toexecute instantly are all reasons leading to failure.The position profile on small capital is not recommended. The risk forthe small trader staying over sessions is very high.You can’t have it all: Don’t expect to both hit a high percentage of winning trades (50 percent or more) and