Adrian Reid explains why traders abandon systems at the worst moment and how to fix it: build explicit rules that automatically turn your system on or off based on market conditions instead of making discretionary calls. Allocate capital only when the system's own rules say it should trade.
How do we decide what system to trade in each type of market or at any one point in time? It's the broader question which is really important.
And.
The answer is probably not what you expect. What you want to do is look at each system and say, all right, when can this system make money and when does it not make money or not make money reliably? And each system should have rules that turn itself on or off depending on the market conditions. As an example, trend following small cap stocks is generally best done in a bull market, right? So generally it's better if you're trading trend following and small cap stocks. You want to only trade it when the broader market index is going up, you're going to make a lot more money. If it's a bear market and the index is going down, you're probably not going to make a lot of money if any trading trend following small cap stops. So turn that system off. But that switch on and off is a rule in the system.
We're not deciding anything. The system has a rule that turns itself on and off. That should be part of your four to six rules and a mean reversion system. Similarly, it's going to work better in a volatile market and less good in a really low volatility, smooth market. Generally speaking, there are exceptions, right? But there will be conditions when it works well and where it doesn't work well. And that system should turn itself on and off. So I'm not deciding. You're not deciding when to turn the system on or off. The system turns itself on and off because it's got the rules to do. And instead of switching our money.
In a discretionary way from one type of strategy to another, we allocate capital to our Systems. Let's put 10% to System A, 5% to System B, 15% to System C, 10% to System D. And if that system is in the market, that capital gets used. If the system is switched off, that capital sits in cash or gets used by another system.
So rather than manually switching systems on or off, you let the system do the work and the capital allocation do the work. So the system turning itself on and off and the capital allocation between all your different strategies work really nicely together to best allocate your capital without us having to make a conscious decision. As soon as we start making subjective decisions about turning the system off, turning the system on, we've lost the game because that's going to become emotional and it ruins the whole point of systematic trading. Hey, I want to do one thing before I forget. Let me just let me do this. If you're really loving this and you want to talk about next steps for you, I do, obviously have programs and mentoring and courses and everything. If you want to talk to me about that, click that link in the chat, a couple of questions to answer, and then you can schedule a time with me. So click that link and hopefully I'll see you in my calendar in the next few days.
