A market maker's journal

[Naked shorts]

This journal will document whats its like to be on the other side of an inexperienced retail trader's trades.

The trading style employed will be basically the same as most retail brokerage firms. When you execute an order with one of these firms, your order does not always go to the market. You order can be routed to their books so that when you win, they lose, and when you lose, they win... losing is what inexperienced retail traders are best at.

So for this journal, I will be employing the help of one of my relatives to trade the market. This relative has a total of 4 hours trading experience and has been introduced to technical analysis. He is familiar with different technical patterns, basic market psychology and risk management. He is not familiar with expertise development and has no idea what a objective edge is.

He will be trading EUR/USD futures on a demo platform. Each time he buys or sells, an exact and opposite order will be sent to one of these retail fx brokerage firms using real capital... Im sending these real orders to a OTC FX firm because it allows for small trade sizes. My relative could make a lot of money before eventually losing it all so I need to make my trade sizes are small enough so that my capital can stretch further then he could possibly make.

To help make sure he sees stuff that isn't there, I will be providing him with various technical analysis tools like MACD, MA's, RSI etc etc (I will post a pic of the setup soon).

He will be trading on a 5 min timeframe so that brokerage costs for me are down, while still producing a large amount of trades ideas per day so that he doesnt get too bored. He will be trading the EURUSD at night when spreads are closest and volatility is at its largest so that brokerage costs for me are small relative to movements in the market.

 

[skyQuake]

This journal will document whats its like to be on the other side of an inexperienced retail trader's trades.

The trading style employed will be basically the same as most retail brokerage firms. When you execute an order with one of these firms, your order does not always go to the market. You order can be routed to their books so that when you win, they lose, and when you lose, they win... losing is what inexperienced retail traders are best at.

So for this journal, I will be employing the help of one of my relatives to trade the market. This relative has a total of 4 hours trading experience and has been introduced to technical analysis. He is familiar with different technical patterns, basic market psychology and risk management. He is not familiar with expertise development and has no idea what a objective edge is.

He will be trading EUR/USD futures on a demo platform. Each time he buys or sells, an exact and opposite order will be sent to one of these retail fx brokerage firms using real capital... Im sending these real orders to a OTC FX firm because it allows for small trade sizes. My relative could make a lot of money before eventually losing it all so I need to make my trade sizes are small enough so that my capital can stretch further then he could possibly make.

To help make sure he sees stuff that isn't there, I will be providing him with various technical analysis tools like MACD, MA's, RSI etc etc (I will post a pic of the setup soon).

He will be trading on a 5 min timeframe so that brokerage costs for me are down, while still producing a large amount of trades ideas per day so that he doesnt get too bored. He will be trading the EURUSD at night when spreads are closest and volatility is at its largest so that brokerage costs for me are small relative to movements in the market.

When you have made your first million will you pat him on the back and reveal the setup and possibly share some of the wealth?

..or ask him to cough up say a measly 10% of the dough :

 

[Naked shorts]

Because of the file size limit, I cannot upload a pic of the setup on ASF.. its on twitpic instead.
http://twitpic.com/zo4rq/full

The setup is similar to the one I use for my trading. EURUSD futures on the right screen, other markets and news on the left screen.


I have told my relative that the stop loss should always be tighter then the take profit. I am making him trade this way so that he loses money straight away. It is not in my interests for him to make a huge amount of money before losing it all on one trade (i.e. what happens when you have your TP 1 tick away and your SL 100 ticks away). If I was to allow him to do that, I might not have the money required to offset it for the particular trade size i want to execute each time.

Because I have to pay the spread each time I enter a real order, I think by the end of this, I will be up only a few ticks per day on average.

edit:
I should also note, that not all market makers work the same way, there are many different and far more profitable ways to make money as a market maker.

 

[Naked shorts]

When you have made your first million will you pat him on the back and reveal the setup and possibly share some of the wealth?

..or ask him to cough up say a measly 10% of the dough :

haha I might tell him... but he might leak out the secret to other relatives im yet to milk

 

[skc]

Very interesting idea. Follow through from this...

I once read somewhere that you can make money with a coin toss if you have the right risk management strategy.

If that is true, then we should all do it.

If that is untrure, then we can flip a coin and do the opposite of what the coin says.

Neither seems right and may be at the end of the day it's the spread and the frictional costs that get the retail trade on average.

 

[Naked shorts]

Very interesting idea. Follow through from this...

I once read somewhere that you can make money with a coin toss if you have the right risk management strategy.

If that is true, then we should all do it.

If that is untrure, then we can flip a coin and do the opposite of what the coin says.

Neither seems right and may be at the end of the day it's the spread and the frictional costs that get the retail trade on average.

That coin toss thing only works when you use an anti martingale money management system in a completely random market. There is actually a similar thread about it on here somewhere... which I started

edit: here
https://www.aussiestockforums.com/forums/showthread.php?t=16817

 

[Wysiwyg]

If any market maker thinks they are rolling the inexperienced traders well they are pullin' the pud. It's the inexperience of the trader in regards to position size, risk per trade, when to enter, stops, exits, market, trends etc. etc etc.

If they provide false data then that is unlawful.

 

[prawn_86]

If they provide false data then that is unlawful.

If your trading OTC, like forex, then there is no 'false' data, meaning that it cannot be unlawful. I work for an FX brokerage, and some clients are charged 5% others .05%, due to the fact that an OTC transaction is an agreement between buyer and seller and if both parties are happy there is no problem

 

[white_goodman]

hasnt it been proven before in systems where say someone loses all their money, they reverse engineer it thinking the opposite should do otherwise, yet that also loses money...

results will be interesting

 

[Naked shorts]

Ok so I had a few problems with the trader. As soon as he started to trade, the market stayed within a 10 pip range for an hour. This only caused frustration with the task and very little interest.

He also started out only seeking small movements in the market, which of course burnt me when it came to brokerage. As time moved on and after I told him to go for bigger moves, the average trade P/L increased (as seen in the first graph below).

All up a pretty bad trading session (spreads were way too high as well). The next trading session I will have to make sure there is volatility in the market before letting him at it. I will also be giving him remuneration for his time and when he does well for himself. I'm hoping that will help keep his interest high when times get slow and keep him trading longer.

 

[skc]

I was thinking about an analogy:

The average person loses at the casino. But you cannot make money by betting against the average person on the casino games - obviously because of the casino's inherent edge.

In trading this edge to the house is brokerage and spread. Looking the way your equity curve mirrored (as expected) but also amplified to the down side of the dummy trader's curve, you better hope your relative is a worse-than-average retail trader.

 

[Naked shorts]

In trading this edge to the house is brokerage and spread. Looking the way your equity curve mirrored (as expected) but also amplified to the down side of the dummy trader's curve, you better hope your relative is a worse-than-average retail trader.

You and white bring up very good points. If my relative was taking random entries without some kind of analysis before hand, I wouldn't expect that this would be profitable for me... I taught him technical analysis and market psychology so that he is easily sucked into the games people play.

Im going to help screw him up even more by offering him compensation for his trades that goes up in an exponential fashion. Im hoping this will make him more desperate to take trades

I would say that if my relative does 15 trades a night and aims for 15+ pips each trade... I will be profitable after brokerage. We will see very soon.

 

[Mr J]

I was thinking about an analogy:

The average person loses at the casino. But you cannot make money by betting against the average person on the casino games - obviously because of the casino's inherent edge.

Casino games can't be compared with a market. I think sportsbetting is far more suitable because it is a market. An example that would relate to this thread is the public having a bias towards betting on favourites, creating profitable fades on the underdog.

I would say that if my relative does 15 trades a night and aims for 15+ pips each trade... I will be profitable after brokerage. We will see very soon.

What is the expense of a trade in pips (just wondering what you need to overcome)?

 

[Trembling Hand]

What is the expense of a trade in pips (just wondering what you need to overcome)?

And there is where the market makers edge lies. It really is in the cost of the spread. Do 1000 trades, which is far less than most retailers get to before blowing up, and see what your results are.

Then take 4 pips for ever trade, 2 lost on entry and 2 lost on exit, that what you give to the Markemaker before you even add in skill, timing, frustration, position sizing etc. 4000 pips per 1000 trades!!!

@ $10 a pip thats ............

 

[Naked shorts]

What is the expense of a trade in pips (just wondering what you need to overcome)?

the bucketshop im using has a variable spread, so it depends on what time hes trading... 0.9 during liquid hours and 2+ during ****.. That first session he did was during ****.

 

[Mr J]

And there is where the market makers edge lies. It really is in the cost of the spread. Do 1000 trades, which is far less than most retailers get to before blowing up, and see what your results are.

Then take 4 pips for ever trade, 2 lost on entry and 2 lost on exit, that what you give to the Markemaker before you even add in skill, timing, frustration, position sizing etc. 4000 pips per 1000 trades!!!

@ $10 a pip thats ............

It's the first question I'd ask any shorterm trader. Say we risk 4 points and have to overcome 1 in spread and 0.5 in commissions - that requires a 40% return to break even . Not exactly giving ourselves the best chance of success there.

Naked Shorts, why do you think this might work? What biases do you think he'll have that make it profitable to blindly fade him?

 

[Naked shorts]

Naked Shorts, why do you think this might work? What biases do you think he'll have that make it profitable to blindly fade him?

Well he will be trading patterns in the market that he hasn't worked out win% and R:R for. Its pretty safe to say the patterns he starts out trading wont have a positive expectancy.

 

[Largesse]

can't wait to see what happens when he max sizes over a figure and gets it right

 

[white_goodman]

can't wait to see what happens when he max sizes over a figure and gets it right

end well this will not

 

[SmellyTerror]

To help make sure he sees stuff that isn't there, I will be providing him with various technical analysis tools like MACD, MA's, RSI etc etc (I will post a pic of the setup soon).

^Thanks for the belly laugh.