What’s the difference between a mechanical and discretionary trading style anyway?
A purely mechanical system requires the trader to trust a system of signals based on price based indicators to give valid entry/exit points to produce profits over the long run. Since all you have to do is wait for a valid signal and take the trade, using a mechanical system can eliminate the psychological aspect (fear and greed) out of your trading decision. While trading emotion free can be great, the downside is that there will be times when the mechanical system gives trade signals that don’t jive with the current fundamental bias or market environment.On the other hand, a purely discretionary trading approach involves taking trades based on where your own analysis of fundamentals, price action, or risk sentiment. While this type of trading takes the current market environment into account, it could to lead to inconsistent results when applied by a trader easily influenced by emotions and/or personal biases.
How can a hybrid trading approach solve all that?
Hybrid trading combines the objective trading rules of a mechanical system with discretionary decisions of the trader based on dominant market themes, current risk sentiment, price action, and recent economic events.The advantage of using a hybrid system is that the system is developed on your understanding of the market and YOUR trading personality. Ideally, the system will incorporate the indicators and parameters that you are most comfortable with and intuitively understand.
By using a hybrid system, you can choose to take the trades that make the most sense. Remember that one drawback of taking a purely mechanical system is that it cannot distinguish between changing market environments.
Let’s say that the market has been ranging lately and you get a signal to go short. However, your system is a trend-following system and you feel that if you take the signal, you are just going to get chopped up. By incorporating a hybrid system, you can use your ability to adapt to the current market conditions to override the signal, therefore enhancing your system and avoiding possible losses.
Be careful though, as this is where it can be very tricky. If one were to simply override all the trade signals without any basis (like past price action), then what would be the point of having a system at all? Always keep in mind that the subjective part of a hybrid system is meant to compliment the system’s trading rules in order to maximize profits – not to ignore it completely!
Hmm, that sounds doable. So where do I start?
As tricky as the hybrid system can be, the preparation needed is pretty simple.You can begin by keeping a record of how price reacted to news reports, different market themes, and market structures. Documenting price action might be tedious and labor-intensive at first, but with A LOT of deliberate practice, it will help you develop a knack for spotting similar setups in the future. After all, the phrase “history repeats itself” didn’t become famous for no reason.
Of course, identifying similar setups is only half the battle. Since you’re combining mechanical AND discretionary trading, you also need to practice the subjective part of your decision-making.
One good way of preparing is by asking questions like “Is market environment the same as the past setup that I recorded? What will I do if price doesn’t react the same way?” By verifying your discretion with past price action, you can increase the probability of making good trade decisions with your hybrid trading approach.
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Editors’ Picks
EUR/USD alternates gains with losses near 1.0720 post-US PCE
The bullish tone in the Greenback motivates EUR/USD to maintain its daily range in the low 1.070s in the wake of firmer-than-estimated US inflation data measured by the PCE.
GBP/USD clings to gains just above 1.2500 on US PCE
GBP/USD keeps its uptrend unchanged and navigates the area beyond 1.2500 the figure amidst slight gains in the US Dollar following the release of US inflation tracked by the PCE.
Gold keeps its daily gains near $2,350 following US inflation
Gold prices maintain their constructive bias around $2,350 after US inflation data gauged by the PCE surpassed consensus in March and US yields trade with slight losses following recent peaks.
Bitcoin Weekly Forecast: BTC’s next breakout could propel it to $80,000 Premium
Bitcoin’s recent price consolidation could be nearing its end as technical indicators and on-chain metrics suggest a potential upward breakout. However, this move would not be straightforward and could punish impatient investors.
Week ahead – Hawkish risk as Fed and NFP on tap, Eurozone data eyed too
Fed meets on Wednesday as US inflation stays elevated. Will Friday’s jobs report bring relief or more angst for the markets? Eurozone flash GDP and CPI numbers in focus for the Euro.
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