Thursday, September 07, 2006

Why Is It So Difficult to Change Time Frames?

When professional traders find that the patterns they've been trading no longer confer an edge in the marketplace, they try to make changes. Typically, they either try to change their time frame (go from shorter-term trading to a longer timeframe), change the patterns they look at, or change the markets they trade.

As I mentioned recently on my Trader Performance page, all such changes are difficult. That is because the changes entail unlearning old patterns--not just acquiring new ones.

In all my work with traders, I would say that the most difficult transition they've attempted is a transition from a short time frame to a longer one within the same trading instrument.

To trade a longer time frame means that you must let winners ride longer than you ordinarily would. It also means tolerating larger drawdowns and living with uncertainty longer. The instincts that help a scalper--getting out of losers quickly, for example--wreak havoc with efforts to trade longer time frames.

Once you have a "feel" for a market--which, really, is also a feel for a time frame--it is very difficult to unlearn that feel and develop a new one. The majority of traders, I find, do not navigate that change successfully. The rate of success is greater in applying the old time frame to a new instrument than in finding a new time frame in a familiar market.

Perhaps, however, there's another reason that it's so difficult to change time frames: Patterns that exist on an intraday time frame may be very different from those over longer periods.

Here's an example. As I mentioned recently in the Weblog and my market update yesterday, I've been playing with a trade setup in the Odds Maker program from Trade Ideas that involves buying pullbacks from upthrusts and selling bounces from downthrusts. The pattern tests out quite well on intraday data across a variety of stocks and markets. When I tested a similar pullback pattern over multiday periods, however, the buy setup actually yielded a negative edge!

Specifically, I went back to 2004 and looked at four-day periods in SPY that rose more than 1.5%. I then identified four-day periods that retraced a portion of that gain, but not all of it. Over the following four days, SPY did not resume its upthrust. Indeed, the average change over the next four days was -.30% (19 up, 19 down), weaker than the average four-day change over the 2004-2006 period.

Could it be that markets are more mean-reverting over short time frames than over longer periods? Might this help to explain why the transition from daytrading to swing trading is so difficult for many traders? As we extend the time frame, we go from markets in which locals are dominant to ones in which institutions determine the big moves.

Perhaps who dominates markets determines how markets move.

Changing from intraday to multiday trading might entail shifting from thinking like locals to thinking like institutions.

And that's very difficult for market makers.


yinTrader said...

Hi Brett

Coming from a novice online trader, I have two observations about trading timeframes.

For some reason, I seem to trade quite well for S&P emini intraday and for mini FX swing trading.

Perhaps, I feel the volatility of S&P is greater than for FX and feel more confident trading intraday.

However, the GBPUSD can be volatile too and has been trending south the last two days to give me a risk reward ratio of 3.09 when I just decided to exit at 1.8760 having short at 1.8933 .

I have made many mistakes forcing trades and going against trends and am beginning to discern patterns , having learned to be patient to wait now.

Brett Steenbarger, Ph.D. said...

Hi Yin,

That's a very interesting observation; thanks. Patterns set up at different time frames for different instruments. By trading more than one instrument, perhaps you also train yourself for a degree of mental flexibility re: pattern recognition.


Paulo de León said...

What about the other way? from swing to scalp.....since swing it´s been tough too due to the Mean Reverting issue that you mention. Correct timing the entries and exits is more critical now in swing than 2-3 years ago. Everyone is suffering from the less volatility and trending enviroment that you have been commenting at least a year ago....some less than others is my view.
If you check the returns of the best HF, CTA´s, they all are experiencing diminishing returns. The best ones win less, the worst are getting crushed.
Changing markets is difficult too. For example i´ve been trading the Russell 2000 since 3 months ago, and coming from the ES is like playing another game. It takes time and creativity as you said to know a different market.

Brett Steenbarger, Ph.D. said...

Excellent point, Paulo; it is indeed difficult to go from longer time frames to shorter ones, and markets with different volatilities do trade differently. A key is holding onto your capital while making the transitions!


Daniel S said...

Hi Brett I trade mainly the ES and it is still difficult for me, but still learning on the sim for 1.4 years. Different things have happended but at the end intraday trading for me could be just the ES and maybe another instrument like corn or soybeans, maybe later crude oil. But they all work differently...

For example S/R levels work better in the ES than in crude oil...So the questiosn is how do u think i could increase my knowledge about 2 or 3 markets at a time, since maybe a 1 min chart on the ES could have some trendlines but a 1 min chart on crude oil is useless'

Thnaks brett