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Acknowledgments xiii
Part I Foundations of Successful Trading 1
Introduction 3
The Invention of a Commodity Trader 3
Why I Wrote This Book 7
This Book's Audience 9
The Book's Road Map 14
Chapter 1 The History and Theory of Classical Charting Principles 19
My Perspective of the Principles 20
Three Limitations of the Principles 21
Summary 22
Part II Characteristics of a Successful Trading Plan 23
Chapter 2 Building a Trading Plan 25
Trader Personality and Temperament 25
Adequate Capitalization 29
Overall Risk Management 30
Points to Remember 32
Chapter 3 Identifying the Trades and the Trading Vocabulary 33
Trade Identification 35
Vocabulary of the Factor Trading Plan 35
Points to Remember 54
Chapter 4 Ideal Chart Patterns 55
Reversal H&S Pattern in Copper 56
Reversal Rising Wedge in AUD/USD 56
Continuation Wedge and Reversal Failure Top in Soybean Oil 57
Reversal Triangle Bottom in Sugar 58
Continuation and Pyramid Patterns in USD/CAD 58
Reversal Top in Silver 59
Continuation H&S Pattern in the Russell 1000 Index 60
Continuation Rectangle in Kansas City Wheat 61
Continuation Rectangle and Pyramid Triangle in Crude Oil 61
Continuation H&S Top in the Dow Utilities 63
Continuation Triangle, Reversal M Top, and Flag in the EUR/USD 63
H&S Reversal Top and Three Continuation Patterns in the GBP/JPY 65
A Reversal Symmetrical Triangle in the AUD/JPY 66
Two Continuation Patterns in GBP/CHF 67
A Triangle and Running Wedge in Sugar 67
An H&S Bottom in Apple Computer 68
A Major Continuation H&S and Symmetrical Triangle in Gold 68
A Series of Bullish Patterns in Copper 70
A Failed Ascending Triangle in the USD/CAD Crossrate 71
A 12-Week Rectangle in the Dow Jones Transport Index 72
A Rare Horn in Brent Sea Oil 72
An H&S Bottom Launches the 2009 Bull Market in the S&Ps 73
Summary 74
Points to Remember 74
Chapter 5 How the Factor Trading Plan Works 75
Trade Identification 75
Trade Entry 84
Trade Risk Management 85
Trade Order Management 86
Points to Remember 89
Chapter 6 Three Case Studies Using the Factor Trading Plan 91
A Remarkable Technical Event in the Dow Jones 92
A Year Trading Gold 94
A Year Trading Sugar 104
Points to Remember 113
Chapter 7 Characteristics of a Successful Trader 115
Intimate Knowledge of Trading Signals 116
Discipline and Patience 117
Analysis of Self and of the Trading Plan 117
It Takes a Leap of Faith 120
Points to Remember 121
Part III A Five-Month Trading Diary: Let The Journey Begin 123
Chapter 8 Month One: December 2009 127
Trading Record 129
Summary 143
Chapter 9 Month Two: January 2010 145
Identifying Trading Opportunities 146
Amending the Plan 151
Trading Record 152
Summary 170
Chapter 10 Month Three: February 2010 171
Sticking to the Plan in Choppy Markets 171
Trading Record 173
Summary 187
Chapter 11 Month Four: March 2010 189
Trading Record 190
Summary 201
Chapter 12 Month Five: April 2010 203
Relying on Classical Charting Principles 204
Trading Record 205
Outlook for the Future 210
Summary 214
Part IV The Wrap-Up 215
Chapter 13 Analysis of Trading Performance 217
How the Trading Plan Performed 221
How the Plan (and the Trader) Evolved 227
Summary: Best Practices Going Forward 228
Chapter 14 The Best Dressed List 231
A Seven-Month Double Bottom in AUD/USD 231
A 14-Month Coil and Nine-Month Descending Triangle in EUR/CHF 233
A Six-Month Wedge in EUR/USD 234
A 16-Week Horn in GBP/USD 235
A Four-Month H&S in Bottom NZD/USD 236
A Six-Month Ascending Triangle Failure in USD/CAD 237
An Eight-Month H&S Bottom in the S&Ps 238
A 14-Month Symmetrical Triangle in Sugar 239
A Seven-Month Triangle in Gold 240
A Series of Continuation Patterns in Copper 242
An H&S Bottom in Crude Oil 243
Summary 243
Postscript 245
Appendix A Factor Trading Plan Signals 249
Appendix B Quick Reference to Charts 257
Appendix C Recommended Resources 269
Author's Note 271
Index 275
One of the first things I check out in a new book is the number of pages prior to Chapter -long book introductions put me to sleep. I will assume that most of you are like me-you want to cut to the chase. The last thing I wanted to do was write a book with a lengthy introduction, but my opinion has changed now that I'm on the author's side of the equation. It turns out introductions can be useful in providing necessary context and perspective for a book. And so, please forgive me for committing the sin I have always disliked-I think it will be worth it.
This is a book about me as a trader of commodity and forex markets and how I use price charts in my craft. I think of it as a mosaic: eventually the parts of this book will tie together in the same way that a good mosaic becomes visible only in its entirety. Piece by piece or section by section, a mosaic makes no sense. Only at a distance and in its fullness does a mosaic gain clarity and perspective. The concept of a mosaic describes how this book will unfold. First, a bit about how I got started in the business.
In 1972, shortly after graduating from the University of Minnesota with a degree in advertising, I moved to Chicago to work for one of the nation's largest ad agencies. A neighbor was a trader at the Chicago Board of Trade (CBOT). Through our conversations and my visits to see him on the trading floor, I became captivated by the futures markets. In commodity trading I saw the opportunity to earn a good living, work for myself, and be challenged in a very exciting field. In short, I became hooked.
Everybody started in the commodity field at the bottom. Being hired at a sizable salary was not a reality of the business. I needed a plan B if I were to quit advertising and enter the commodity field. So, I asked the president of the advertising agency if he would hire me back at a 30 percent increase in salary if I quit, tried the commodity business for a year unsuccessfully, and reapplied for my old job. He agreed to the deal.
I entered the commodity business in 1976 when I was in my 20s with the singular goal of trading my own personal account. But I needed to learn the ropes first.
When I entered the business, most traders at the CBOT (as well as the Chicago Mercantile and the New York commodity exchanges) started at or near the bottom of the pecking order. The same thing exists to this day. An "MBA fast track" has never really existed in the trading pits. The learning curve is steep-the washout rate is high.
I learned the business by working for Continental Grain Company and Conti, its futures market brokerage operation. At the time Continental Grain was the second largest grain exporter in the world next to Cargill. Continental sold its grain merchandising business to Cargill in 1999.
During my time in the advertising field I had been working on the accounts of McDonald's and Campbell's Soup Company. It became a very fortunate coincidence that both companies were huge users of agricultural products.
Processors of agricultural commodities, such as Campbell's Soup, had become accustomed to decades of oversupply conditions and stable commodity prices. But a number of events in the early 1970s, including global crop failures, led to massive bull markets in the price of agricultural products and nearly every raw material. In a matter of months the price of some commodity goods doubled. Figures I.1 and I.2 show gold and wheat prices as proxies for raw material prices.
FIGURE I.1 Spot Gold Prices, 1830-2009.
FIGURE I.2 Soft Wheat Prices, 1860-2009.
Food companies were not prepared for the price explosions taking place. Top management and purchasing executives of these companies were desperate for solutions. Few food processors had any experience with forward pricing in either the cash or futures markets.
This was the environment when I switched careers from advertising to commodities.
Immediately upon joining Conti, I approached the president of Campbell's Soup Company with a proposal. I thought perhaps the futures markets could be a way for Campbell's Soup to hedge its forward purchases.
I suggested that the company appoint a senior purchasing executive to relocate to Chicago for a time to determine if commodity contracts might be a beneficial management and purchasing tool. I further proposed that the designated purchasing executive and I would then submit a formal proposal to top management-and the proposal could just as likely nix as recommend the idea of futures contracts.
In the end, we recommended that the corporation could strategically use futures contracts in cocoa (Campbell's Soup owned Godiva Chocolate at the time), corn and soybean meal (to grow chickens for its various frozen and canned products), soybean oil, iced broilers (then actively traded at the CBOT), live cattle and hogs (depending on the price relationship between the cuts of meats used by the company and the price of live animals on the hoof), and the three major wheat contracts traded in the U.S. (Campbell's Soup made noodles by the ton and owned Oroweat and Pepperidge Farms bakeries).
Campbell's Soup saw the wisdom in the use of commodity futures contracts. My consulting role with the company covered my business overhead and my family's living expenses while I learned the futures business. Had I begun trading for myself immediately, I would have likely been forced rapidly back into advertising or another career path.
After learning the ropes for a couple of years, I began trading proprietary funds around 1980, starting with less than $10,000. Initially, my personal trading was not successful, although not disastrous. I tried just about every approach I heard or read about. The traders around me at the CBOT were making money, but I just couldn't seem to find a niche that worked.
Then a friend introduced me to the book Technical Analysis of Stock Market Trends, written in the 1940s by John Magee and Robert Edwards. The book was-and still is-considered the bible of classical charting principles. I consumed the book in a weekend and have never looked back.
Chart trading offered me a unique combination of benefits not available with the other approaches I had attempted or considered, including:
I have been a chart trader ever since. More specifically, I trade breakouts of classical chart formations such as head and shoulders tops and bottoms, rectangles, channels, triangles, and the like. I focus on weekly and daily chart patterns that form over a period of four weeks to many months. Even though my focus on charts is longer term, my actual trading tends to be short term, with trades lasting anywhere from a day or two (in the case of losses) to a month or two.
Since 1981, my principle occupation has been trading proprietary funds, although off and on through the 1980s I sold trading research to other traders. In the late 1980s and early 1990s I traded some hedge funds for a couple of big money managers such as Commodities Corp. (since bought by Goldman Sachs). A number of the best hedge fund traders in the world have worked for Commodities Corp. (I do not pretend to be in their league.)
As a result of market burnout and an interest in nonmarket opportunities, in the early 1990s I began to distance myself from day-to-day contact with the markets and granted power of attorney over my own funds to another trader. It was not a successful experiment. From the mid-1990s through 2006 I pursued some personal non-profit interests (social causes) and did little or no trading at all. I started to employ my former trading plan again in January 2007.
In 1990, I cowrote a book with a since-deceased friend, Bruce Babcock, titled Trading Commodity Futures with Classical Chart Patterns, discussing in very general terms my approach to trading. That book sparked a desire to someday write a book providing much more detail on my trading operations. This book is the product of that desire.
For the active trading years of 1981-1995 (including four years when I granted power of attorney to another trader) and again starting in 2007, my average annual rate of return for proprietary funds has been 68.1 percent (annual Value Added Monthly Index [VAMI] method). I experienced one losing year during the time I was the sole trader for my proprietary funds (-4.7 percent in 1988). The numeric average of my worst annual month-ending drawdowns has been 15.4 percent. The performance capsule of my proprietary trading is shown in Figure I.3. Please read the disclaimers and discussion of my proprietary trading in the Author's Note at the end of the book. Past performance is not necessarily indicative of future results.
FIGURE I.3 Factor LLC Proprietary Trading Record.
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